LSBX Lsb Corp (MM)

 

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 10-Q

þ		Quarterly Report Pursuant to Section 13 or 15(d) of The Securities Exchange Act of 1934

For the quarterly period ended September 30, 2010

o		Transition Report Pursuant to Section 13 or 15(d) of The Securities Exchange Act of 1934

For the transition period from                      to                     

Commission File Number 000-32955

LSB Corporation

(Exact name of registrant as specified in its charter)

Massachusetts (State or other jurisdiction of incorporation or organization)		04-3557612 (I.R.S. Employer Identification Number)
30 Massachusetts Avenue, North Andover, MA (Address of principal executive offices)		01845 (Zip Code)

(978) 725-7500
(Registrant’s telephone number, including area code)

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such report), and (2) has been subject to such filing requirements for the past 90 days.

Yes   þ           No   o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes   o           No   o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act (check one).

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes   o           No   þ

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date.

Class		Outstanding as of November 10, 2010
Common Stock, par value $.10 per share		4,506,686 shares

 

 

LSB CORPORATION AND SUBSIDIARY

INDEX

				Page:
PART I — FINANCIAL INFORMATION
ITEM 1		FINANCIAL STATEMENTS (Unaudited)
		Consolidated Balance Sheets			3
		Consolidated Statements of Income			4
		Consolidated Statements of Changes in Stockholders’ Equity			5
		Consolidated Statements of Cash Flows			6
		Notes to Unaudited Consolidated Financial Statements			7-12
ITEM 2		MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS			12-24
ITEM 3		QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK			24
ITEM 4		CONTROLS AND PROCEDURES			25
PART II — OTHER INFORMATION
ITEM 1		LEGAL PROCEEDINGS			25
ITEM 1A		RISK FACTORS			26
ITEM 6		EXHIBITS			26-27
SIGNATURES					28
EXHIBIT INDEX					29
EX-31.1
EX-31.2
EX-32.1
EX-32.2

PART 1 — FINANCIAL INFORMATION

ITEM 1.		FINANCIAL STATEMENTS

LSB CORPORATION AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(UNAUDITED)

		September 30,				December 31,
		2010				2009
		(In thousands, except share data)
ASSETS
Assets:
Cash and due from banks		$	7,908			$	8,615
Federal funds sold			24,619				6,597
Total cash and cash equivalents			32,527				15,212
Investment securities available for sale, at fair value, amortized cost of $163,961 in 2010 and $224,130 in 2009			170,954				230,533
Federal Home Loan Bank stock, at cost			11,825				11,825
Loans, net of allowance for loan losses of $7,075 in 2010 and $7,168 in 2009			532,175				529,451
Premises and equipment			8,604				7,209
Accrued interest receivable			2,469				2,727
Deferred income tax asset, net			4,195				4,315
Bank-owned life insurance			11,466				11,120
Other real estate owned			2,432				—
Prepaid FDIC insurance			2,484				3,069
Other assets			1,221				1,137
Total assets		$	780,352			$	816,598
LIABILITIES AND STOCKHOLDERS’ EQUITY
Liabilities:
Core deposits		$	262,683			$	252,389
Retail term deposits			197,510				211,061
Brokered term deposits			14,950				29,344
Total deposits			475,143				492,794
Long-term borrowed funds			221,847				245,971
Short-term borrowed funds			7,730				7,111
Subordinated debt			6,000				6,000
Mortgagors’ escrow accounts			949				776
Other liabilities			4,673				3,426
Total liabilities			716,342				756,078
Stockholders’ equity:
Preferred stock, Series A, $.10 par value per share: 5,000,000 shares authorized, none issued			—				—
Common stock, $.10 par value per share; 20,000,000 shares authorized; 4,506,686 shares issued and outstanding at September 30, 2010 and December 31, 2009, respectively			451				451
Additional paid-in capital			60,004				60,004
Accumulated deficit			(645	)			(3,802	)
Accumulated other comprehensive income			4,200				3,867
Total stockholders’ equity			64,010				60,520
Total liabilities and stockholders’ equity		$	780,352			$	816,598

The accompanying notes are an integral part of these unaudited Consolidated Financial Statements.

LSB CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)

		Three months ended								Nine months ended
		September 30,								September 30,
		2010				2009				2010				2009
		(In thousands, except share data)
Interest and dividend income:
Loans		$	7,921			$	7,462			$	23,489			$	21,216
Investment securities available for sale			1,857				2,795				6,347				9,162
Short term investments			8				11				22				22
Total interest and dividend income			9,786				10,268				29,858				30,400
Interest expense:
Deposits			1,828				2,501				6,018				7,746
Long-term borrowed funds			2,262				2,721				7,035				8,265
Short-term borrowed funds			4				4				12				47
Subordinated debt			132				—				393				—
Total interest expense			4,226				5,226				13,458				16,058
Net interest income			5,560				5,042				16,400				14,342
Provision for loan losses			750				400				2,150				1,100
Net interest income, after provision for loan losses			4,810				4,642				14,250				13,242
Non-interest income:
Deposit account fees			249				253				710				710
Loan servicing fees, net			76				34				227				150
Gain on sales of securities, net			688				572				2,064				1,030
Income on bank-owned life insurance			116				115				346				364
Prepayment penalty on FHLB advances			—				—				(149	)			—
Other income			133				122				394				347
Total non-interest income			1,262				1,096				3,592				2,601
Non-interest expense:
Salaries and employee benefits			2,097				1,643				5,842				5,013
Occupancy and equipment			422				357				1,364				1,077
Data processing			207				228				741				702
Professional			71				113				312				450
Marketing			67				116				307				374
Other real estate owned			184				4				199				6
FDIC deposit insurance			201				262				612				1,022
Merger expense			475				—				475				—
Other			501				544				1,452				1,702
Total non-interest expense			4,225				3,267				11,304				10,346
Income before income tax expense			1,847				2,471				6,538				5,497
Income tax provision			708				910				2,254				1,911
Net income before preferred stock dividends and accretion			1,139				1,561				4,284				3,586
Preferred stock dividends and accretion			—				(215	)			—				(588	)
Net income available to common shareholders		$	1,139			$	1,346			$	4,284			$	2,998
Average basic common shares outstanding			4,506,686				4,495,356				4,506,686				4,479,316
Common stock equivalents			42,102				1,324				15,853				1,031
Average diluted common shares outstanding			4,548,788				4,496,680				4,522,539				4,480,347
Basic earnings per share		$	0.25			$	0.30			$	0.95			$	0.66
Diluted earnings per share		$	0.25			$	0.30			$	0.95			$	0.66

The accompanying notes are an integral part of these unaudited Consolidated Financial Statements.

LSB CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
FOR THE TWELVE MONTHS ENDED DECEMBER 31, 2009 AND THE
NINE MONTHS ENDED SEPTEMBER 30, 2010
(UNAUDITED)

																		Accumulated
										Additional								Other				Total
		Preferred				Common				Paid-In				Accumulated				Comprehensive				Stockholders’
		Stock				Stock				Capital				Deficit				Income				Equity
		(In thousands, except share data)
Balance at December 31, 2008		$	14,455			$	447			$	60,179			$	(6,250	)		$	3,311			$	72,142
Net income			—				—				—				5,037				—				5,037
Other comprehensive income - Unrealized gain on securities available for sale (tax effect $343)			—				—				—				—				556				556
Total comprehensive income																							5,593
Stock-based compensation			—				—				121				—				—				121
Exercise of stock options and tax benefits (28,995 shares)			—				4				264				—				—				268
Common dividends declared and paid ($0.30 per share)			—				—				—				(1,344	)			—				(1,344	)
Preferred dividends declared and paid			—				—				—				(700	)			—				(700	)
Accretion of discount on preferred stock			545				—				—				(545	)			—				—
Redemption of preferred stock			(15,000	)			—				—				—				—				(15,000	)
Repurchase of warrants issued with preferred stock			—				—				(560	)			—				—				(560	)
Balance at December 31, 2009			—				451				60,004				(3,802	)			3,867				60,520
Net income			—				—				—				4,284				—				4,284
Other comprehensive income - Unrealized gain on securities available for sale, net (tax effect $257)			—				—				—				—				333				333
Total comprehensive income																							4,617
Dividends declared and paid ($0.25 per common share)			—				—				—				(1,127	)			—				(1,127	)
Balance at September 30, 2010		$	—			$	451			$	60,004			$	(645	)		$	4,200			$	64,010

The accompanying notes are an integral part of these unaudited Consolidated Financial Statements.

LSB CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)

		Nine months ended September 30,
		2010				2009
		(In thousands)
Cash flows from operating activities:
Net income		$	4,284			$	2,998
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses			2,150				1,100
Gains on sales of securities			(2,064	)			(1,030	)
Net accretion of investment securities			(110	)			(528	)
Depreciation and amortization of premises and equipment			567				453
Decrease in accrued interest receivable			258				25
Deferred income tax (benefit) provision			(136	)			132
Stock-based compensation			—				19
Income on bank-owned life insurance			(346	)			(364	)
Decrease in other assets and prepaid FDIC Insurance			500				15
Increase in other liabilities			1,247				719
Net cash provided by operating activities			6,350				3,539
Cash flows from investing activities:
Proceeds from maturities of investment securities available for sale			23,279				20,367
Proceeds from sales of investment securities available for sale			42,254				19,348
Purchases of investment securities available for sale			(44,943	)			(74,902	)
Principal payments of investment securities available for sale			41,753				64,167
Loan originations, net of principal payments			(7,603	)			(59,333	)
Loans purchased			—				(6,837	)
Proceeds from sales of other real estate owned			297				—
Purchases of premises and equipment			(1,962	)			(1,378	)
Net cash provided by (used in) investing activities			53,075				(38,568	)
Cash flows from financing activities:
Net (decrease) increase in deposits			(17,651	)			62,688
Additions to long-term borrowed funds			9,000				—
Payments on long-term borrowed funds			(33,124	)			(10,117	)
Net increase (decrease) in short-term borrowed funds			619				(11,558	)
Increase in mortgagors’ escrow accounts			173				267
Dividends paid to preferred shareholders			—				(507	)
Dividends paid to common shareholders			(1,127	)			(1,119	)
Proceeds from exercise of stock options			—				265
Net cash (used in) provided by financing activities			(42,110	)			39,919
Net increase in cash and cash equivalents			17,315				4,890
Cash and cash equivalents, beginning of period			15,212				13,328
Cash and cash equivalents, end of period		$	32,527			$	18,218
Cash paid during the period for:
Interest on deposits		$	6,041			$	7,758
Interest on borrowed funds			7,562				8,399
Income taxes paid			1,608				1,791
Supplemental non cash investing and financing activities:
Transfers to other real estate owned		$	2,729				—

The accompanying notes are an integral part of these unaudited Consolidated Financial Statements.

LSB CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2010
(UNAUDITED)

1. BASIS OF PRESENTATION AND PENDING MERGER

LSB Corporation (the “Corporation” or the “Company”) is a Massachusetts corporation and the holding company of its wholly-owned subsidiary River Bank (the “Bank”), a state-chartered Massachusetts savings bank organized in 1868. The Corporation was organized by the Bank on July 1, 2001 to be a bank holding company and to acquire all of the capital stock of the Bank.

On July 15, 2010, the Company entered into an Agreement and Plan of Merger with People’s United Financial, Inc. to acquire the Company in an all-cash transaction valued at $21.00 per share or approximately $96 million.

The completion of the merger is subject to customary conditions, including the approval of the shareholders of LSB Corporation and the receipt of regulatory approvals. The shareholders of LSB approved the Agreement and Plan of Merger at a special meeting of shareholders held on October 27, 2010. Assuming satisfaction of all of the remaining conditions to closing, including the receipt of regulatory approvals, completion of the merger is expected to occur in the fourth quarter of 2010.

The Corporation is supervised by the Board of Governors of the Federal Reserve System (“FRB”), and it is also subject to the jurisdiction of the Massachusetts Division of Banks, while the Bank is subject to the regulations of, and periodic examination by, the Federal Deposit Insurance Corporation (“FDIC”) and the Massachusetts Division of Banks. The Bank’s deposits are currently insured by the Deposit Insurance Fund of the FDIC up to $250,000 per depositor, as defined by the FDIC. On July 21, 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act was signed into law which made permanent the current standard maximum deposit insurance amount of $250,000. The FDIC coverage limit applies per depositor, per insured depository institution, for each account ownership category. The Depositors Insurance Fund (“DIF”) of Massachusetts, a private industry-sponsored insurer, insures the Bank’s customer deposit amounts in excess of FDIC insurance limits.

The Consolidated Financial Statements include the accounts of LSB Corporation and its wholly-owned consolidated subsidiary, River Bank, and the Bank’s wholly-owned subsidiaries, Shawsheen Security Corporation, Shawsheen Security Corporation II, and Spruce Wood Realty Trust. All inter-company balances and transactions have been eliminated in consolidation. The Company has one reportable operating segment. In the opinion of management, the accompanying Consolidated Financial Statements reflect all necessary adjustments consisting of normal recurring adjustments for fair presentation. Certain amounts in prior periods may be re-classified to conform to the current presentation.

The Corporation’s Consolidated Financial Statements have been prepared in conformity with accounting principles generally accepted in the United States of America. Accordingly, management is required to make estimates and assumptions that affect amounts reported in the balance sheets and statements of income. Actual results could differ significantly from those estimates and judgments. Material estimates that are particularly susceptible to change relate to the allowance for loan losses, income taxes and impairment of investment securities.

The interim results of consolidated income are not necessarily indicative of the results for any future interim period or for the entire year. These interim Consolidated Financial Statements do not include all disclosures associated with annual financial statements and, accordingly, should be read in conjunction with the annual Consolidated Financial Statements and accompanying notes included in the Company’s Annual Report on Form 10-K as of and for the year ended December 31, 2009 filed with the Securities and Exchange Commission.

2. INVESTMENTS

The following table reflects the components and carrying values of the investment securities portfolio at September 30, 2010 and December 31, 2009:

		9/30/10																12/31/09
		Amortized				Unrealized								Fair				Amortized				Unrealized								Fair
		Cost				Gains				Losses				Value				Cost				Gains				Losses				Value
																		(In thousands)
Debt securities:
U.S. Treasury obligations		$	5,544			$	366			$	—			$	5,910			$	5,557			$	237			$	—			$	5,794
Government-sponsored enterprise obligations (1)			38,329				353				(1	)			38,681				33,379				188				(49	)			33,518
Residentialmortgage-backed:
U.S. government guaranteed			11,270				611				—				11,881				16,037				483				—				16,520
Government-sponsored enterprises			76,313				4,805				—				81,118				118,537				5,543				(71	)			124,009
Residential collateralized mortgage obligations:
U.S. government guaranteed			23,106				764				—				23,870				21,965				94				(80	)			21,979
Government-sponsored enterprises			5,942				86				—				6,028				21,283				389				—				21,672
Private-label			—				—				—				—				1,415				93				—				1,508
Corporate obligations			—				—				—				—				2,489				—				(111	)			2,378
Total debt securities			160,504				6,985				(1	)			167,488				220,662				7,027				(311	)			227,378
Equity securities:
Mutual funds			1,000				—				(1	)			999				1,000				—				(34	)			966
Equity securities			2,457				10				—				2,467				2,468				—				(279	)			2,189
Total equity securities			3,457				10				(1	)			3,466				3,468				—				(313	)			3,155
Total investment securities		$	163,961			$	6,995			$	(2	)		$	170,954			$	224,130			$	7,027			$	(624	)		$	230,533

The net unrealized gains on securities available for sale at September 30, 2010 totaled $7.0 million, or $4.2 million net of taxes. One preferred equity security was on the Bank’s securities watch list due to its credit rating by external, independent rating agencies and has since recovered all of the unrealized losses during 2010 due to the improved outlook of the issuer. The gross unrealized losses resulted from changes in interest rates and are not material as of September 30, 2010.

The following table shows the gross unrealized losses and fair value of the Company’s investments with unrealized losses that are not deemed to be other-than-temporarily impaired, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at September 30, 2010.

		Less Than 12 Months								12 Months or Longer								Total
						Unrealized								Unrealized								Unrealized
		Fair Value				Losses				Fair Value				Losses				Fair Value				Losses
										(In thousands)
Debt securities:
Government-sponsored enterprises		$	4,008			$	(1	)		$	—			$	—			$	4,008			$	(1	)
Total debt securities			4,008				(1	)			—				—				4,008				(1	)
Equity securities:
Mutual funds			—				—				999				(1	)			999				(1	)
Total equity securities			—				—				999				(1	)			999				(1	)
Total temporarily impaired securities		$	4,008			$	(1	)		$	999			$	(1	)		$	5,007			$	(2	)

The Company realized gross gains of $2.1 million and gross losses of $5,000 on the sale of $42.3 million of investments available for sale in the first nine months of 2010.

The following table is a summary of the contractual maturities of debt securities available for sale at September 30, 2010. Mortgage-backed securities and collateralized mortgage obligations are shown at their final contractual maturity date but are expected to have shorter average lives.

		Amortized Cost				Fair Value
		(In thousands)
Debt securities:
Within 1 year		$	499			$	500
After 1 year through 5 years			46,241				47,078
After 5 years through 10 years			16,733				17,201
After 10 years			97,031				102,709
Total debt securities		$	160,504			$	167,488

Investment securities pledged as collateral for customer repurchase and wholesale repurchase agreements at September 30, 2010 totaled $8.5 million and $47.2 million, respectively.

3. CONTINGENCIES

George Assad, Jr. and William S. Madden, both alleged stockholders of the Company, each filed putative class action lawsuits on July 27, 2010 and August 20, 2010, respectively, allegedly on behalf of all Company stockholders. The lawsuits were filed in the Massachusetts Superior Court, Essex County, against the Company, River Bank, the Company’s board of Directors, People’s United Financial, Inc. (“People’s United”), People’s United Bank, a wholly-owned subsidiary of People’s United, and Bridgeport Merger Corporation, a wholly-owned subsidiary of People’s United. The case filed by Mr. Assad is captioned George Assad, Jr. v. LSB Corporation et al. , Civ. A. No. 2010-1616. The case filed by Mr. Madden is captioned William S. Madden v. LSB Corporation et al., Civ. A. No. 2010-1702. Mr. Assad and Mr. Madden both filed amended complaints on August 27, 2010. The complaints generally allege that the Company’s board of directors breached its fiduciary duties by approving the agreement and plan of merger, dated as of July 15, 2010, by and among the Company, River Bank, People’s United, People’s United Bank and Bridgeport Merger Corporation, because, plaintiffs allege, the proposed merger would deny Company stockholders the right to share proportionately in the value of the Company’s ongoing business and future growth, the merger consideration of $21.00 per share is inadequate, the merger agreement’s termination fee and no solicitation provisions discourage bids from other sources and the transaction unfairly benefits the Company’s board of directors and chief executive officer to the disadvantage of its stockholders. The amended complaints further allege that the proxy statement sent to the Company’s stockholders and filed with the Securities and Exchange Commission is deficient in that it fails to disclose all of the underlying methodologies, projections, key inputs and multiples relied upon and observed by Sandler O’Neill. The amended complaints also allege that People’s United, People’s United Bank and Bridgeport Merger Corporation aided and abetted our Board’s breach of fiduciary duties. The complaints seek an order preliminarily and permanently enjoining the defendants from consummating, or closing the merger; in the event that the merger is consummated, an order rescinding it and setting it aside or awarding rescissory damages; an accounting; and attorneys fees and costs. The cases were subsequently consolidated and transferred to the Business Litigation Section of the Massachusetts Superior Court sitting in Suffolk County. The consolidated case is captioned George Assad, Jr. v. LSB Corporation et al. , Suffolk Civil Action No. 2010-3626-BLS2. The Company believes that the allegations in the complaint are without merit and intends to vigorously defend this action. On October 22, 2010, the Superior Court denied the plaintiffs motion for preliminary injunction to prevent, pending additional disclosure, the shareholder vote scheduled for October 27, 2010, stating that “overall, the Court concludes that the plaintiffs have not established a likelihood of success on the merits of their claim of inadequate disclosure.”

4. FAIR VALUES OF ASSETS AND LIABILITIES

The Company uses fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. The fair value of a financial instrument is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Company’s various financial instruments. In cases where quoted market prices are not

available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument.

The estimated fair values of the Company’s financial instruments at September 30, 2010 and December 31, 2009, follow:

		September 30, 2010								December 31, 2009
		Carrying				Fair				Carrying				Fair
		Value				Value				Value				Value
						(In thousands)
Financial assets:
Cash and due from banks		$	7,908			$	7,908			$	8,615			$	8,615
Federal Funds sold			24,619				24,619				6,597				6,597
Investment securities available for sale			170,954				170,954				230,533				230,533
Federal Home Loan Bank stock			11,825				11,825				11,825				11,825
Accrued interest receivable			2,469				2,469				2,727				2,727
Loans, net			532,175				545,924				529,451				526,087
Financial liabilities:
Core deposits			262,683				262,683				252,389				252,389
Certificates of deposit			212,460				218,004				240,405				244,002
Borrowed funds			235,577				261,108				259,082				272,320
Mortgagors’ escrow accounts			949				949				776				776
Accrued interest payable			841				841				987				987

The fair values for cash and short-term investments approximate their carrying amounts because of the short-term nature of the assets. The securities measured at fair value in Level 1 are based on quoted market prices in an active exchange market. These securities include marketable equity securities and U.S. Treasury obligations. Securities measured at fair value in Level 2 are based on pricing models from an independent pricing service that consider standard input factors such as observable market data, benchmark yields, interest rate volatilities, broker/dealer quotes, credit spreads and new issue data. The Company did not make any changes to the input factors used by the external pricing service. These securities include government-sponsored enterprise obligations, mortgage-backed securities, collateralized mortgage obligations and corporate obligations. Securities measured at fair value in Level 3 include non-marketable equity securities that are carried at par value based on the redemptive provisions of the issuers. The fair value of stock in the Federal Home Loan Bank of Boston is based upon the redemption value of the stock which equates to its carrying value. Loans are estimated by discounting contractual cash flows adjusted for prepayment estimates and using discount rates approximately equal to current market rates on loans with similar characteristics and maturities. The incremental credit risk for non-performing loans has been considered in the determination of the fair value of the loans. The fair values of demand deposit accounts, NOW accounts, savings accounts and money market accounts are equal to their respective carrying amounts because they are equal to the amounts payable on demand at the reporting date. Certificates of deposit, Federal Home Loan Bank advances, and wholesale repurchase agreements are estimated using discounted value of contractual cash flows. The discount rates used are representative of approximate market rates currently offered on instruments with similar remaining maturities. The fair values of short-term borrowed funds, accrued interest receivable, mortgagors’ escrow accounts and accrued interest payable approximate their carrying amounts because of the short-term nature of the liabilities. The majority of the Company’s commitments for unused lines and outstanding standby letters of credit and unadvanced portions of loans are at floating rates and, therefore, there is no fair value adjustment.

Assets measured at fair value on a recurring basis at September 30, 2010 and December 31, 2009, are summarized below. There are no liabilities measured at fair value on a recurring basis. The Company had no transfers into or out of Levels 1, 2 or 3 during the nine months ended September 30, 2010.

2010		Level 1				Level 2				Level 3				Fair Value
						(In thousands)
Investment securities available for sale:
U.S. Treasury obligations		$	5,910			$	—			$	—			$	5,910
All other debt securities			—				161,578				—				161,578
Equity securities			2,049				1,001				416				3,466
Total recurring assets		$	7,959			$	162,579			$	416			$	170,954

2009		Level 1				Level 2				Level 3				Fair Value
						(In thousands)
Investment securities available for sale:
U.S. Treasury obligations		$	5,794			$	—			$	—			$	5,794
All other debt securities			—				221,584				—				221,584
Equity securities			1,760				970				425				3,155
Total recurring assets		$	7,554			$	222,554			$	425			$	230,533

There was a minimal change in Level 3 assets measured at fair value on a recurring basis for the nine months ended September 30, 2010 and the year ended December 31, 2009. The investments carried under Level 3 assumptions are carried at par value since all redemptions have been made at par value and represent non-marketable securities.

The Company may also be required, from time to time, to measure certain other assets or liabilities on a non-recurring basis in accordance with generally accepted accounting principles. Asset adjustments to fair value usually result from application of lower-of-cost-or-market accounting or write-downs of individual assets. There are no liabilities measured at fair value on a non-recurring basis at September 30, 2010 or December 31, 2009. The following table summarizes the fair value hierarchy used to determine each adjustment and the carrying value of the assets measured at fair value on a non-recurring basis as of September 30, 2010 and December 31, 2009. The losses represent the amount of losses recorded during 2010 on the assets held at September 30, 2010 and during 2009 on the assets held at December 31, 2009.

														Three months ended				Nine months ended
														September 30, 2010				September 30, 2010
2010		Level 1				Level 2				Level 3				Total Losses				Total Losses
										(In thousands)
Impaired loans		$	—			$	—			$	2,513			$	122			$	398
Other real estate owned		$	—			$	—			$	2,432			$	613			$	1,138
																		Year ended
																		December 31, 2009
2009		Level 1				Level 2				Level 3								Total Losses
		(In thousands)
Impaired loans		$	—			$	—			$	2,781				—			$	415

Losses applicable to impaired loans that are collateral dependent are based on the appraised value of the underlying collateral, discounted as necessary due to management’s estimates of changes in market conditions. The factors used to determine the fair value of such collateral include selling prices of similar properties, expected future cash flows of the subject property and other economic factors. These losses are recorded as a component in determining the overall adequacy of the allowance for loan losses. Adjustments to the estimated fair value of impaired loans may result in increases or decreases to the provision for loan losses.

5. RECENT ACCOUNTING PRONOUNCEMENTS

In June 2009, the Financial Accounting Standards Board (FASB) amended its guidance surrounding the accounting for transfers and servicing of financial assets and extinguishments of liabilities and will now require more information about transfers of financial assets, including securitization transactions, where entities have continuing exposure to the risks related to transferred financial assets. This guidance eliminates the concept of a “qualifying

special-purpose entity,” changes the requirements for derecognizing financial assets, and requires additional disclosures. The Company adopted this new guidance on January 1, 2010, as required, and it did not have a material impact on the Company’s Consolidated Financial Statements.

In June 2009, the FASB amended its guidance on the consolidation of variable interest entities and changed how a reporting entity determines when an entity that is insufficiently capitalized or is not controlled through voting (or similar rights) should be consolidated. The determination of whether a reporting entity is required to consolidate another entity is based on, among other things, the other entity’s purpose and design and the reporting entity’s ability to direct the activities of the other entity that most significantly impact the other entity’s economic performance. The Company adopted this new guidance on January 1, 2010, as required, and it did not have a material impact on the Company’s Consolidated Financial Statements.

In September 2009, the FASB amended its guidance on fair value measurements and disclosures relating to investments in certain entities that calculate net asset value per share (or its equivalent). This guidance permits a reporting entity to measure the fair value of certain investments on the basis of the net asset value per share of the investment (or its equivalent). This guidance also requires new disclosures, by major category of investments, about the attributes of investments within the scope of this guidance. The Company adopted this new guidance on January 1, 2010, as required, and it did not have a material impact on the Company’s Consolidated Financial Statements.

In January 2010, the FASB amended its guidance on fair value measurements and disclosures. These changes increase the disclosures about purchases, sales, issuances, and settlements in the roll forward of activity in Level 3 fair value measurements.

In July 2010, the FASB issued an Accounting Standards Update, Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses. The objective of this Update is for an entity to provide disclosures that facilitate financial statement users’ evaluation of (1) the nature of credit risk inherent in the entity’s portfolio of financing receivables (2) how that risk is analyzed and assessed in arriving at the allowance for credit losses (3) the changes and reasons for those changes in the allowance for credit losses. For public entities, the disclosures as of the end of a reporting period are effective for interim and annual reporting periods ending on or after December 15, 2010 and the disclosures about activity that occurs during a reporting period are effective for interim and annual reporting periods beginning on or after December 15, 2010. This update will significantly expand the Company’s relevant disclosures in the Company’s Consolidated Financial Statements.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

FORWARD-LOOKING STATEMENTS

In this report, the Company has made forward-looking statements (within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities and Exchange Act of 1934 as amended) that are subject to risks and uncertainties. Such forward-looking statements are expressions of management’s expectations as of the date of this report regarding future events or trends which do not relate to historical matters. Such expectations may or may not be realized, depending on a number of variable factors, including, but not limited to, changes in interest rates, general economic conditions, including real estate conditions in the Bank’s lending areas, regulatory considerations, competition and consummation of the merger with People’s United Financial, Inc. For more information about these factors, please see our 2009 Annual Report on Form 10-K on file with the SEC, including the sections entitled “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the section entitled “Risk Factors” in our Quarterly Report on Form 10-Q for the quarter ended June 30, 2010 on file with the SEC. As a result of such risk factors and uncertainties, among others, the Company’s actual results may differ materially from such forward-looking statements. The Company does not undertake and specifically disclaims any obligation to publicly release updates or revisions to any such forward-looking statements as a result of new information, future events or otherwise.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The Company has not changed its significant accounting and reporting policies from those disclosed in its 2009 Annual Report on Form 10-K. In applying these accounting policies, management is required to exercise judgment in determining many of the methodologies, assumptions and estimates to be utilized. As discussed in the

Company’s 2009 Annual Report on Form 10-K, the three most significant areas in which management applies critical assumptions and estimates that are particularly susceptible to change relate to the determination of the allowance for loan losses, income taxes and impairment of the investment portfolio. Management’s estimates and assumptions affect the reported amounts of assets and liabilities as of the balance sheet date and revenues and expenses for the period. Actual results could differ from the amount derived from management’s estimates and assumptions under different conditions.

EXECUTIVE LEVEL OVERVIEW

The Company recorded third quarter 2010 net income available to common shareholders of $1.1 million, or $0.25 per diluted common share, compared to $1.3 million, or $0.30 per diluted common share, for the third quarter of 2009. The largest factors affecting the quarterly results were the $518,000 improvement in net interest income, the increase in the provision for loan losses totaling $750,000 and $400,000 in the third quarter of 2010 versus 2009, merger expenses of $475,000 incurred in 2010 relating to our pending acquisition by People’s United partially offset by gains on sales of investments totaling $688,000 and $572,000 in the third quarter of 2010 and 2009, respectively, as well as the preferred stock dividend and accretion of $215,000 in the third quarter of 2009.

On July 15, 2010, the Company entered into an Agreement and Plan of Merger with People’s United Financial, Inc. to acquire the Company in an all-cash transaction valued at $21.00 per share or approximately $96 million. The completion of the merger is subject to customary conditions, including the approval of the shareholders of LSB Corporation and the receipt of regulatory approvals. The shareholders of LSB approved the Agreement and Plan of Merger at a special meeting of shareholders held on October 27, 2010. Assuming satisfaction of the remaining conditions to closing, including the receipt of regulatory approvals, completion of the merger is expected to occur in the fourth quarter of 2010.

The Company’s financial results are dependent on the following areas of the income statement: net interest income, provision for loan losses, non-interest income, non-interest expense and provision for income taxes. Net interest income is the Company’s most significant source of revenue and is the main focus of management. Net interest income is the difference between interest earned on loans and investment securities and interest paid on deposits and borrowings. Management’s efforts in this area are to increase the corporate loan portfolio, which includes construction, commercial real estate and commercial loans, and the residential loan portfolio. Management’s efforts for funding are to increase core deposit accounts, which are lower interest-bearing accounts and include savings and money market accounts, and demand deposit accounts. Deposits and borrowings typically have short durations and the costs of these funds do not necessarily rise and fall concurrently with earnings from loans and investment securities. There are many risks involved in managing net interest income including, but not limited to, credit risk, interest rate risk and duration risk. These risks have a direct impact on the level of net interest income. The Company manages these risks through its internal credit and underwriting function and reviews these risks at meetings of the Asset and Liability Management Committee (“ALCO”) on a regular basis. The credit review process reviews loans for underwriting and grading of loan quality while ALCO reviews the liquidity, interest rate risk, duration risk and allocation of capital resources. Loan quality has a direct impact on the amount of provisions for loan losses the Company reports.

Non-interest income includes gains and losses on sales of investment securities, various fees and increases in the cash surrender value of the Company’s investment in Bank-Owned Life Insurance (“BOLI”). Customers’ loan and deposit accounts generate various amounts of fee income depending on the product selected. The Company receives fee income from servicing loans that were sold in previous periods. Non-interest income is primarily impacted by the volume of customer transactions, which could change in response to changes in interest rates, pricing and competition as well as securities gains or losses.

Non-interest expenses include salaries and employee benefits, occupancy and equipment, professional, data processing and other expenses of the Company, which generally are directly related to business volume and are controlled by a budget process.

Income tax expense is directly related to earnings of the Company. Changes in the statutory tax rates and the earnings of the Company, the Bank and its subsidiaries, as well as the mix of earnings among the different entities, would also affect the amount of income tax expense reported and the overall effective income tax rate recorded.

The Company believes that the most significant challenge in the current interest rate environment is to increase net interest income while also maintaining competitive deposit rates. The Company’s net interest income for the nine months ended September 30, 2010 was $16.4 million, a 14.3% increase from $14.3 million for the comparable period in 2009, primarily due to sustained loan growth. The results from the Company’s continued emphasis on increasing loan originations instead of purchasing lower-yielding investment securities favorably affected net interest income during the nine months ended September 30, 2010.

FINANCIAL CONDITION

SUMMARY

The Company maintains its commitment to servicing the banking needs of the local community in the Merrimack Valley area of northeastern Massachusetts and southern New Hampshire. The Company had total assets of $780.4 million at September 30, 2010, compared to $816.6 million at December 31, 2009. The decrease in asset size at September 30, 2010 from December 31, 2009 reflected a measured effort to reduce wholesale funding. The Company experienced local loan growth of $2.6 million, or 0.5%, from December 31, 2009.

Investments:

The investment securities portfolio totaled $171.0 million, or 21.9% of total assets, at September 30, 2010, a decrease of $59.6 million, or 25.8%, compared to $230.5 million, or 28.2% of total assets at December 31, 2009.

During the first nine months of 2010, the Bank experienced cash inflows of $41.8 million from principal payments and prepayments of investments, $23.3 million in calls and maturities, as well as $42.3 million in proceeds from sales of investments. The funds were reinvested in investment securities purchases totaling $44.9 million, funded new loan originations and paid down maturing FHLBB advances. These purchases were primarily for use as collateral for wholesale repurchase agreements, FHLBB short-term and long-term advances and customer repurchase agreements. The Company intends to utilize future principal paydowns and maturities from the investment portfolio to fund future loan growth.

Loans:

Total loans increased $2.6 million to $539.3 million and represented 69.1% of total assets at September 30, 2010, versus $536.6 million and 65.7% of total assets, respectively, at December 31, 2009. Retail loans, comprised primarily of residential mortgage loans, increased $5.0 million while corporate loans, comprised mainly of construction and commercial real estate loans, increased $2.4 million during the same period. The increase is due to loan growth experienced in the commercial business, commercial real estate and residential loan categories and reflects the continued strategic preference toward loan originations rather than investment security purchases. There has been continued demand from the Bank’s existing borrowers which is reflected in the commercial business loans. During the first nine months of 2010, construction loans decreased $9.8 million due to sales of the underlying collateral in the portfolio and the transfer of $2.7 million primarily from construction loans to OREO.

The following table reflects the loan portfolio at September 30, 2010 and December 31, 2009:

		9/30/10				12/31/09
		(In thousands)
Residential real estate		$	134,918			$	131,441
Home equity lines and second mortgages			28,493				27,003
Consumer			733				657
Retail loans			164,144				159,101
Construction and land development			52,923				62,772
Commercial real estate			283,488				282,716
Commercial business			38,695				32030
Corporate loans			375,106				377,518
Total loans			539,250				536,619
Allowance for loan losses			(7,075	)			(7,168	)
Net loans		$	532,175			$	529,451

Allowance For Loan Losses:

The following table summarizes changes in the allowance for loan losses for the three and nine months ended September 30, 2010 and 2009:

		Three months ended								Nine months ended
		9/30/10				9/30/09				9/30/10				9/30/09
						(Dollars in thousands)
Beginning balance		$	7,467			$	6,399			$	7,168			$	5,885
Provision for loan losses			750				400				2,150				1,100
Recoveries on loans previously charged-off			46				1				51				3
Loans charged-off			(1,188	)			(164	)			(2,294	)			(352	)
Ending balance		$	7,075			$	6,636			$	7,075			$	6,636
Ratios:
Annualized net charge-offs to average loans outstanding			0.84	%			0.13	%			0.55	%			0.10	%
Allowance for loan losses to total loans at end of period			1.31	%			1.28	%			1.31	%			1.28	%

The allowance for loan losses totaled $7.1 million at September 30, 2010 compared to $7.2 million and $6.6 million, respectively, at December 31, 2009 and September 30, 2009. The coverage of the allowance for loan losses decreased slightly to 1.31% at September 30, 2010 from 1.34% at December 31, 2009 and increased from 1.28% at September 30, 2009. The Company recorded charge-offs of $1.3 million in the first nine months of 2010 on one commercial construction loan that was foreclosed in July 2010 and the remaining balance of $1.0 million was transferred into other real estate owned (“OREO”) at that time. The Company believes that asset quality remains high, as evidenced by the relatively low levels of non-performing and delinquent loans as a percentage of total loans and OREO or total assets as defined below. See “Risk Assets” below. The higher level of loan charge-offs offset by the low levels of delinquent loans and sustained asset quality of the loan portfolio contributed to the assessment of the allowance for loan losses and resulted in the decrease in the allowance for loan loss coverage as a percentage of total loans from December 31, 2009 to September 30, 2010. The Company has not engaged in any subprime lending, which it views as one-to-four-family residential loans to a borrower with a credit score below 620 on a scale that ranges from 300 to 850.

The Company considers the current level of the allowance for loan losses to be appropriate and adequate. The amount of the allowance for loan losses reflects management’s assessment of estimated credit quality and is based on a review of the risk characteristics of the loan portfolio. The Company considers many factors in determining the adequacy of the allowance for loan losses. Collateral values on a loan by loan basis, trends of loan delinquencies on a portfolio segment level, risk classification identified in the Company’s regular review of individual loans, and economic conditions are primary factors in establishing allowance levels. Management believes the allowance level is adequate to absorb the estimated credit losses inherent in the loan portfolio.

Risk Assets:

Risk assets consist of non-performing loans and OREO. Non-performing loans consist of both loans that are 90 days or more past due and loans that are placed on non-accrual because full collection of the principal balance and interest is in doubt. OREO is comprised of foreclosed properties where the Company has formally received title or has possession of the collateral and is carried at the estimated fair value of the property, less selling costs.

Total risk assets were $6.7 million at September 30, 2010, compared to $6.0 million at December 31, 2009 and $3.7 million as of September 30, 2009. As evidenced by the table below, the economy has had an impact on the level of non-performing loans and on residential and commercial real estate non-performing loans in particular. The Bank expects the commercial business non-performing loans totaling $437,000 will be partially protected by a guaranty by the SBA in the amount of $387,000.

Impaired loans consist of commercial and commercial real estate loans and individually significant residential mortgage loans for which management believes it is probable that the Company will not be able to collect all

amounts due according to the contractual terms of the loan agreement. Impaired loans totaled $8.5 million and $7.3 million at September 30, 2010 and December 31, 2009, respectively, with specific reserves of $117,000 and $415,000, respectively. Of the $8.5 million in impaired loans, $1.6 million represent modifications on residential, owner-occupied properties at September 30, 2010. Additionally, one construction loan for residential condominiums with a balance of $1.3 million and four commercial rentals from the same project with an aggregate balance of $1.3 million were modified at a lower interest rate as the project experienced a slow down in sales activity during the winter months of 2009. This construction loan and related rental units totaled $2.6 million at September 30, 2010, down from a combined balance of $4.9 million in December 2009 and $4.1 million as of June 30, 2010, are included in the accruing loan portfolio. The Company does not have collateral concerns and the loans remained current on their respective payment status. The remaining impaired loans are reported as nonaccrual loans in the table below in their respective loan category. All of the impaired loans at September 30, 2010, have been measured using either the fair value of the collateral method or the estimated cash flow method. The Company had impaired loans totaling $4.6 million at September 30, 2009, with specific reserves of $50,000.

The following table summarizes the Company’s risk assets at September 30, 2010, December 31, 2009 and September 30, 2009:

		9/30/10				12/31/09				9/30/09
		(Dollars in thousands)
Non-performing loans:
Residential real estate		$	1,247			$	1,211			$	986
Construction and land development			285				2,527				350
Commercial real estate			2,285				1,528				1,478
Commercial business			437				683				668
Equity			39				54				66
Total non-performing loans			4,293				6,003				3,548
Other real estate owned			2,432				—				120
Total risk assets		$	6,725			$	6,003			$	3,668
Restructured loans — accruing		$	5,385			$	2,634			$	2,089
Risk assets as a percent of total loans and OREO			1.24	%			1.12	%			0.71	%
Risk assets as a percent of total assets			0.86	%			0.74	%			0.45	%

Deposits:

Deposits decreased by $17.7 million during the first nine months of 2010 to $475.1 million at September 30, 2010, from $492.8 million at December 31, 2009. Core deposits, consisting of NOW accounts, demand deposit accounts, savings accounts and money market accounts, increased $10.3 million, or 4.1%, amounting to $262.7 million at September 30, 2010, compared to $252.4 million at December 31, 2009. Savings accounts experienced an increase of $10.3 million from December 31, 2009, to $101.0 million at September 30, 2010, primarily due to higher-rate promotional accounts. NOW and demand deposit accounts increased $4.3 million and $4.1 million, respectively, from December 31, 2009, to $25.0 million and $38.5 million, respectively, at September 30, 2010. Money market accounts decreased $8.5 million to $98.2 million at September 30, 2010. Term deposits, comprised of brokered and retail certificates of deposit, decreased $27.9 million, or 11.6%, totaling $212.5 million at September 30, 2010, versus $240.4 million at December 31, 2009. Retail certificates of deposit decreased $13.6 million to $197.5 million at September 30, 2010, while brokered certificates of deposit decreased $14.4 million to $15.0 million at September 30, 2010. The decrease in brokered deposits reflects maturities of $14.4 million.

Due to the recent turmoil in the financial markets, the Bank has seen an inflow of core deposits as evidenced by the 4.1% growth in core deposits during the first nine months of 2010. However, the Company continues to face strong competition for deposits which will impact the rate of growth of deposits for the foreseeable future.

The following table reflects the components of the deposit portfolio at September 30, 2010 and December 31, 2009:

		9/30/10				12/31/09
		(In thousands)
NOW accounts		$	24,995			$	20,739
Demand deposit accounts			38,516				34,368
Savings accounts			100,984				90,642
Money market accounts			98,188				106,640
Core deposits			262,683				252,389
Brokered certificates of deposit			14,950				29,344
Retail certificates of deposit			197,510				211,061
Term deposits			212,460				240,405
Total deposits		$	475,143			$	492,794

Borrowed Funds:

Borrowed funds consist of long-term Federal Home Loan Bank of Boston (FHLBB) advances, securities sold under agreements to repurchase and subordinated debt. Total borrowed funds amounted to $235.6 million at September 30, 2010, compared to $259.1 million at December 31, 2009, a decrease of $23.5 million or 9.1%. Short-term borrowings increased $619,000 from December 31, 2009, while long-term FHLBB borrowed funds decreased $24.1 million due to maturing advances totaling $28.0 million and $5.0 million in prepayments. Wholesale repurchase agreements remained stable at $40.0 million at both September 30, 2010 and December 31, 2009. In October 2009, the Bank entered into a subordinated debt agreement for $6.0 million on an unsecured basis with a final maturity in October 2016. The subordinated agreement calls for a fixed interest rate of 8.5% and equal annual principal payments of $1.2 million commencing on the third anniversary of the agreement. The entire amount of the subordinated debt was included as part of the Bank’s Tier 2 capital for regulatory purposes at both September 30, 2010 and December 31, 2009. The Company reduced its borrowing position with a view toward lessening the Company’s exposure to rate fluctuations that may occur in the coming year.

The following table reflects the components of borrowings at September 30, 2010 and December 31, 2009:

		9/30/10				12/31/09
		(In thousands)
Long-term borrowed funds:
FHLBB long-term advances		$	181,847			$	205,971
Subordinated debt			6,000				6,000
Wholesale repurchase agreements			40,000				40,000
			227,847				251,971
Short-term borrowed funds:
Customer repurchase agreements			7,730				7,111
			7,730				7,111
Total borrowed funds		$	235,577			$	259,082

RESULTS OF OPERATIONS

THREE MONTHS ENDED SEPTEMBER 30, 2010 and 2009

SUMMARY

The Company reported net income available to common shareholders of $1.1 million, or $0.25 per diluted common share, as compared to $1.3 million, or $0.30 per diluted common share, for the three months ended September 30, 2010 and 2009, respectively. The largest factors affecting net income were an improvement of $518,000 in the net interest income and an increase in the gains on sales of investments amounting to $116,000 in the third quarter of 2010 as compared to the third quarter of 2009, as well as the preferred stock dividend and accretion of $215,000 in the third quarter of 2009 not incurred in 2010. Offsetting the impact of these gains were an increased loan loss

provision from the third quarter of 2009 of $350,000 and merger expenses relating to our pending acquisition by People’s United totaling $475,000 incurred in 2010.

Net Interest Income:

Net interest income for the three months ended September 30, 2010 increased by $518,000, or 10.3%, to $5.6 million from $5.0 million for the same period of 2009. The net interest rate spread increased to 2.66% for the three months ended September 30, 2010 versus 2.26% for the same period of 2009. Interest and dividend income for the three months ended September 30, 2010 decreased $482,000, or 4.7%, primarily due to a decline in investment security rates and average balances compared to the same period of 2009. Interest expense decreased $1.0 million or 19.1% to $4.2 million from $5.2 million during the three months ended September 30, 2010, versus 2009, respectively, primarily due to a decrease in average deposit rates. Net interest margin increased to 2.90% versus 2.59% for the quarters ended September 30, 2010 and 2009, respectively.

Interest and Dividend Income:

Interest and dividend income decreased $482,000, or 4.7%, during the third quarter of 2010 versus the same quarter in 2009, primarily due to a decline in investment security rates and average balances, which was partially offset by a rise in average loan balances.

Interest income on loans for the three months ended September 30, 2010 increased $459,000, or 6.2%, from the same period of 2009. Average loan interest rates decreased 3 basis points from 5.83% to 5.80% during the third quarter of 2010 as compared to the same quarter of 2009, resulting in a decrease of $60,000 to interest income. Average loan balances rose $34.3 million, or 6.7%, from $507.8 million in 2009 to $542.1 million in 2010, contributing $519,000 to interest income.

Interest income on investment securities for the three months ended September 30, 2010 decreased $941,000, or 33.5%, from the same period in 2009. Average investment security interest rates decreased 85 basis points during the third quarter of 2010, from 4.22% in 2009 to 3.37% in 2010, resulting in a decrease of $396,000 to interest income. Average investment security balances declined $44.0 million, or 16.7%, from $263.6 million in 2009 to $219.6 million in 2010, resulting in a decrease of $545,000 to interest income.

Interest Expense:

Interest expense decreased $1.0 million during the third quarter of 2010, from $5.2 million in the third quarter of 2009 to $4.2 million in the third quarter of 2010, primarily due to the decline in average deposit rates coupled with a decrease in average borrowed funds balances.

Interest expense on deposits for the three months ended September 30, 2010 decreased $673,000, or 26.9%, from the same period in 2009. Average deposit interest rates decreased 70 basis points, from 2.31% to 1.61% in the third quarter of 2010 as compared to the same quarter of 2009, decreasing interest expense by $588,000. Average interest-bearing deposit balances increased by $21.1 million, or 4.9%, from $429.5 million in 2009 to $450.6 million in 2010, accompanied by a change in the mix resulting in a decrease in higher rate certificates of deposit accounts which decreased interest expense by $85,000.

Interest expense on borrowed funds for the three months ended September 30, 2010 decreased $327,000, or 12.0%, from the same period in 2009. Average interest rates on borrowed funds declined 18 basis points from 4.22% in the third quarter of 2009 to 4.04% in the same quarter of 2010 reducing interest expense by $90,000. Average borrowed funds balances decreased $20.7 million, or 8.1%, from $256.1 million in 2009 to $235.4 million in 2010. This decrease resulted in a decline in interest expense of $237,000 due primarily to maturities and prepayments of longer term borrowed funds.

Provision for Loan Losses:

The provision for loan losses totaled $750,000 and $400,000 for the three months ended September 30, 2010 and 2009, respectively. The provisions in 2010 and 2009 reflect management’s analysis of loan growth and changes in

risk during the third quarters of 2010 and 2009 with the highest levels of growth coming from the commercial real estate, commercial business and residential loan portfolios in 2010 and from the commercial real estate and residential loan portfolios in 2009. The increase in the provision for loan losses was due to the increase in loan charge-offs in the third quarter of 2010. See “Risk Assets” for additional information. The balance of the allowance for loan losses totaled $7.1 million at September 30, 2010, as compared to $7.2 million at December 31, 2009, and $6.6 million at September 30, 2009.

Non-Interest Income:

Non-interest income increased $166,000 or 15.1% for the three months ended September 30, 2010, compared to the same period in 2009, to $1.3 million in 2010 compared to income of $1.1 million in 2009. The largest factor in the increase in 2010 was the increase in gains on sales of securities which increased $116,000 to $688,000 from $572,000 in the third quarter of 2010 versus 2009, respectively. Deposit account fees decreased slightly to $249,000 from $253,000 for the three months ended September 30, 2010 and 2009, respectively. Loan servicing fees increased by $42,000 to $76,000 from $34,000 for the three months ended September 30, 2010 and 2009, respectively, due to the increase in late, prepayment document and modification fees on loans and the absence of amortization of serviced loan fees. Income on bank-owned life insurance remained stable at $116,000 for the three months ended September 30, 2010 from $115,000 for the same period in 2009. Other income increased $11,000 or 9.0% to $133,000 from $122,000 for the three months ended September 30, 2010 and 2009, respectively, due to an increase in ATM and debit card fees.

Non-Interest Expense:

Non-interest expenses increased $958,000, or 29.3%, during the third quarter of 2010 to $4.2 million versus $3.3 million for the same period of 2009 primarily resulting from merger expenses of $475,000 incurred in 2010 related to our pending acquisition by People’s United and an increase in salaries and benefits of $454,000, or 27.6%, to $2.1 million from $1.6 million in the third quarter of 2010 and 2009, respectively, due primarily to increases in bonuses, medical and dental insurance coupled with a reduction in deferred salaries resulting from fewer loan closings in 2010. Occupancy and equipment expense increased $65,000, or 18.2%, to $422,000 in the third quarter of 2010 from $357,000 in the same period of 2009 due mainly to an increase in depreciation due to the opening of the newly relocated Lawrence and Methuen, Massachusetts branches coupled with depreciation of obsolete equipment amounting to $17,000 and an increase in rent expense of $23,000. Data processing expense decreased $21,000, or 9.2%, to $207,000 from $228,000 in the third quarters of 2010 and 2009, respectively, due primarily to a decrease of $19,000 in computer software and license fees. Professional fees decreased $42,000, or 37.2%, to $71,000 in the third quarter of 2010 from $113,000 in the third quarter of 2009 due primarily to a decrease in audit fees resulting from the Company’s exemption from the Sarbanes-Oxley reporting requirements. Marketing expenses decreased $49,000, or 42.2%, to $67,000 from $116,000 in 2010 and 2009, respectively, due primarily to a reduction in direct mail expenses. OREO expense totaled $184,000 in the three months ended September 30, 2010 compared to $4,000 in the same period of 2009 primarily due to several years of unpaid real estate taxes on foreclosed properties. FDIC deposit insurance premiums decreased $61,000, or 23.3%, to $201,000 from $262,000 for the quarters ended September 30, 2010 and 2009, respectively due to the absence of a special assessment in 2010. Other expenses decreased $43,000, or 7.9%, to $501,000 in the third quarter of 2010 from $544,000 in the same period of 2009 due primarily to a decrease in loan workout expenses associated with one nonaccrual loan coupled with a decrease in expenses associated with a third party debit card fraud incurred in 2009 and a decrease in directors fees.

Income Taxes:

The Company reported an income tax expense of $708,000 for the three months ended September 30, 2010 for an effective income tax rate of 38.3%. This compares to an income tax expense of $910,000 for the three months ended September 30, 2009 for an effective income tax rate of 36.8%. The increase in the effective tax rate in the third quarter of 2010 was due primarily to non-deductibility of the merger expenses incurred in the third quarter of 2010. Subsidiaries within the consolidated group pay various state income tax rates, the mix of taxable earnings within the group can change and, beginning in 2010, the taxable losses of one subsidiary can be used to offset taxable income in another subsidiary in the consolidated group.

The following table presents the Company’s average balance sheet, net interest income and average interest rates for the three months ended September 30, 2010 and 2009. Average loans include non-performing loans.

		Three months ended												Three months ended
		9/30/10												9/30/09
										Average												Average
		Average								Interest				Average								Interest
		Balance				Interest				Rate				Balance				Interest				Rate
		(Dollars in thousands)
Assets
Investment securities:
Short-term investments		$	13,260			$	8				0.24	%		$	18,057			$	11				0.24	%
U. S. Treasury and government- sponsored enterprise obligations			44,634				219				1.95				26,640				148				2.20
Other bonds and equity securities			15,225				57				1.49				18,983				107				2.24
Collateralized mortgage obligations and mortgage- backed securities			146,499				1,581				4.28				199,933				2,540				5.04
Total investment securities			219,618				1,865				3.37				263,613				2,806				4.22
Loans:
Residential real estate			134,280				1,716				5.07				127,655				1,735				5.39
Home equity			28,634				278				3.85				25,611				257				3.98
Consumer			827				16				7.68				636				11				6.86
Total retail loans			163,741				2,010				4.87				153,902				2,003				5.16
Construction and land			53,159				783				5.84				79,821				1,170				5.82
Commercial real estate			284,719				4,568				6.37				244,662				3,937				6.38
Commercial			40,437				560				5.49				29,407				352				4.75
Total corporate loans			378,315				5,911				6.20				353,890				5,459				6.12
Total loans			542,056				7,921				5.80				507,792				7,462				5.83
Total interest-earning assets			761 674				9,786				5.10	%			771,405				10,268				5.28	%
Allowance for loan losses			(7,491	)											(6,454	)
Other assets			37,014												30,855
Total assets		$	791,197											$	795,806
Liabilities and Stockholders’ Equity
Deposits:
NOW accounts		$	24,306			$	24				0.39	%		$	18,482			$	9				0.19	%
Regular savings accounts			100,550				215				0.85				80,411				244				1.20
Money market accounts			108,997				279				1.02				86,088				277				1.28
Certificates of deposit and escrow			216,748				1,310				2.40				244,543				1,971				3.20
Total interest-bearing deposits			450,601				1,828				1.61				429,524				2,501				2.31
Borrowed funds:
Long-term borrowed funds			227,861				2,394				4.17				250,309				2,721				4.31
Short-term borrowed funds			7,571				4				0.21				5,819				4				0.27
Total borrowed funds			235,432				2,398				4.04				256,128				2,725				4.22
Total interest-bearing liabilities			686,033				4,226				2.44	%			685,652				5,226				3.02	%
Non-interest-bearing deposits			37,640												32,383
Other liabilities			3,437												3,211
Total liabilities			727,110												721,246
Stockholders’ equity			64,087												74,560
Total liabilities and stockholders’ equity		$	791,197											$	795,806
Net interest rate spread											2.66	%											2.26	%
Net interest income						$	5,560											$	5,042
Net interest margin on average earning assets											2.90	%											2.59	%