Overview

Nicholas Financial-Canada is a Canadian holding company incorporated under the laws of British Columbia in 1986. Nicholas Financial-Canada conducts its business activities through two wholly-owned Florida corporations: Nicholas Financial, which purchases and services Contracts, makes direct loans and sells consumer-finance related products; and NDS, which supports and updates certain computer application software. Nicholas Financial accounted for more than 99% of the Company's consolidated revenue for the fiscal years ended March 31, 2009, 2008 and 2007, respectively. Nicholas Financial-Canada, Nicholas Financial and Nicholas Data Services are collectively referred to herein as the "Company".

The Company's consolidated revenues increased for the fiscal year ended March 31, 2009 to $53.1 million as compared to $50.1 million and $46.7 million for the fiscal years ended March 31, 2008 and 2007, respectively. The Company's consolidated net income decreased for the fiscal year ended March 31, 2009 to $4.7 million as compared to $9.7 million and $11.6 million for the fiscal years ended March 31, 2008 and 2007, respectively. The Company's earnings were negatively impacted by an increase in the net charge-off percentage from 8.24% for the year ended March 31, 2008 to 9.93% for the year ended March 31, 2009. The Company believes the primary reason for the increase in the charge-off percentage is primarily attributable to the increase in the unemployment rate. To a lesser extent, other factors such as higher gasoline prices, adjustable rate mortgages and increases in the cost of food and other cost of living expenses has contributed to increased losses.

As discussed in note 6 "Interest Rate Swap Agreements", the Company made an economic decision which resulted in undesignating the interest rate swaps as cash flow hedges. Under accounting rules this has introduced volatility to the statement of income for changes in the fair value of interest rate swaps that historically have been captured in accumulated comprehensive income or loss in the statement of shareholders' equity. The Company intends to hold interest rate swaps through there entire term. Accordingly, over the term of each interest rate swap agreement, the unrealized gains and losses from changes in the fair value of interest rate swaps, which are now recorded in the unrealized mark-to-market loss on interest rate swaps line item of the statement of income, will net or offset to $0 and cumulatively have no impact on retained earnings.

For the fiscal year ended March 31, 2009, net earnings, excluding non-cash unrealized mark-to-market loss on interest rate swaps, decreased to $5.7 million as compared to $9.7 million and $11.6 million for the fiscal years ended March 31, 2008 and 2007, respectively. Per share diluted net earnings, excluding non-cash unrealized mark-to-market loss on interest rate swaps, decreased to $0.55 for the fiscal year ended March 31, 2009 as compared to $0.94 and $1.13 for the fiscal years ended March 31, 2008 and 2007, respectively. See reconciliations of the non-GAAP measures on the following page.

Reconciliation of Non-GAAP Financial Measures

This filing contains disclosures of non-GAAP financial measures including: net earnings, excluding non-cash unrealized mark-to-market loss on interest rate swaps and per share diluted net earnings, excluding non-cash unrealized mark-to-market loss on interest rate swaps. These measures utilize the GAAP terms "net income" and "diluted earnings per share" and adjust the GAAP terms to exclude the effect of mark to market adjustments and reclassifications of previously recorded accumulated comprehensive losses associated with interest rate swaps. Management believes this presentation provides additional and meaningful measures for the assessment of the Company's ongoing results and performance. Because the Company has historically reported mark-to-market (interest rate swaps) through other comprehensive income under hedge accounting, management believes that the inclusion of this non-GAAP measure provides consistency in its financial reporting and facilitates investors' understanding of the Company's historic operating trends by providing an additional basis for comparisons to prior periods. Management recognizes that the use of non-GAAP measures has limitations, including the fact that they may not be directly comparable with similar non-GAAP financial measures used by other companies. All non-GAAP financial measures are intended to supplement the applicable GAAP disclosures and should not be considered in isolation from, or as substitute for, financial information prepared in accordance with GAAP. For a reconciliation of non-GAAP measures from GAAP reported amounts, please see the supplemental information below.

The following tables include reconciliations of GAAP reported net income to the non-GAAP measure, net earnings, excluding non-cash unrealized mark-to-market loss on interest rate swaps as well as GAAP reported diluted earnings per share to the non-GAAP measure, per share diluted net earnings, excluding non-cash unrealized mark-to-market loss on interest rate swaps. The non-GAAP measures exclude the effect of mark-to-market adjustments and reclassifications of previously recorded accumulated comprehensive losses associated with interest rate swaps.

                                                               Fiscal Year ended March 31,
                                                                  2009               2008
Net income, GAAP                                             $     4,717,563     $  9,672,176
Mark-to-market loss of interest rate swaps, net of tax
expense of $574,157                                                  955,848               -

Net earnings, excluding non-cash unrealized
mark-to-market loss of interest rate swaps (a)               $     5,673,411     $  9,672,176


                                                               Fiscal Year ended March 31,
                                                                  2009               2008
Diluted earnings per share, GAAP                             $          0.45     $       0.94
Per diluted share mark-to-market loss of interest rate
swaps                                                        $          0.10               -

Per share diluted net earnings, excluding non-cash
unrealized mark-to-market loss of interest rate swaps
(a)                                                          $          0.55     $       0.94

(a) Represents a non-GAAP financial measure. See information on non-GAAP financial measures above.

Portfolio Summary



                                                           Fiscal Year ended March 31,
                                                  2009                2008                2007
Average finance receivables, net of
unearned interest (1)                         $ 207,402,047       $ 191,012,129       $ 172,508,750

Average indebtedness (2)                      $ 103,126,653       $  97,124,666       $  87,392,132

Finance revenue (3)                           $  53,032,438       $  50,007,510       $  46,590,436
Interest expense                                  5,384,532           6,310,465           5,535,599

Net finance revenue                           $  47,647,906       $  43,697,045       $  41,054,837

Weighted average contractual rate (4)                 24.17 %             24.32 %             23.99 %

Average cost of borrowed funds (2)                     5.22 %              6.50 %              6.33 %

Gross portfolio yield (5)                             25.57 %             26.18 %             27.01 %
Interest expense as a percentage of
average finance receivables, net of
unearned interest                                      2.60 %              3.30 %              3.21 %
Provision for credit losses as a
percentage of average finance receivables,
net of unearned interest                               7.90 %              4.05 %              2.10 %

Net portfolio yield (5)                               15.07 %             18.83 %             21.70 %
Marketing, salaries, employee benefits,
depreciation and administrative expenses
as a percentage of average finance
receivables, net of unearned interest (6)             10.57 %             10.61 %             10.81 %

Pre-tax yield as a percentage of average
finance receivables, net of unearned
interest (7)                                           4.50 %              8.22 %             10.89 %

Write-off to liquidation (8)                          12.39 %              9.08 %              6.72 %
Net charge-off percentage (9)                          9.93 %              8.24 %              6.30 %

(1) Average finance receivables, net of unearned interest, represents the average of gross finance receivables, less unearned interest throughout the period.

(2) Average indebtedness represents the average outstanding borrowings under the Line. Average cost of borrowed funds represents interest expense as a percentage of average indebtedness.

(3) Finance revenue does not include revenue generated by NDS.

(4) Weighted average contractual rate represents the weighted average annual percentage rate (APR) of all Contracts purchased and direct loans originated during the period.

(5) Gross portfolio yield represents finance revenues as a percentage of average finance receivables, net of unearned interest. Net portfolio yield represents finance revenue minus (a) interest expense and (b) the provision for credit losses as a percentage of average finance receivables, net of unearned interest.

(6) Administrative expenses included in the calculation above are net of administrative expenses associated with NDS which approximated $316,000, $172,000 and $146,000 during the fiscal years ended 2009, 2008 and 2007, respectively.

(7) Pre-tax yield represents net portfolio yield minus operating expenses as a percentage of average finance receivables, net of unearned interest.

(8) Write-off to liquidation percentage is defined as net charge-offs divided by liquidation. Liquidation is defined as beginning receivable balance plus current period purchases minus voids and refinances minus ending receivable balance.

(9) Net charge-off percentage represents net charge-offs divided by average finance receivables, net of unearned interest, outstanding during the period.

The following tables present certain information regarding the delinquency rates experienced by the Company with respect to Contracts and under its direct loan program:

                                                                             Delinquencies
                                 Gross Balance
Contracts                         Outstanding      30 - 59 days        60 - 89 days       90 + days          Total
March 31, 2009                   $  291,034,770   $    8,737,694      $    2,666,484      $  848,608      $ 12,252,786
                                                            3.00 %              0.92 %          0.29 %            4.21 %

March 31, 2008                   $  270,053,583   $    6,747,067      $    1,798,287      $  831,647      $  9,377,001
                                                            2.50 %              0.66 %          0.31 %            3.47 %

March 31, 2007                   $  247,002,051   $    4,072,821      $      921,097      $  506,433      $  5,500,351
                                                            1.65 %              0.37 %          0.21 %            2.23 %

                                 Gross Balance
Direct Loans                      Outstanding      30 - 59 days        60 - 89 days       90 + days          Total
March 31, 2009                   $    6,890,705   $      173,517      $       49,780      $   42,672      $    265,969
                                                            2.52 %              0.72 %          0.62 %            3.86 %

March 31, 2008                   $   10,161,929   $      181,244      $       51,974      $   58,065      $    291,283
                                                            1.79 %              0.51 %          0.57 %            2.87 %

March 31, 2007                   $    9,990,060   $       65,982      $       12,024      $   21,476      $     99,482
                                                            0.66 %              0.12 %          0.22 %            1.00 %

Critical Accounting Policy

The Company's critical accounting policy relates to the allowance for credit losses. It is based on management's opinion of an amount that is adequate to absorb losses in the existing portfolio. The allowance for credit losses is established through allocations of dealer discount and a provision for loss based on management's evaluation of the risk inherent in the loan portfolio, the composition of the portfolio, specific impaired loans and current economic conditions. Such evaluation, which includes a review of all loans on which full collectibility may not be reasonably assured, considers among other matters, the estimated net realizable value or the fair value of the underlying collateral, economic conditions, historical loan loss experience, management's estimate of probable credit losses and other factors that warrant recognition in providing for an adequate credit loss allowance.

Because of the nature of the customers under the Company's Contracts and its direct loan program, the Company considers the establishment of adequate reserves for credit losses to be imperative. The Company segregates its Contracts into static pools for purposes of establishing reserves for losses. All Contracts purchased by a branch during a fiscal quarter comprise a static pool. The Company pools Contracts according to branch location because the branches purchase Contracts in different geographic markets. This method of pooling by branch and quarter allows the Company to evaluate the different markets where the branches operate. The pools also allow the Company to evaluate the different levels of customer income, stability, credit history, and the types of vehicles purchased in each market. Each such static pool consists of the Contracts purchased by a branch office during the fiscal quarter.

Contracts are purchased from many different dealers and are all purchased on an individual Contract by Contract basis. Individual Contract pricing is determined by the automobile dealerships and is generally the lesser of state maximum interest rates or the maximum interest rate at which the customer will accept. In certain markets, competitive forces will drive down Contract rates from the maximum rate to a level where an individual competitor is willing to buy an individual Contract. The Company only buys Contracts on an individual basis and never purchases Contracts in batches, although the Company may consider portfolio acquisitions as part of its growth strategy.

The Company has detailed underwriting guidelines it utilizes to determine which Contracts to purchase. These guidelines are specific and are designed to cause all of the Contracts that the Company purchases to have common risk characteristics. The Company utilizes its District Managers to evaluate their respective branch locations for adherence to these underwriting guidelines. The Company also utilizes an internal audit department to assure adherence to its underwriting guidelines. The Company utilizes the branch model, which allows for Contract purchasing to be done on the branch level. Each Branch Manager may interpret the guidelines differently, and as a result, the common risk characteristics tend to be the same on an individual branch level but not necessarily compared to another branch.

A dealer discount represents the difference between the finance receivable, net of unearned interest, of a Contract, and the amount of money the Company actually pays for the Contract. The discount negotiated by the Company is a function of the credit quality of the customer and the wholesale value of the vehicle. The automotive dealer accepts these terms by executing a dealer agreement with the Company. The entire amount of discount is related to credit quality and is considered to be part of the credit loss reserve. The Company utilizes a static pool approach to track portfolio performance. A static pool retains an amount equal to 100% of the discount as a reserve for credit losses.

Subsequent to the purchase, if the reserve for credit losses is determined to be inadequate for a static pool which is not fully liquidated, then an additional charge to income through the provision is used to reestablish adequate reserves. If a static pool is fully liquidated and has any remaining reserves, the excess discounts are immediately recognized into income and the excess provision is immediately reversed during the period. For static pools not fully liquidated that are determined to have excess discounts, such excess amounts are accreted into income over the remaining life of the static pool. For static pools not fully liquidated that are deemed to have excess reserves, such excess amounts are reversed against provision for credit losses during the period.

In analyzing a static pool, the Company considers the performance of prior static pools originated by the branch office, the performance of prior Contracts purchased from the dealers whose Contracts are included in the current static pool, the credit rating of the customers under the Contracts in the static pool, and current market and economic conditions. Each static pool is analyzed monthly to determine if the loss reserves are adequate and adjustments are made if they are determined to be necessary.

Fiscal 2009 Compared to Fiscal 2008

Interest and Fee Income on Finance Receivables

Interest income on finance receivables, predominantly finance charge income, increased 6% to $53.0 million in fiscal 2009 from $50.0 million in fiscal 2008. The average finance receivables, net of unearned interest, totaled $207.4 million for the fiscal year ended March 31, 2009, an increase of 9% from $191.0 million for the fiscal year ended March 31, 2008. The primary reason average finance receivables, net of unearned interest increased was the increase in the receivable base of several existing branches and the development of two new markets in Alabama and Ohio. The gross finance receivable balance increased 6% to $297.9 million at March 31, 2009 from $280.2 million at March 31, 2008. The primary reason interest income increased was the increase in the outstanding loan portfolio. The gross portfolio yield decreased from 26.18% for the fiscal year ended March 31, 2008 to 25.57% for the fiscal year ended March 31, 2009. The net portfolio yield decreased from 18.83% for the fiscal year ended March 31, 2008 to 15.07% for the fiscal year ended March 31, 2009. The gross portfolio yield decreased due to a combination of a change to reflect interest earned on a contractual basis, as opposed to on the basis of expected yield (see discussion under "Analysis of Credit Losses" below), a decrease in accretion of discounts due to deterioration in portfolio performance, and lower weighted APR on contracts purchased during fiscal year 2009. The net portfolio yield decreased due to the above factors, net of additional provisions for credit losses required for the change in the recognition of interest and the resulting affect on credit loss provisions.

Marketing, Salaries, Employee Benefits, Depreciation, and Administrative Expenses

Marketing, salaries, employee benefits, depreciation, and administrative expenses increased to $22.2 million for the fiscal year ended March 31, 2009 from $20.4 million for the fiscal year ended March 31, 2008. This increase of 9% was primarily attributable to additional staffing at several existing branches and increased administrative expenses driven by increased repossession and collection related expenses. Operating expenses as a percentage of average finance receivables, net of unearned interest, decreased from 10.61% for the fiscal year ended March 31, 2008 to 10.57% for the fiscal year ended March 31, 2009.

Interest Expense

Interest expense decreased from $6.3 million for the fiscal year ended March 31, 2008 as compared to $5.4 million for the fiscal year ended March 31, 2009. The average indebtedness for the fiscal year ended March 31, 2009 increased to $103.1 million as compared to $97.1 million for the fiscal year ended March 31, 2008. The average cost of borrowed funds decreased from 6.50% during the fiscal year ended March 31, 2008 to 5.22% during the fiscal year ended March 31, 2009. The primary reason the Company's average cost of funds decreased is the weighted-average 30-day LIBOR rate decreased from 6.58% for the year ended March 31, 2008 as compared to 3.52% for the year ended March 31, 2009. The reduction in 30-day LIBOR rates was offset in part by the Company's interest rate swap agreements, which convert a portion of the Company's floating rate debt to fixed rate debt. For further discussions regarding the Company's cost of funds and the effect of interest rate swap agreements see note 6 - "Interest Rate Swap Agreements".

Analysis of Credit Losses

As of March 31, 2009, the Company had 939 active static pools. The average pool upon inception consisted of 62 Contracts with aggregate finance receivables, net of unearned interest, of approximately $582,000.

The following table sets forth a reconciliation of the changes in the allowance for credit losses on Contracts for the years ended March 31:

                                                2009               2008
         Balance at beginning of year       $  20,112,260      $  20,638,912
         Discounts acquired on new volume      10,227,382          9,715,284
         Current year provision                15,680,590          7,355,973
         Losses absorbed                      (22,143,156 )      (17,417,160 )
         Recoveries                             1,857,202          1,848,816
         Discounts accreted                      (808,202 )       (2,029,565 )

         Balance at end of year             $  24,926,076      $  20,112,260

The following table sets forth a reconciliation of the changes in the allowance for credit losses on direct loans for the years ended March 31:

                                                2009            2008
              Balance at beginning of year   $  335,057      $  324,688
              Current year provision            705,480         374,832
              Losses absorbed                  (590,154 )      (409,251 )
              Recoveries                         62,684          44,788

              Balance at end of year         $  513,067      $  335,057

Reserves accreted into income for the fiscal year ended March 31, 2009 were approximately $808,000 as compared to $2.0 million for the fiscal year ended March 31, 2008. Provisions reversed for the fiscal years ended March 31, 2009 and 2008 were $85,000 and $367,000, respectively. The primary reason for the decrease in reserves accreted during the fiscal year ended March 31, 2009 as compared to the fiscal year ended March 31, 2008 was an increase in the net charge-off percentage from 8.24% to 9.93%. The primary reason for reversal of provisions previously recorded was due to the charge-off performance of static pools originated from April 2005 through December 2005. These specific pools were originated, and the majority of their liquidation occurred, during more prosperous economic times. As a result, their accompanying charge-off rate was lower than those of static pools originated during subsequent years.

The average dealer discount associated with new volume for the fiscal years ended March 31, 2009 and 2008 was 9.14% and 8.32%, respectively.

The provision for credit losses increased from $7.7 million for the year ended March 31, 2008 to $16.4 million for the fiscal year ended March 31, 2009, largely due to the increase in the net charge-off rate from 8.24% for the fiscal year ended March 31, 2008 to 9.93% for the fiscal year ended March 31, 2009. The Company's losses as a percentage of liquidation increased from 9.08% for the fiscal year ended March 31, 2008 to 12.39% for the fiscal year ended March 31, 2009. The longer term outlook for portfolio performance will depend on the overall economic conditions, the unemployment rate and the Company's ability to monitor, manage and implement its underwriting philosophy in additional geographic areas as it strives to continue its expansion. The Company does not believe there have been any significant changes in loan concentrations, or the terms or quality of Contracts purchased during fiscal 2009 that would have contributed to the increase in losses.

Recoveries as a percentage of charge-offs were 9.4% and 11.9% for the fiscal years ended March 31, 2009 and 2008, respectively. The Company believes that as it continues to expand its operations, it will become more difficult to implement its loss recovery model in geographic areas further away from its Corporate headquarters, and as a result the Company will likely experience declining recovery rates over the long term. Recovery rates are also influenced by general economic conditions and, as a result, the Company experienced recovery rates for the fiscal year ended March 31, 2009 that were below historical averages.

The Company considers the following factors to assist in determining the appropriate loss reserve levels: unemployment rates; the number of bankruptcy filings; the results of internal branch audits; consumer sentiment; consumer spending; economic growth (i.e., changes in GDP); the condition of the housing sector; and other leading economic indicators. As a result of weakness in the overall economy, the Company has increased its targeted reserve levels on static pools originated since September 2006, and the Company continues to re-evaluate reserve levels on a pool by pool basis during each reporting period.

The delinquency percentage for Contracts more than thirty days past due as of March 31, 2009 increased to 4.21% from 3.47% as of March 31, 2008. The delinquency percentage for direct loans more than thirty days past due as of March 31, 2009 increased to 3.86% from 2.87% as of March 31, 2008. The Company utilizes a static pool approach to analyzing portfolio performance and looks at specific static pool performance and recent trends as leading indicators to future performance of the portfolio.

Income Taxes

The provision for income taxes decreased 53% to approximately $2.8 million in fiscal year 2009 from approximately $5.9 million in fiscal year 2008 primarily as a result of lower pretax income. The Company's effective tax rate decreased from 37.86% in fiscal 2008 to 37.53% in fiscal 2009.

Fiscal 2008 Compared to Fiscal 2007

Interest and Fee Income on Finance Receivables

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