UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


WASHINGTON,
DC 20549


____________





FORM
10-Q


(Mark
One)





x
            QUARTERLY
      REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF
      1934





For the
quarterly period ended June 30, 2010





OR





 ̈
            TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT
      OF 1934





For the
transition period from ______________ to _____________




Commission
file number:   0-50876







NAUGATUCK
VALLEY FINANCIAL CORPORATION


(Exact
name of registrant as specified in its charter)





UNITED
      STATES
            65-1233977(State
      or other jurisdiction of incorporation or
            (I.R.S.
      Employer Identification No.)organization)333 CHURCH STREET,
      NAUGATUCK, CONNECTICUT
            06770(Address
      of principal executive offices)
            (Zip
      Code)





(203)
720-5000


(Registrant’s
telephone number, including area code)





N/A


(Former
name, former address and former fiscal year, if changed since last
report)





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 such shorter period that the registrant was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days.


Yes x           No
 ̈





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 £     No
£





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 definitions of “large
accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule
12b-2 of the Exchange Act (Check one):





Large
      Accelerated Filer   ̈
            Accelerated
      Filer   ̈Non-accelerated
      Filer   ̈
            Smaller
      Reporting Company  x(Do
      not check if a smaller reporting company)





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


Yes  ̈          No
x





As of August 11, 2010, there were
7,018,823 shares of the registrant’s common stock outstanding.








NAUGATUCK
VALLEY FINANCIAL CORPORATION





Table of Contents





Part I.
            Financial Information
            Page
      No.Item 1.
            Financial Statements (Unaudited)Consolidated Statements of Financial Condition at June 30, 2010
      and December 31, 2009
            3Consolidated Statements of Income for the three and six months
      ended June 30, 2010 and 2009
            4Consolidated Statements of Cash Flows for the six months ended
      June 30, 2010 and 2009
            5Notes to Unaudited Consolidated Financial
      Statements
            6Item 2.
            Management’s Discussion and Analysis of Financial Condition and
      Results of Operations
            16Liquidity and Capital Resources
            21Item 3.
            Quantitative and Qualitative Disclosures About Market
      Risk
            23Item 4.
            Controls and Procedures
            25Part II.
            Other InformationItem 1.
            Legal Proceedings
            25Item 1A.
            Risk Factors
            25Item 2.
            Unregistered Sales of Equity Securities and Use of
      Proceeds
            26Item 3.
            Defaults Upon Senior Securities
            26Item 4.
            (Removed and Reserved)
            26Item 5.
            Other Information
            26Item 6.
            Exhibits
            26SignaturesExhibits


Table of Contents


Part
I - FINANCIAL INFORMATION








Item 1.  Financial Statements (Unaudited)





2
 Table of Contents







Consolidated
Statements of Financial Condition


(In
thousands, except share data)





June
      30,
              
              
              December
      31,2010
              
              
              2009(Unaudited)ASSETSCash
      and due from depository institutions
              
              $
              10,141
              
              
              $
              9,003Investment
      in federal funds
              
              
              816
              
              
              
              3,143Investment
      securities available-for-sale, at fair value
              
              
              35,584
              
              
              
              37,623Investment
      securities held-to-maturity, at amortized cost
              
              
              3,315
              
              
              
              1,451Loans
      held for sale, at fair value
              
              
              561
              
              
              
              -Loans
      receivable, net
              
              
              482,481
              
              
              
              473,304Accrued
      income receivable
              
              
              2,004
              
              
              
              2,074Foreclosed
      real estate, net
              
              
              167
              
              
              
              140Premises
      and equipment, net
              
              
              9,842
              
              
              
              9,948Bank
      owned life insurance
              
              
              9,088
              
              
              
              8,920Federal
      Home Loan Bank stock, at cost
              
              
              6,252
              
              
              
              6,252Other
      assets
              
              
              4,998
              
              
              
              5,097Total
      assets
              
              $
              565,249
              
              
              $
              556,955LIABILITIES
      AND STOCKHOLDERS' EQUITYLiabilitiesDeposits
              
              $
              394,286
              
              
              $
              380,931Borrowed
      funds
              
              
              112,538
              
              
              
              118,984Mortgagors'
      escrow accounts
              
              
              4,935
              
              
              
              4,888Other
      liabilities
              
              
              2,270
              
              
              
              1,844Total
      liabilities
              
              
              514,029
              
              
              
              506,647Commitments
      and contingenciesStockholders'
      equityPreferred
      stock, $.01 par value; 1,000,000 shares authorized;no
      shares issued or outstanding
              
              
              -
              
              
              
              -Common
      stock, $.01 par value; 25,000,000 shares authorized;7,604,375
      shares issued, 7,022,659 shares outstanding at June30,
      2010 and 7,022,866 shares outstanding at December 31, 2009
              
              
              76
              
              
              
              76Paid-in
      capital
              
              
              33,872
              
              
              
              33,756Retained
      earnings
              
              
              25,685
              
              
              
              24,849Unearned
      ESOP shares (193,735 shares at June 30, 2010and
      December 31, 2009)
              
              
              (1,937
              )
              
              
              (1,937
              )Unearned
      stock awards (31,640 shares at June 30, 2010and
      32,340 shares at December 31, 2009)
              
              
              (347
              )
              
              
              (355
              )Treasury
      stock, at cost (583,549 shares at June 30, 2010and
      583,342 shares at December 31, 2009)
              
              
              (6,134
              )
              
              
              (6,132
              )Accumulated
      other comprehensive gain
              
              
              5
              
              
              
              51Total
      stockholders' equity
              
              
              51,220
              
              
              
              50,308Total
      liabilities and stockholders' equity
              
              $
              565,249
              
              
              $
              556,955





See notes
to consolidated financial statements.


3
 Table of Contents







Consolidated
Statements of Income


(In
thousands, except per share data)





Three
      Months Ended
              
              
              Six
      Months EndedJune
      30,
              
              
              June
      30,2010
              
              
              2009
              
              
              2010
              
              
              2009(Unaudited)Interest
      incomeInterest
      on loans
              
              $
              6,782
              
              
              $
              6,387
              
              
              $
              13,466
              
              
              $
              12,765Interest
      and dividends on investments and deposits
              
              
              403
              
              
              
              620
              
              
              
              863
              
              
              
              1,330Total
      interest income
              
              
              7,185
              
              
              
              7,007
              
              
              
              14,329
              
              
              
              14,095Interest
      expenseInterest
      on deposits
              
              
              1,815
              
              
              
              2,164
              
              
              
              3,627
              
              
              
              4,464Interest
      on borrowed funds
              
              
              756
              
              
              
              1,102
              
              
              
              1,560
              
              
              
              2,217Total
      interest expense
              
              
              2,571
              
              
              
              3,266
              
              
              
              5,187
              
              
              
              6,681Net
      interest income
              
              
              4,614
              
              
              
              3,741
              
              
              
              9,142
              
              
              
              7,414Provision
      for loan losses
              
              
              361
              
              
              
              272
              
              
              
              1,171
              
              
              
              557Net
      interest income after provision for loan losses
              
              
              4,253
              
              
              
              3,469
              
              
              
              7,971
              
              
              
              6,857Noninterest
      incomeFees
      for services related to deposit accounts
              
              
              244
              
              
              
              258
              
              
              
              490
              
              
              
              493Fees
      for other services
              
              
              220
              
              
              
              174
              
              
              
              386
              
              
              
              299Income
      from bank owned life insurance
              
              
              83
              
              
              
              87
              
              
              
              167
              
              
              
              171Income
      from investment advisory services, net
              
              
              54
              
              
              
              101
              
              
              
              95
              
              
              
              158Gain
      on investments
              
              
              3
              
              
              
              -
              
              
              
              11
              
              
              
              176Other
      income
              
              
              55
              
              
              
              25
              
              
              
              81
              
              
              
              56Total
      noninterest income
              
              
              659
              
              
              
              645
              
              
              
              1,230
              
              
              
              1,353Noninterest
      expenseCompensation,
      taxes and benefits
              
              
              2,122
              
              
              
              1,943
              
              
              
              4,196
              
              
              
              3,827Office
      occupancy
              
              
              592
              
              
              
              559
              
              
              
              1,178
              
              
              
              1,093Computer
      processing
              
              
              233
              
              
              
              248
              
              
              
              462
              
              
              
              470Directors
      compensation
              
              
              172
              
              
              
              118
              
              
              
              388
              
              
              
              317FDIC
      insurance premiums
              
              
              170
              
              
              
              389
              
              
              
              332
              
              
              
              625Advertising
              
              
              93
              
              
              
              130
              
              
              
              166
              
              
              
              185Loss
      on foreclosed real estate, net
              
              
              13
              
              
              
              2
              
              
              
              31
              
              
              
              9Other
      expenses
              
              
              524
              
              
              
              407
              
              
              
              1,020
              
              
              
              870Total
      noninterest expense
              
              
              3,919
              
              
              
              3,796
              
              
              
              7,773
              
              
              
              7,396Income
      before provisionfor
      income taxes
              
              
              993
              
              
              
              318
              
              
              
              1,428
              
              
              
              814Provision
      for income taxes
              
              
              313
              
              
              
              79
              
              
              
              435
              
              
              
              206Net
      income
              
              $
              680
              
              
              $
              239
              
              
              $
              993
              
              
              $
              608Earnings
      per common share - Basic and Diluted
              
              $
              0.10
              
              
              $
              0.04
              
              
              $
              0.15
              
              
              $
              0.09





See notes
to consolidated financial statements.


4
 Table of Contents










Consolidated Statements of Cash Flows(In
thousands)




Six
      Months EndedJune
      30,2010
              
              
              2009Cash
      flows from operating activities
              
              (Unaudited)Net
      income
              
              $
              993
              
              
              $
              608Adjustments
      to reconcile net income to cash provided by operating
      activities:Provision
      for loan losses
              
              
              1,171
              
              
              
              557Depreciation
      and amortization expense
              
              
              396
              
              
              
              426Gain
      on sale of loans
              
              
              (71
              )
              
              
              -Loans
      originated for sale
              
              
              (9,885
              )
              
              
              -Proceeds
      from sale of loans
              
              
              9,396
              
              
              
              -Net
      amortization from investments
              
              
              24
              
              
              
              35Amortization
      of intangible assets
              
              
              17
              
              
              
              17Stock-based
      compensation
              
              
              342
              
              
              
              332Gain
      on sale of investments
              
              
              (11
              )
              
              
              (176
              )Net
      change in:Accrued
      income receivable
              
              
              70
              
              
              
              140Deferred
      loan fees
              
              
              39
              
              
              
              (18
              )Cash
      surrender value of life insurance
              
              
              (167
              )
              
              
              (171
              )Other
      assets
              
              
              716
              
              
              
              76Other
      liabilities
              
              
              208
              
              
              
              501Net
      cash provided by operating activities
              
              
              3,238
              
              
              
              2,327Cash
      flows from investing activitiesProceeds
      from maturities and repayments of available-for-sale
      securities
              
              
              3,388
              
              
              
              5,489Proceeds
      from sale of available-for-sale securities
              
              
              7,775
              
              
              
              10,508Proceeds
      from maturities of held-to-maturity securities
              
              
              217
              
              
              
              27Purchase
      of available-for-sale securities
              
              
              (8,995
              )
              
              
              -Purchase
      of held-to-maturity securities
              
              
              (2,089
              )
              
              
              (1,566
              )Loan
      originations net of principal payments
              
              
              (11,365
              )
              
              
              (15,053
              )Purchase
      of property and equipment
              
              
              (293
              )
              
              
              (72
              )Proceeds
      from the sale of other real estate owned
              
              
              140
              
              
              
              -Net
      cash used by investing activities
              
              
              (11,222
              )
              
              
              (667
              )Cash
      flows from financing activitiesNet
      change in time deposits
              
              
              6,299
              
              
              
              2,442Net
      change in other deposit accounts
              
              
              7,056
              
              
              
              8,237Net
      change in mortgagors' escrow deposits
              
              
              47
              
              
              
              325Advances
      from Federal Home Loan Bank
              
              
              13,900
              
              
              
              -Repayment
      of advances from Federal Home Loan Bank
              
              
              (18,057
              )
              
              
              (17,613
              )Change
      in short term borrowings
              
              
              -
              
              
              
              (1,340
              )Net
      change in repurchase agreements
              
              
              (2,290
              )
              
              
              6,762Treasury
      stock acquired
              
              
              (1
              )
              
              
              -Dividends
      paid to stockholders
              
              
              (159
              )
              
              
              (289
              )Net
      cash provided (used) by financing activities
              
              
              6,795
              
              
              
              (1,476
              )Net
      change in cash and cash equivalents
              
              
              (1,189
              )
              
              
              184Cash
      and cash equivalents at beginning of period
              
              
              12,146
              
              
              
              8,247Cash
      and cash equivalents at end of period
              
              $
              10,957
              
              
              $
              8,431Cash
      paid during the period for:Interest
              
              $
              5,213
              
              
              $
              6,335Income
      taxes
              
              
              501
              
              
              
              226Non-cash
      transactions:Transfer
      of loans to foreclosed real estate
              
              $
              287
              
              
              $
              223





See notes
to consolidated financial statements.


5
 Table of Contents


Notes
to Consolidated Financial Statements











NOTE
1 – NATURE OF OPERATIONS





Naugatuck
Valley Financial Corporation (the “Company”) was organized as a federal
corporation at the direction of Naugatuck Valley Savings and Loan (the “Bank”)
in connection with the mutual holding company reorganization of Naugatuck Valley
Savings.  The reorganization and initial public offering of Naugatuck
Valley Financial was completed on September 30, 2004.  In the
offering, Naugatuck Valley Financial issued a majority of its outstanding shares
of common stock to Naugatuck Valley Mutual Holding Company, the mutual holding
company parent of the Bank.  As long as Naugatuck Valley Mutual
exists, it will own at least a majority of Naugatuck Valley Financial
Corporation’s common stock.





Originally
organized in 1922, the Bank is a federally chartered stock savings bank which is
headquartered in Naugatuck, Connecticut. The Bank provides a full range of
personal banking services to individual and small business customers located
primarily in the Naugatuck Valley and the immediate surrounding
vicinity.  It is subject to competition from other financial
institutions throughout the region.  The Bank is also subject to the
regulations of various federal agencies and undergoes periodic examinations by
those regulatory authorities.





The Bank
owns the Naugatuck Valley Mortgage Servicing Corporation, which qualifies and
operates as a Connecticut passive investment company pursuant to
legislation.





Planned
acquisition and conversion.On February 23, 2010, the Company
announced it had entered into a definitive agreement to acquire Southern
Connecticut Bancorp, Inc (“SCBI”), the holding company for The Bank of Southern
Connecticut.  The Company also announced its mutual holding company
parent, Naugatuck Valley Mutual Holding Company has adopted a Plan of Conversion
and Reorganization to convert to a stock holding company by selling to the
public its approximate 60% ownership interest in the Company in a transaction
commonly referred to as a second step conversion.  The completion of
the acquisition of SCBI is contingent on the completion of the second step
conversion.  In addition to the completion of the second step
conversion, the acquisition is contingent on the receipt of regulatory
approvals, the approval of SCBI's stockholders and other customary conditions.
The acquisition is expected to be completed in the fourth calendar quarter of
2010 or first calendar quarter of 2011.





The
acquisition is expected to occur immediately following the completion of the
second step conversion.  Upon completion of the conversion, Naugatuck
Valley Savings and Loan will become the wholly-owned subsidiary of a new stock
holding company (“Newco”). It is expected that Newco will retain the name
“Naugatuck Valley Financial Corporation”.





As a
result of the acquisition, SCBI will merge with and into Newco, with Newco as
the surviving entity. SCBI shareholders will be able to elect to receive cash,
shares of Newco common stock, or a combination of cash and stock, subject to
proration, if necessary, to assure that 50% of SCBI's outstanding shares are
exchanged for Newco common stock and the remainder are exchanged for cash. The
exchange ratio for determining the number of shares of Newco common stock to be
exchanged for each share of SCBI common stock will equal $7.25 divided by the
initial offering price per share to be established for Newco's common stock in
the second step conversion offering. SCBI stockholders who elect to receive
stock are not expected to be subject to federal income tax on their receipt of
Newco common stock. As part of the transaction, The Bank of Southern Connecticut
will merge with and into Naugatuck Valley Savings and Loan, with Naugatuck
Savings and Loan as the surviving entity. Naugatuck Valley Savings and Loan
intends to continue to operate the four acquired banking offices of The Bank of
Southern Connecticut, which are located in New Haven (two offices), Branford and
North Haven, Connecticut, under the name "The Bank of Southern
Connecticut."





Information,
including details of the stock offering and detailed business and financial
information about Newco, NVFC and SCBI, will be provided in a prospectus and
proxy statement when the stock offering commences, which is expected to occur in
the fourth calendar quarter of 2010.








6
 Table of Contents





NOTE
2 - BASIS OF PRESENTATION





The
accompanying consolidated interim financial statements are unaudited and include
the accounts of the Company, the Bank, and the Bank’s wholly owned
subsidiary, Naugatuck Valley Mortgage Servicing Corporation. The consolidated
financial statements have been prepared in accordance with accounting principles
generally accepted in the United States of America (“GAAP”) for interim
financial information and with the instructions to SEC Form
10-Q.  Accordingly, they do not include all the information and
footnotes required by GAAP for complete financial statements.  All
significant intercompany accounts and transactions have been eliminated in the
consolidation. These financial statements reflect, in the opinion of management,
all adjustments, consisting only of normal recurring adjustments, necessary for
a fair presentation of the Company’s financial position and the results of its
operations and its cash flows for the periods presented.





In
preparing the financial statements, management is required to make estimates and
assumptions that affect the reported amounts of assets and liabilities as of the
date of the balance sheet, and income and expenses for the
period.  Actual results could differ from those
estimates.  Material estimates that are particularly susceptible to
significant change in the near-term relate to the determination of the allowance
for losses on loans, the valuation of real estate acquired in connection with
foreclosure or in satisfaction of loans, and the valuation of certain investment
securities.  While management uses available information to recognize
losses and properly value these assets, future adjustments may be necessary
based on changes in economic conditions both in Connecticut and
nationally.




Management
has evaluated subsequent events for potential recognition or disclosure in the
financial statements.  No subsequent events were identified that would
have required a change to the financial statements or disclosure in the notes to
the financial statements.





Operating
results for the six months ended June 30, 2010 are not necessarily indicative of
the results that may be expected for the year ending December 31,
2010.





These
financial statements should be read in conjunction with the consolidated
financial statements and notes thereto included in the Company’s Annual Report
on Form 10-K for the year ended December 31, 2009.  The year-end
condensed balance sheet data was derived from audited financial statements, but
does not include all disclosures required by GAAP.




Certain
reclassifications have been made to prior period financial statements to conform
to the June 30, 2010 financial statement presentation. These reclassifications
only changed the reporting categories but did not affect our results of
operations or financial position.








NOTE
3 - CRITICAL ACCOUNTING POLICIES





The
Company considers accounting policies involving significant judgments and
assumptions by management that have, or could have, a material impact on the
carrying value of certain assets or on income to be critical accounting
policies.  The Company considers the following to be critical
accounting policies:  other-than-temporary impairment, allowance for
loan losses and deferred income taxes.





Other-than-temporary
impairment. Each quarter, the Company reviews its investment portfolio to
determine whether unrealized losses are temporary, based on an evaluation of the
creditworthiness of the issuers/guarantors as well as the underlying collateral,
if applicable, as well as the continuing performance of the
securities.  Management also evaluates other facts and circumstances
that may be indicative of an other-than-temporary impairment
condition.  This includes, but is not limited to, an evaluation of the
type of security and length of time and extent to which the fair value has been
less than cost as well as certain collateral related
characteristics.





Allowance for
Loan Losses.  Determining the
amount of the allowance for loan losses necessarily involves a high degree of
judgment.  Management reviews the level of the allowance on a
quarterly basis, at a minimum, and establishes the provision for loan losses
based on the composition of the loan portfolio, delinquency levels, loss
experience, economic conditions, and other factors related to the collectability
of the loan portfolio.





Although
the Company believes that it uses the best information available to establish
the allowance for loan losses, future additions to the allowance may be
necessary based on estimates that are susceptible to change as a result of
changes in economic conditions and other factors.  The Company engages
an independent review of its commercial loan portfolio at least annually and
adjusts its loan ratings based upon this review.  In addition, the
Company’s regulatory authorities, as an integral part of their examination
process, periodically review the Company’s allowance for loan
losses.  Such an agency may require the Company to recognize
adjustments to the allowance based on its judgments about information available
to it at the time of its examination.





7
 Table of Contents








Deferred Income
Taxes.  The Company
accounts for certain income and expense items differently for financial
reporting purposes than for income tax purposes.  Provisions for
deferred taxes are being made in recognition of these temporary differences. It
is the Company's policy to recognize interest and penalties related to
unrecognized tax liabilities within income tax expense in the consolidated
statements of income.





NOTE
4 — Accounting Standards Updates





In 2010,
the FASB issued authoritative guidance expanding disclosures related to fair
value measurements including (i) the amounts of significant transfers of
assets or liabilities between Levels 1 and 2 of the fair value hierarchy and the
reasons for the transfers, (ii) the reasons for transfers of assets or
liabilities in or out of Level 3 of the fair value hierarchy, with significant
transfers disclosed separately, (iii) the policy for determining when
transfers between levels of the fair value hierarchy are recognized and
(iv) for recurring fair value measurements of assets and liabilities in
Level 3 of the fair value hierarchy, a gross presentation of information about
purchases, sales, issuances and settlements. The new guidance further clarifies
that (i) fair value measurement disclosures should be provided for each class of
assets and liabilities (rather than major category), which would generally be a
subset of assets or liabilities within a line item in the statement of financial
position and (ii) disclosures should be provided about the valuation
techniques and inputs used to measure fair value for both recurring and
nonrecurring fair value measurements for each class of assets and liabilities
included in Levels 2 and 3 of the fair value hierarchy. The disclosures related
to the gross presentation of purchases, sales, issuances and settlements of
assets and liabilities included in Level 3 of the fair value hierarchy will be
required beginning January 1, 2011. The remaining disclosure requirements
and clarifications made by the new guidance became effective on January 1,
2010.





On
July 21, 2010, the FASB issued ASU No. 2010-20, “Disclosures about the Credit
Quality of Financing Receivables and the Allowance for Credit Losses”,
which requires significant new disclosures about the allowance for credit losses
and the credit quality of financing receivables. The requirements are intended
to enhance transparency regarding credit losses and the credit quality of loan
and lease receivables by disclosing an evaluation of (i) the nature of credit
risk inherent in the entity’s portfolio of financing receivables, (ii) how that
risk is analyzed and assessed in arriving at the allowance for credit losses and
(iii) the changes and reasons for those changes in the allowance for credit
losses. Under this statement, allowance for credit losses and fair value are to
be disclosed by portfolio segment, while credit quality information, impaired
financing receivables and nonaccrual status are to be presented by class of
financing receivable. Disclosure of the nature and extent, the financial
impact and segment information of troubled debt restructurings will also be
required. The disclosures are to be presented at the level of
disaggregation that management uses when assessing and monitoring the
portfolio’s risk and performance. ASU 2010-20 will be effective for the
Company’s consolidated financial statements as of December 31, 2010, as it
relates to disclosures required as of the end of a reporting period. Disclosures
that relate to activity during a reporting period will be required for the
Company’s consolidated financial statements that include periods beginning on or
after January 1, 2011.









































8
 Table of Contents





NOTE
5 – INVESTMENT SECURITIES





At June
30, 2010, the composition of the investment portfolio was:





Amortized
              
              
              Gross
      Unrealized
              
              
              Fair(In
      thousands)
              
              Cost
      Basis
              
              
              Gains
              
              
              Losses
              
              
              ValueAvailable-for-sale
      securities:U.S.
      government and agency obligations
              
              $
              1,526
              
              
              $
              68
              
              
              $
              -
              
              
              $
              1,594Mortgage-backed
      securities
              
              
              22,454
              
              
              
              1,079
              
              
              
              -
              
              
              
              23,533Collateralized
      mortgage obligations
              
              
              3,029
              
              
              
              17
              
              
              
              (75
              )
              
              
              2,971Total
      debt securities
              
              
              27,009
              
              
              
              1,164
              
              
              
              (75
              )
              
              
              28,098Auction-rate
      trust preferred securities
              
              
              8,200
              
              
              
              -
              
              
              
              (714
              )
              
              
              7,486Total
      available-for-sale securities
              
              $
              35,209
              
              
              $
              1,164
              
              
              $
              (789
              )
              
              $
              35,584Amortized
              
              
              Gross
      Unrealized
              
              
              Fair(In
      thousands)
              
              Cost
      Basis
              
              
              Gains
              
              
              Losses
              
              
              ValueHeld-to-maturity
      securities:Mortgage-backed
      securities
              
              
              3,315
              
              
              
              37
              
              
              
              -
              
              
              
              3,352Total
      held-to-maturity securities
              
              $
              3,315
              
              
              $
              37
              
              
              $
              -
              
              
              $
              3,352





At
December 31, 2009, the composition of the investment portfolio was:





Amortized
              
              
              Gross
      Unrealized
              
              
              Fair(In
      thousands)
              
              Cost
      Basis
              
              
              Gains
              
              
              Losses
              
              
              ValueAvailable-for-sale
      securities:U.S.
      government and agency obligations
              
              $
              1,529
              
              
              $
              54
              
              
              $
              -
              
              
              $
              1,583Corporate
      bonds
              
              
              1,000
              
              
              
              -
              
              
              
              (340
              )
              
              
              660Mortgage-backed
      securities
              
              
              23,561
              
              
              
              939
              
              
              
              -
              
              
              
              24,500Collateralized
      mortgage obligations
              
              
              3,091
              
              
              
              13
              
              
              
              (104
              )
              
              
              3,000Total
      debt securities
              
              
              29,181
              
              
              
              1,006
              
              
              
              (444
              )
              
              
              29,743Auction-rate
      trust preferred securities
              
              
              8,200
              
              
              
              -
              
              
              
              (320
              )
              
              
              7,880Total
      available-for-sale securities
              
              $
              37,381
              
              
              $
              1,006
              
              
              $
              (764
              )
              
              $
              37,623Amortized
              
              
              Gross
      Unrealized
              
              
              Fair(In
      thousands)
              
              Cost
      Basis
              
              
              Gains
              
              
              Losses
              
              
              ValueHeld-to-maturity
      securities:U.S.
      government and agency obligations
              
              
              1,451
              
              
              
              24
              
              
              
              -
              
              
              
              1,475Total
      held-to-maturity securities
              
              $
              1,451
              
              
              $
              24
              
              
              $
              -
              
              
              $
              1,475





The
Company has identified investment securities in which the fair value of the
security is less than the cost of the security.  This can be from an
increase in interest rates since the time of purchase or from deterioration in
the credit quality of the issuer.  All investment securities which
have unrealized losses have undergone an internal impairment
review.





Management’s
review for impairment generally entails identification and analysis of
individual investments that have fair values less than amortized cost, including
consideration of the length of time the investment has been in an unrealized
loss position and the expected recovery period; discussion of evidential matter,
including an evaluation of factors or triggers that could cause individual
investments to qualify as having other-than-temporary impairment and those that
would not support other-than-temporary impairment; and documentation of the
results of these analyses. As a result of the reviews, management has determined
that there has been no deterioration in credit quality subsequent to purchase,
and believes that these unrealized losses are temporary and are the result of
changes in market interest rates and market conditions over the past several
years.





9
 Table of Contents








At June
30, 2010, these securities had an aggregate fair value of $2.6 million which
resulted in an unrealized loss of $789,000 as compared to an aggregate fair
value of $3.4 million with an unrealized loss of $764,000 at December 31,
2009.








NOTE
6 – LOANS RECEIVABLE





A summary
of loans receivable at June 30, 2010 and December 31, 2009 is as
follows:





June
      30,
              
              
              December
      31,(In
      thousands)
              
              2010
              
              
              2009Real
      estate loans:One-to-four
      family
              
              $
              225,624
              
              
              $
              229,693Construction
              
              
              33,843
              
              
              
              46,298Multi-family
      and commercial real estate
              
              
              160,149
              
              
              
              134,931Total
      real estate loans
              
              
              419,616
              
              
              
              410,922Commercial
      business loans
              
              
              31,899
              
              
              
              31,325Consumer
      loans:Savings
      accounts
              
              
              2,549
              
              
              
              1,113Personal
              
              
              266
              
              
              
              256Automobile
              
              
              185
              
              
              
              230Home
      equity
              
              
              36,375
              
              
              
              37,276Total
      consumer loans
              
              
              39,375
              
              
              
              38,875Totals
      loans
              
              
              490,890
              
              
              
              481,122Less:Allowance
      for loan losses
              
              
              5,119
              
              
              
              3,996Undisbursed
      construction loans
              
              
              2,766
              
              
              
              3,336Deferred
      loan origination fees
              
              
              524
              
              
              
              486Loans
      receivable, net
              
              $
              482,481
              
              
              $
              473,304





Nonperforming
loans totaled $12.6 million at June 30, 2010 and $6.0 million at December 31,
2009.  These loans, primarily delinquent 90 days or more, were
accounted for on a nonaccrual basis.  The amount of income that was
contractually due but not recognized on nonperforming loans totaled $525,000 for
the quarter ended June 30, 2010 and $328,000 for the year ended December 31,
2009.





At June
30, 2010, the Bank had $7.1 million of loans which were considered to be
impaired, with an allocated allowance of $723,000, compared to $744,000 of such
loans at December 31, 2009 with an allowance of $98,000.  The increase
is primarily due to three commercial loans secured by real estate, three
commercial loans secured by business assets, two residential mortgage loans and
one home equity loan which were classified during the period.





Transactions
in the allowance for loan losses account were as follows for the periods
indicated:





Six
      months ended
              
              
              For
      the year endedJune
      30,
              
              
              December
      31,(In
      thousands)
              
              2010
              
              
              2009Balance
      at beginning of year
              
              $
              3,996
              
              
              $
              2,869Provision
      for loan losses
              
              
              1,171
              
              
              
              1,144Charge-offs
              
              
              (48
              )
              
              
              (18
              )Recoveries
              
              
              -
              
              
              
              1Balance
      at end of period
              
              $
              5,119
              
              
              $
              3,996





10
 Table of Contents





NOTE
7 - EARNINGS PER SHARE





Basic net
income per common share is calculated by dividing the net income available to
common stockholders by the weighted-average number of common shares outstanding
during the period. Diluted net income per common share is computed in a manner
similar to basic net income per common share except that the weighted-average
number of common shares outstanding is increased to include the incremental
common shares (as computed using the treasury stock method) that would have been
outstanding if all potentially dilutive common stock equivalents were issued
during the period. The Company's common stock equivalents are comprised of stock
options and restricted stock awards. Anti-dilutive shares are common stock
equivalents with weighted-average exercise prices in excess of the
weighted-average market value for the periods presented.  For the
three and six months ended June 30, 2010, anti-dilutive options excluded from
the calculations totaled 335,704 options (with an exercise price of $11.10) and
7,500 options (with an exercise price of $12.49).  For the three and
six months ended June 30, 2009, anti-dilutive options excluded from the
calculations totaled 345,930 options (with an exercise price of $11.10) and
7,500 options (with an exercise price of $12.49).  Unallocated common
shares held by the ESOP are not included in the weighted-average number of
common shares outstanding for purposes of calculating either basic or diluted
net income per common share.





Three
      Months Ended
                
                
                Six
      Months EndedJune
      30,
                
                
                June
      30,2010
                
                
                2009
                
                
                2010
                
                
                2009Net
      income
                
                $
                680,000
                
                
                $
                239,000
                
                
                $
                993,000
                
                
                $
                608,000Weighted-average
      common shares outstanding:Basic
                
                
                6,828,924
                
                
                
                6,813,189
                
                
                
                6,829,015
                
                
                
                6,813,226Effect
      of dilutive stock optionsand
      restrictive stock awards
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -Diluted
                
                
                6,828,924
                
                
                
                6,813,189
                
                
                
                6,829,015
                
                
                
                6,813,226Net
      income per common share:Basic
                
                $
                0.10
                
                
                $
                0.04
                
                
                $
                0.15
                
                
                $
                0.09Diluted
                
                $
                0.10
                
                
                $
                0.04
                
                
                $
                0.15
                
                
                $
                0.09








NOTE
8 - COMPREHENSIVE INCOME





Comprehensive
income is net income adjusted for any changes in equity from non-owner sources
that are not recorded in the income statement (such as changes in the net
unrealized gain/loss on available-for-sale securities). The purpose of reporting
comprehensive income is to provide a measure of all changes in equity that
result from recognized transactions and other economic events of the period
other than transactions with owners in their capacity as owners. The Company’s
sole source of other comprehensive income is the net unrealized gain on its
available-for-sale securities.


11
 Table of Contents





Three
      Months Ended
              
              
              Six
      Months EndedJune
      30,
              
              
              June
      30,2010
              
              
              2009
              
              
              2010
              
              
              2009(In
      thousands)Net
      income
              
              $
              680
              
              
              $
              239
              
              
              $
              993
              
              
              $
              608Other
      comprehensive income:Unrealized
      gain (loss) on securities available-for-sale
              
              
              (25
              )
              
              
              63
              
              
              
              144
              
              
              
              2,079Reclassification
      adjustment for gainsrealized
      in net income
              
              
              (3
              )
              
              
              -
              
              
              
              (11
              )
              
              
              (176
              )Other
      comprehensive income (loss) before tax effect
              
              
              (28
              )
              
              
              63
              
              
              
              133
              
              
              
              1,903Income
      tax effect related to items of othercomprehensive
      income (loss)
              
              
              121
              
              
              
              (11
              )
              
              
              179
              
              
              
              34Other
      comprehensive income (loss) net of tax effect
              
              
              (149
              )
              
              
              74
              
              
              
              (46
              )
              
              
              1,869Total
      comprehensive income
              
              $
              531
              
              
              $
              313
              
              
              $
              947
              
              
              $
              2,477








NOTE
9 - EQUITY INCENTIVE PLAN





Under the
Naugatuck Valley Financial Corporation 2005 Equity Incentive Plan (the
“Incentive Plan”), the Company may grant up to 372,614 stock options and 149,045
shares of restricted stock to its employees, officers and directors for an
aggregate amount of up to 521,659 shares of the Company’s common stock for
issuance upon the grant or exercise of awards.  Both incentive stock
options and non-statutory stock options may be granted under the Incentive
Plan.





The
amounts and terms of the awards granted under the Incentive Plan are summarized
in the following table.


Grant
      dateJuly
      26,
              
              
              December
      18,
              
              
              March
      20,
              
              
              March
      21,
              
              
              July
      26,2008
              
              
              2007
              
              
              2007
              
              
              2006
              
              
              2005Option
      awardsAwarded
              
              
              1,000
              
              
              
              2,000
              
              
              
              7,500
              
              
              
              6,500
              
              
              
              354,580Exercise
      price
              
              $
              11.10
              
              
              $
              11.10
              
              
              $
              12.49
              
              
              $
              11.10
              
              
              $
              11.10Maximum
      term
              
              
              10
              
              
              
              10
              
              
              
              10
              
              
              
              10
              
              
              
              10Restricted
      stock awardsAwarded
              
              
              1,000
              
              
              
              3,000
              
              
              
              2,000
              
              
              
              1,500
              
              
              
              139,712





To date,
stock option awards have been granted with an exercise price equal to the higher
of the market price of the Company’s stock at the date of grant or $11.10, which
was the market price of the Company’s stock at the date stock option awards were
initially granted under the Incentive Plan.  All granted stock options
and restricted stock awards vest at 20% per year beginning on the first
anniversary of the date of grant.





Stock
options and restricted stock awards are considered common stock equivalents for
the purpose of computing earnings per share on a diluted basis.





The
Company is recording share-based compensation expense related to outstanding
stock option and restricted stock awards based upon the fair value at the date
of grant over the vesting period of such awards on a straight-line
basis.  The fair value of each restricted stock allocation, based on
the market price at the date of grant, is recorded to unearned stock
awards.  Compensation expenses related to unearned restricted shares
are amortized to compensation, taxes and benefits expense over the vesting
period of the restricted stock awards.  The fair value of each stock
option award is estimated on the date of grant using the Black-Scholes option
pricing method as described below.  The Company recorded share-based
compensation expense of $138,940 for the three months ended June 30, 2010,
compared to $135,880 for the three months ended June 30, 2009, in connection
with the stock option and restricted stock awards.


12
 Table of Contents





The fair
value of each stock option award is estimated on the date of grant using the
Black-Scholes option pricing method which includes several assumptions such as
volatility, expected dividends, expected term and risk-free rate for each stock
option award.  In determining the expected term of the option awards,
the Company elected to follow the simplified method as permitted by the SEC
Staff Accounting Bulletin 107.  Under this method, the Company has
estimated the expected term of the options as being equal to the average of the
vesting term plus the original contractual term. The Company estimated its
volatility using the historical volatility of other, similar companies during a
period of time equal to the expected life of the options. The risk-free rate for
the periods within the contractual life of the options is based upon the U.S.
Treasury yield curve in effect at the time of grant.  Assumptions used
to determine the weighted-average fair value of stock options granted were as
follows:




July
      26,
              
              
              December
      18,
              
              
              March
      20,
              
              
              March
      21,
              
              
              July
      26,Grant
      date
              
              2008
              
              
              2007
              
              
              2007
              
              
              2006
              
              
              2005Dividend
      yield
              
              
              2.74
              %
              
              
              2.20
              %
              
              
              1.60
              %
              
              
              1.89
              %
              
              
              1.44
              %Expected
      volatility
              
              
              13.40
              %
              
              
              11.00
              %
              
              
              10.49
              %
              
              
              11.20
              %
              
              
              11.47
              %Risk-free
      rate
              
              
              3.56
              %
              
              
              3.63
              %
              
              
              4.48
              %
              
              
              4.61
              %
              
              
              4.18
              %Expected
      life in years
              
              
              6.5
              
              
              
              6.5
              
              
              
              6.5
              
              
              
              6.5
              
              
              
              6.5Weighted
      average fair valueof
      options at grant date
              
              $
              1.51
              
              
              $
              1.18
              
              
              $
              2.55
              
              
              $
              2.25
              
              
              $
              2.47








NOTE
10 - DIVIDENDS





On April
27, 2010, the Company's Board of Directors declared a cash dividend of $0.03 per
outstanding common share, which was paid on June 1, 2010, to stockholders of
record as of the close of business on May 10, 2010.





Naugatuck
Valley Mutual Holding Company, the Company's mutual holding company and majority
stockholder, waived receipt of its dividend upon non-objection from the Office
of Thrift Supervision ("OTS").








NOTE
11 – FAIR VALUE





The
Company uses fair value to record adjustments to certain assets and liabilities
and to prepare required disclosures. Fair value 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 using market quotes. However, in many instances, there are no
quoted market prices available. In such instances, fair values are determined
using various valuation techniques. Various assumptions and observable inputs
must be relied upon in applying these techniques. Accordingly, the fair value
estimates may not be realized in an immediate transfer of the respective asset
or liability.





The
following is a summary of the carrying value and estimated fair value of the
Company’s significant financial instruments as of June 30, 2010 and December 31,
2009:


13
 Table of Contents





June
      30, 2010
              
              
              December
      31, 2009Carrying
              
              
              Estimated
              
              
              Carrying
              
              
              Estimated(In
      thousands)
              
              Amount
              
              
              Fair
      Value
              
              
              Amount
              
              
              Fair
      ValueFinancial
      AssetsCash
      and cash equivalents
              
              $
              10,957
              
              
              $
              10,957
              
              
              $
              12,146
              
              
              $
              12,146Investment
      securities available for sale
              
              
              35,584
              
              
              
              35,584
              
              
              
              37,623
              
              
              
              37,623Investment
      securities held-to-maturity
              
              
              3,315
              
              
              
              3,352
              
              
              
              1,451
              
              
              
              1,475Loans
      held for sale
              
              
              561
              
              
              
              561
              
              
              
              -
              
              
              
              -Loans
      receivable, net
              
              
              482,481
              
              
              
              493,293
              
              
              
              473,304
              
              
              
              476,665Accrued
      income receivable
              
              
              2,004
              
              
              
              2,004
              
              
              
              2,074
              
              
              
              2,074Financial
      LiabilitiesDeposits
              
              $
              394,286
              
              
              $
              393,899
              
              
              $
              380,931
              
              
              $
              379,176Borrowed
      funds
              
              
              112,538
              
              
              
              115,363
              
              
              
              118,984
              
              
              
              120,719Mortgagors'
      escrow accounts
              
              
              4,935
              
              
              
              4,935
              
              
              
              4,888
              
              
              
              4,888


Fair
Value Hierarchy





FASB ASC
Topic 820 “Fair Value Measurements” establishes a fair value hierarchy for use
in grouping assets and liabilities. The three levels within the hierarchy are as
follows:





•
            
            Level 1:Valuation is
      based upon unadjusted quoted prices in active markets for identical assets
      or liabilities that the reporting entity has the ability to access at the
      measurement date.





•
            
            Level 2: Fair value is
      calculated using inputs other than quoted market prices that are directly
      or indirectly observable for the asset or liability. The valuation may
      rely on quoted prices for similar assets or liabilities in active markets,
      quoted prices for identical or similar assets or liabilities in inactive
      markets, inputs other than quoted prices that are observable for the asset
      or liability (such as interest rates, volatilities, prepayment speeds,
      credit ratings, etc.) or inputs that are derived principally or
      corroborated by market data by correlation or other
  means.





•
            
            Level 3: Inputs for
      determining the fair value of the respective assets or liabilities are not
      observable. Level 3 valuations are reliant upon pricing models and
      techniques that require significant management judgment or
      estimation.


Categorization
within the valuation hierarchy is based upon the lowest level of input that is
significant to the fair value measurement. A description of the valuation
methodologies used by the Company is presented below.




Cash and cash
equivalents-
The carrying amount of cash, due from banks, and interest-bearing deposits is
used to approximate fair value, given the short timeframe to maturity and as
such assets do not present unanticipated credit concerns.




Investment Securities- When
quoted prices are available in an active market, the Company classifies
securities within level 1 of the valuation hierarchy.  The Company had
no securities classified as level 1 at June 30, 2010 or December 31,
2009.




If quoted
market prices are not available, the Company employs an independent pricing
service who utilizes matrix pricing to calculate fair value. Such fair value
measurements consider observable data such as dealer quotes, market spreads,
cash flows, yield curves, live trading levels, trade execution data, market
consensus prepayments speeds, credit information, and the respective terms and
conditions for debt instruments. Level 2 securities include CMOs, mortgage
backed securities and corporate bonds issued by GSEs.





When a
market is illiquid or there is a lack of transparency around the inputs to
valuation, the respective securities are classified as level 3 and reliance is
placed upon internally developed models and management judgment and evaluation
for valuation.  Auction rate preferred securities (“ARPs”) are
currently classified as level 3.





Management
uses an internally developed model to value auction-rate trust preferred
securities.  The valuation model is based on a discounted cash flow
using the expected value of the collateral preferred shares, either at call
dates or the maturity date of the trust, the credit rating of the issuer of the
preferred shares, the expected yield during the holding period and current rates
for U.S. Treasury securities matching the expected remaining term of the
trust.  The expected value of the collateral preferred shares (either
when called or upon maturity of the trust) is assumed to range between current
market prices and par.  Discount rates are implied from observable
market inputs. The resulting discounted cash flows for each of the ARPs
indicated little to no impairment in the fair value of the
securities.  On a quarterly basis, management reviews the trust
preferred securities pricing generated from our internal model.


14
 Table of Contents








Loans Receivable- Loans held
for sale are accounted for at the lower of cost or market. The fair value of
loans held for sale are based on quoted market prices of similar or identical
loans sold in conjunction with securitization transactions, adjusted as required
for changes in loan characteristics. The Company employs an independent third
party to provide fair value estimates for loans held for investment. Such
estimates are calculated using discounted cash flow analysis, using market
interest rates for comparable loans. The associated cash flows are adjusted for
credit and other potential losses. Fair value for impaired loans is estimated
using the net present value of the expected cash flows or the fair value of the
underlying collateral if repayment is collateral dependent.




Foreclosed Property and Repossessed
Assets - Foreclosed property and repossessed assets are recorded as held
for sale initially at the lower of the loan balance or fair value of the
collateral less estimated selling costs. For the six months ended June 30,
2010 and 2009, foreclosed properties with a carrying value of $287,000 and
$154,000, respectively, were transferred to foreclosed property from loans.
Prior to the transfer, the assets whose fair value less costs to sell was less
than their carrying value, were written down to fair value through a charge to
the allowance for loan losses. Subsequent to foreclosure, valuations are updated
periodically, and the assets may be marked down further, reflecting a new cost
basis. There were no subsequent valuation adjustments to foreclosed properties
and repossessed assets for the six months ended June 30, 2010 and
2009.  Fair value measurements may be based upon appraisals or
third-party price opinions and, accordingly, those measurements are classified
as Level 2. Other fair value measurements may be based on internally developed
pricing methods, and those measurements are classified as Level 3.




Deposit Liabilities - The
fair values disclosed for demand deposits are by definition equal to the amount
payable on demand at the reporting date which is also their carrying value. The
carrying amounts of variable-rate, fixed term money market accounts and
certificates of deposit approximate their fair values at the reporting date.
Fair values for fixed rate certificates of deposit are estimated using a
discounted cash flow calculation that applies market interest rates on
comparable instruments to a schedule of aggregated expensed monthly maturities
on time deposits.




Borrowed Funds -Carrying
value is as an estimate of fair value for securities sold under agreements to
repurchase and other short term debt that matures within 90 days. The fair
values of other borrowings are estimated using discounted cash flow analyses
based on current market rates adjusted, as appropriate, for associated credit
and option risks.





Under
certain circumstances we make adjustment to fair value for our assets although
they are not measured at fair value on an ongoing basis. These include assets
that are measured at the lower of cost or market that were recognized at fair
value (i.e., below cost) at the end of the period, as well as assets that are
not measured at fair value on an ongoing basis but are subject to fair value
adjustments in certain circumstances (e.g., when there is evidence of
impairment).





Assets
and liabilities measured at fair value, including financial assets and
liabilities for which the Company has elected the fair value option, are
summarized below:





June
      30, 2010Carrying
      Value(In
      thousands)
              
              Level
      1
              
              
              Level
      2
              
              
              Level
      3
              
              
              TotalAssets
      measured at fair value on a recurring basis:Available-for-sale
      investment securities
              
              $
              -
              
              
              $
              28,098
              
              
              $
              7,486
              
              
              $
              35,584Residential
      loans held for sale
              
              
              -
              
              
              
              561
              
              
              
              -
              
              
              
              561Assets
      measured at fair value on a non-recurring basis:Impaired
      loans
              
              
              -
              
              
              
              6,392
              
              
              
              17
              
              
              
              6,409Real
      estate owned
              
              
              -
              
              
              
              -
              
              
              
              167
              
              
              
              167


15
 Table of Contents








There
were no significant transfers of assets between Levels 1, 2 or 3 of the fair
value hierarchy during the three months ended June 30, 2010.





The
following table shows a reconciliation of the beginning and ending balances for
level 3 assets measured at fair value on a recurring basis:





For
      the Six
              
              
              For
      the YearMonths
      Ended
              
              
              EndedJune
      30,
              
              
              December
      31,(In
      thousands)
              
              2010
              
              
              2009(Unaudited)
              
              
              (Audited)Balance
      at beginning of period
              
              $
              7,880
              
              
              $
              6,744New
      purchases
              
              
              -
              
              
              
              -Transfer
      to (from) level 3
              
              
              -
              
              
              
              -Increase
      (decrease) in fair value of securities
              
              
              
              
              
              
              -included
      in accumulated othercomprehensive
      income
              
              
              (394
              )
              
              
              2,219Impairment
      charges included in net income
              
              
              
              
              
              
              -Proceeds
      from sale of level 3 securities
              
              
              -
              
              
              
              (83
              )Redemptions
      at par
              
              
              -
              
              
              
              (1,000
              )Balance
      at end of period
              
              $
              7,486
              
              
              $
              7,880











Item
2. Management’s Discussion and Analysis of Financial Condition
and Results of Operations.





This
discussion should be read in conjunction with the Company’s Consolidated
Financial Statements for the year ended December 31, 2009 included in the
Company’s Annual Report on Form 10-K.








Forward-Looking
Statements





This
report contains forward-looking statements that are based on assumptions and may
describe future plans, strategies and expectations of the
Company.  These forward-looking statements are generally identified by
use of the words “believe”, “expect”, “intend”, “anticipate”, “estimate”,
“project” or similar expressions.  The Company’s ability to predict
results or the actual effect of future plans or strategies is inherently
uncertain. Factors which could have a material adverse effect on the operations
of the Company and its subsidiaries include, but are not limited to, changes in
interest rates, national and regional economic conditions, legislative and
regulatory changes, monetary and fiscal policies of the U.S. government,
including policies of the U.S. Treasury and the Federal Reserve Board, the size,
quality and composition of the loan or investment portfolios, demand for loan
products, deposit flows, competition, demand for financial services in the
Company’s market area, changes in real estate market values in the Company’s
market area, and changes in relevant accounting principles and
guidelines.  Additional factors are discussed below under “Item 1A –
Risk Factors” and in the Company’s Annual Report on Form 10-K for the year ended
December 31, 2009 under “Item 1A. Risk Factors”.  These risks and
uncertainties should be considered in evaluating forward-looking statements and
undue reliance should not be placed on such statements.  Except as
required by applicable law or regulation, the Company does not undertake, and
specifically disclaims any obligation, to release publicly the result of any
revisions that may be made to any forward-looking statements to reflect events
or circumstances after the date of the statements or to reflect the occurrence
of anticipated or unanticipated events.














16
 Table of Contents





Comparison
of Financial Condition at June 30, 2010 and December 31, 2009





Total
assets increased by $8.3 million, or 1.5%, to $565.2 million during the period
from December 31, 2009 to June 30, 2010, primarily due to an increase of $9.7
million in loans, partially offset by a decrease in cash and cash equivalents of
$1.2 million and a net decrease in investments of $175,000.  The
increase in loans primarily reflects an increase of $25.2 million in
multi-family and commercial real estate loans, an increase of $1.4 million in
loans on savings accounts and an increase of $574,000 in commercial business
loans, partially offset by a decrease of $12.5 million in construction loans and
a decrease of $4.1 million in residential mortgage loans.  The
increase in loans was primarily funded by increases in deposits, and, to a
lesser extent, the sale of investments.  While the largest segment of
the loan portfolio is one-to four-family real estate loans, the Bank continues
to grow its multi-family and commercial real estate portfolio.





Total
liabilities were $514.0 million at June 30, 2010 compared to $506.6 million at
December 31, 2009.  Deposits at June 30, 2010 increased $13.4 million,
or 3.5%, over December 31, 2009.  Borrowed funds, including advances
from the Federal Home Loan Bank of Boston and reverse repurchase agreements,
decreased $6.4 million, from $119.0 million at December 31, 2009 to $112.5
million at June 30, 2010.  The increases in deposits were used
primarily to fund the growth in loans, and to a lesser extent, pay off
borrowings.





Total
stockholders’ equity increased $912,000, from $50.3 million at December 31, 2009
to $51.2 million at June 30, 2010.  The increase in stockholders’
equity was primarily due to net income of $993,000 for the six month period and
$122,000 in capital adjustments related to the Company’s 2005 Equity Incentive
Plan, partially offset by dividends of $159,000 paid to stockholders and a net
increase in the unrealized loss on available for sale securities of
$46,000.








Comparison
of Operating Results For the Three and Six Months Ended June 30, 2010 and
2009





General.     For
the three months ended June 30, 2010, the Company recorded net income of
$680,000 compared to net income of $239,000 for the three months ended June 30,
2009, an increase of $441,000, or 184.5%.  Net income increased
$385,000 to $993,000 for the six months ended June 30, 2010 from $608,000 for
the six months ended June 30, 2009.  The increase in the three month
period was primarily due to a higher level of net interest income and
noninterest income, partially offset by a higher loan loss provision and higher
noninterest expense.  The increase in the six month period was
primarily due to a higher level of net interest income, partially offset by a
higher loan loss provision, a lower level of noninterest income and a higher
level on noninterest expense.





Net Interest
Income.Net interest income
increased $873,000, or 23.3%, to $4.6 million for the three months ended June
30, 2010 and increased by $1.7 million, or 23.3%, to $9.1 million for the six
months ended June 30, 2010.  The increase in net interest income for
the three month period resulted from a $178,000, or 2.5%, increase in total
interest income, combined with a $695,000, or 21.3%, decrease in interest
expense.  For the six month period ended June 30, 2010, total interest
income increased $234,000, or 1.7%, combined with a decrease of $1.5 million, or
22.4%, in total interest expense.  The Company experienced an increase
in the average balances of interest earning assets of 4.5% in the three month
period and an increase of 3.5% in the six month period, while the average rate
earned on these assets decreased by 10 basis points in both
periods.  The increase in interest earning assets is attributed
primarily to an increase in the loan portfolio.  The average balance
in the loan portfolio increased by 9.3% in the both periods, primarily in the
commercial mortgage portfolio.  The Company experienced a decrease in
the average balance of investment securities of 29.2% in the three month period
and a decrease of 31.2% in the six month period, due to sales of mortgage backed
securities and increased prepayment speeds in the mortgage backed securities
portfolio.





Interest
expense decreased by $695,000, or 21.3% for the three months ended June 30,
2010, due to a reduction of 66 basis points in the average cost of interest
bearing liabilities, from 2.67% to 2.01%.  The decrease in the average
cost of interest bearing liabilities, due primarily to the decreasing rate
environment,  was partially offset by a $23.0 million increase in the
average balance of interest bearing liabilities.  The average balance
of interest-bearing deposits increased by $18.6 million, or 5.0% and the average
balance of borrowed funds increased by $238,000, or 2.4% over this
period.  Interest expense also decreased in the six month period ended
June 30, 2010 by $1.5 million, or 22.4%, also as a result of a decrease of 68
basis points in the average cost, partially offset by an increase in the average
balance of interest-bearing liabilities of $18.1 million, or
3.7%.


17
 Table of Contents





The
following table summarizes changes in interest income and interest expense for
the three and six months ended June 30, 2010 and 2009.





Three
      Months
              
              
              
              
              
              Six
      MonthsEnded
      June 30,
              
              
              
              
              
              Ended
      June 30,2010
              
              
              2009
              
              
              %
      Change
              
              2010
              
              
              2009
              
              
              %
      Change(Dollars
      in thousands)Interest
      income:Loans
              
              $
              6,782
              
              
              $
              6,387
              
              
              
              6.18
              %
              
              $
              13,466
              
              
              $
              12,765
              
              
              
              5.49
              %Fed
      Funds sold
              
              
              1
              
              
              
              1
              
              
              
              -
              %
              
              
              1
              
              
              
              4
              
              
              
              (75.00)
              %Investment
      securities
              
              
              402
              
              
              
              619
              
              
              
              (35.06)
              %
              
              
              862
              
              
              
              1,326
              
              
              
              (34.99)
              %Total
      interest income
              
              
              7,185
              
              
              
              7,007
              
              
              
              2.54
              %
              
              
              14,329
              
              
              
              14,095
              
              
              
              1.66
              %Interest
      expense:Certificate
      accounts
              
              
              1,634
              
              
              
              1,975
              
              
              
              (17.27)
              %
              
              
              3,292
              
              
              
              4,071
              
              
              
              (19.14)
              %Regular
      savings accounts
              
              
              108
              
              
              
              103
              
              
              
              4.85
              %
              
              
              194
              
              
              
              199
              
              
              
              (2.51)
              %Checking
      and NOW accounts
              
              
              13
              
              
              
              11
              
              
              
              18.18
              %
              
              
              24
              
              
              
              23
              
              
              
              4.35
              %Money
      market savings accounts
              
              
              60
              
              
              
              75
              
              
              
              (20.00)
              %
              
              
              117
              
              
              
              171
              
              
              
              (31.58)
              %Total
      interest-bearing deposits
              
              
              1,815
              
              
              
              2,164
              
              
              
              (16.13)
              %
              
              
              3,627
              
              
              
              4,464
              
              
              
              (18.75)
              %FHLB
      advances
              
              
              731
              
              
              
              1,060
              
              
              
              (31.04)
              %
              
              
              1,503
              
              
              
              2,166
              
              
              
              (30.61)
              %Other
      borrowings
              
              
              25
              
              
              
              42
              
              
              
              (40.48)
              %
              
              
              57
              
              
              
              51
              
              
              
              11.76
              %Total
      interest expense
              
              
              2,571
              
              
              
              3,266
              
              
              
              (21.28)
              %
              
              
              5,187
              
              
              
              6,681
              
              
              
              (22.36)
              %Net
      interest income
              
              $
              4,614
              
              
              $
              3,741
              
              
              
              23.34
              %
              
              $
              9,142
              
              
              $
              7,414
              
              
              
              23.31
              %








The
following table summarizes average balances and average yields and costs for the
three and six months ended June 30, 2010 and 2009.





Three
      Months Ended June 30,
              
              
              Six
      Months Ended June 30,2010
              
              
              2009
              
              
              2010
              
              
              2009Average
              
              
              Yield/
              
              
              Average
              
              
              Yield/
              
              
              Average
              
              
              Yield/
              
              
              Average
              
              
              Yield/Balance
              
              
              Cost
              
              
              Balance
              
              
              Cost
              
              
              Balance
              
              
              Cost
              
              
              Balance
              
              
              Cost(Dollars
      in thousands)Interest-earning
      assetsLoans
              
              $
              483,397
              
              
              
              5.61
              %
              
              $
              442,393
              
              
              
              5.77
              %
              
              $
              479,210
              
              
              
              5.62
              %
              
              $
              438,591
              
              
              
              5.82
              %Fed
      Funds sold
              
              
              3,400
              
              
              
              0.12
              %
              
              
              6,109
              
              
              
              0.07
              %
              
              
              3,762
              
              
              
              0.05
              %
              
              
              8,762
              
              
              
              0.09
              %Investment
      securities
              
              
              37,889
              
              
              
              4.24
              %
              
              
              53,513
              
              
              
              4.63
              %
              
              
              38,876
              
              
              
              4.43
              %
              
              
              56,530
              
              
              
              4.69
              %Federal
      Home Loan Bank stock
              
              
              6,252
              
              
              
              0.00
              %
              
              
              6,252
              
              
              
              0.00
              %
              
              
              6,252
              
              
              
              0.00
              %
              
              
              6,252
              
              
              
              0.00
              %Total
      interest-earning assets
              
              $
              530,938
              
              
              
              5.41
              %
              
              $
              508,267
              
              
              
              5.51
              %
              
              $
              528,100
              
              
              
              5.43
              %
              
              $
              510,135
              
              
              
              5.53
              %Interest-bearing
      liabilitiesCertificate
      accounts
              
              $
              235,848
              
              
              
              2.77
              %
              
              $
              240,234
              
              
              
              3.29
              %
              
              $
              234,759
              
              
              
              2.80
              %
              
              $
              240,527
              
              
              
              3.39
              %Regular
      savings accounts & escrow
              
              
              74,178
              
              
              
              0.58
              %
              
              
              60,084
              
              
              
              0.69
              %
              
              
              71,315
              
              
              
              0.54
              %
              
              
              56,818
              
              
              
              0.70
              %Checking
      and NOW accounts
              
              
              57,550
              
              
              
              0.09
              %
              
              
              49,557
              
              
              
              0.09
              %
              
              
              56,913
              
              
              
              0.08
              %
              
              
              53,577
              
              
              
              0.09
              %Money
      market savings accounts
              
              
              26,693
              
              
              
              0.90
              %
              
              
              25,795
              
              
              
              1.16
              %
              
              
              26,289
              
              
              
              0.89
              %
              
              
              25,468
              
              
              
              1.34
              %Total
      interest-bearing deposits
              
              
              394,269
              
              
              
              1.84
              %
              
              
              375,670
              
              
              
              2.30
              %
              
              
              389,276
              
              
              
              1.86
              %
              
              
              376,390
              
              
              
              2.37
              %FHLB
      advances
              
              
              107,524
              
              
              
              2.72
              %
              
              
              103,333
              
              
              
              4.10
              %
              
              
              108,703
              
              
              
              2.77
              %
              
              
              109,299
              
              
              
              3.96
              %Other
      borrowings
              
              
              10,273
              
              
              
              0.97
              %
              
              
              10,035
              
              
              
              1.67
              %
              
              
              11,717
              
              
              
              0.97
              %
              
              
              5,932
              
              
              
              1.72
              %Total
      interest-bearing liabilities
              
              $
              512,066
              
              
              
              2.01
              %
              
              $
              489,038
              
              
              
              2.67
              %
              
              $
              509,696
              
              
              
              2.04
              %
              
              $
              491,621
              
              
              
              2.72
              %




Allowance for
Loan Losses and Asset Quality.  The allowance for loan losses
is a valuation allowance for the probable losses inherent in the loan
portfolio.  We evaluate the need to establish allowances against
losses on loans on a quarterly basis, or more often if
warranted.  When additional allowances are needed a provision for loan
losses is charged against earnings.  The recommendations for increases
or decreases to the allowance are presented by management to the Board of
Directors on a quarterly basis, or more often if warranted. The methodology for
assessing the appropriateness of the allowance for loan losses consists of the
following process:


18
 Table of Contents








On a
quarterly basis, or more often if warranted, management analyzes the loan
portfolio.  For individually evaluated loans that are considered
impaired, a reserve will be established based on either the present value of
expected future cash flows discounted at the loan’s effective interest rate, the
loan’s observable market price, or for loans that are considered collateral
dependant, the fair value of the collateral.  A loan is considered
impaired when, based on current information and events, it is probable that a
creditor will be unable to collect all amounts due under the contractual term of
the loan agreement.





All other
loans, including loans that are individually evaluated but not considered
impaired, are segregated into groups based on similar risk
factors.  Each of these groups is then evaluated based on several
factors to estimate credit losses.  Management will determine for each
category of loans with similar risk characteristics the historical loss
rate.  Historical loss rates provide a reasonable starting point for
the Bank’s analysis but analysis and trends in losses do not form a sufficient
basis to determine the appropriate level of the loan loss
reserve.  Management also considers qualitative and environmental
factors likely to cause losses.  These factors include but are not
limited to: changes in the amount and severity of past due, non-accrual and
adversely classified loans; changes in local, regional, and national economic
conditions that will affect the collectibility of the portfolio; changes in the
nature and volume of loans in the portfolio; changes in concentrations of
credit, lending area, industry concentrations, or types of borrowers; changes in
lending policies, procedures, competition, management, portfolio mix,
competition, pricing, loan to value trends, extension and modification requests;
and loan quality trends.  This analysis establishes factors that are
applied to each of the segregated groups of loans to determine an acceptable
level of loan loss reserve.





In
addition, we engage an independent consultant to review our commercial loan
portfolio and consider recommendations based on their review of specific credits
in the portfolio for classifying and monitoring these loans.





Although
we believe that we use the best information available to establish the allowance
for loan losses, future adjustments to the allowance for loan losses may be
necessary and results of operations could be adversely affected if circumstances
differ substantially from the assumptions used in making the determinations. In
addition, because further events affecting borrowers and collateral cannot be
predicted with certainty, there can be no assurance that the existing allowance
for loan losses is adequate or that increases will not be necessary should the
quality of any loans deteriorate as a result of the factors discussed
above.





Furthermore,
while we believe we have established our allowance for loan losses in conformity
with generally accepted accounting principles, there can be no assurance that
regulators, in reviewing our loan portfolio during their examination process,
will not request us to increase our allowance for loan losses based on
information available to them at the time of their examination and their
judgment, which may differ from ours.





Any
material increase in the allowance for loan losses may adversely affect our
financial condition and results of operations.





The
following table summarizes the activity in the allowance for loan losses and
provision for loan losses for the three and six months ended June 30, 2010 and
2009.





Three
      Months
              
              
              Six
      MonthsEnded
      June 30,
              
              
              Ended
      June 30,2010
              
              
              2009
              
              
              2010
              
              
              2009(In
      thousands)Allowance
      at beginning of period
              
              $
              4,796
              
              
              $
              3,143
              
              
              $
              3,996
              
              
              $
              2,869Provision
      for loan losses
              
              
              361
              
              
              
              272
              
              
              
              1,171
              
              
              
              557Charge-offs
              
              
              (38
              )
              
              
              -
              
              
              
              (48
              )
              
              
              (11
              )Recoveries
              
              
              -
              
              
              
              1
              
              
              
              -
              
              
              
              1Net
      recoveries (charge-offs)
              
              
              (38
              )
              
              
              1
              
              
              
              (48
              )
              
              
              (10
              )Allowance
      at end of period
              
              $
              5,119
              
              
              $
              3,416
              
              
              $
              5,119
              
              
              $
              3,416


19
 Table of Contents








The
Company recorded a provision for loan losses of $361,000 for the three month
period ended June 30, 2010, compared to $272,000 for the same 2009
period.  Provisions of $1.2 million and $557,000 were recorded for the
six months ended June 30, 2010 and 2009, respectively.  The increase
in the provision in the 2010 periods was due primarily to an increase in
non-performing and classified loans, the growth of the total loan portfolio, a
change in the mix of the portfolio towards commercial real estate loans which
are generally inherently riskier than one-to-four family loans, and general
economic conditions.  Additionally, the six month period ended June
30, 2010 includes the allocation of a specific reserve of $275,000 for one
commercial real estate loan based primarily on the results of a recent
independent appraisal of the collateral property.  The charge-offs in
the 2010 period were due to a write down of the value of a two properties taken
as a deed-in-lieu of foreclosure, the charge-off of a commercial line of credit
and a personal line of credit.





The
following table provides information with respect to the Company’s nonperforming
assets at the dates indicated. There were no troubled debt restructures during
the quarter ended June 30, 2010.  The Company did not have any
accruing loans past due 90 days or more at the dates presented.





At
      June 30,
              
              
              At
      December 31,2010
              
              
              2009
              
              
              %
      Change(Dollars
      in thousands)Nonaccrual
      loans
              
              $
              11,382
              
              
              $
              6,000
              
              
              
              89.70
              %Troubled
      debt restructurings
              
              
              1,185
              
              
              
              -
              
              
              
              N/AReal
      estate owned
              
              
              167
              
              
              
              140
              
              
              
              N/ATotal
      nonperforming assets
              
              $
              12,734
              
              
              $
              6,140
              
              
              
              107.39
              %Total
      nonperforming loans to total loans
              
              
              2.58
              %
              
              
              1.26
              %
              
              
              104.76
              %Total
      nonperforming loans to total assets
              
              
              2.22
              %
              
              
              1.08
              %
              
              
              105.56
              %Total
      nonperforming assets to total assets
              
              
              2.25
              %
              
              
              1.10
              %
              
              
              104.55
              %





Non-performing
loans totaled $12.6 million at June 30, 2010 compared to $6.0 million at
December 31, 2009.  The increase was primarily the result of the
placing of two commercial mortgage relationships totaling $4.2 million on
non-accrual status during the first quarter. Management is working with one of
the borrowers on a loan which is secured by a mortgage on a storage facility
located in Connecticut.  A recent appraisal has been obtained and the
loan is in the process of being modified.  The second relationship is
secured by an approved residential development.  Management is
attempting a work out of the project, but it may result in a
foreclosure.  During the second quarter of 2010, a commercial real
estate loan relationship (secured by retail space located in Connecticut) of
$828,000 was placed on non-accrual status and has been sent for
foreclosure.





There was
a 2.5% increase in the level of classified assets from December 31, 2009 to June
30, 2010 primarily in our commercial loan portfolio.  Classified
assets increased from $60.5 million at December 31, 2009 to $62.0 million at
June 30, 2010.  These classified assets are primarily loans rated special
mention or substandard in accordance with regulatory guidance.  These
assets warrant and receive increased management oversight and loan loss reserves
have been established to account for the increased credit risk of these
assets.  Out of the Company’s $62.8 million in classified assets,
$12.7 million were nonperforming as of June 30, 2010.











20
 Table of Contents





Noninterest
Income.The following
table summarizes noninterest income for the three and six months ended June 30,
2010 and 2009.




Three
      Months
              
              
              
              
              
              Six
      MonthsEnded
      June 30,
              
              
              
              
              
              Ended
      June 30,2010
              
              
              2009
              
              
              %
      Change
              
              2010
              
              
              2009
              
              
              %
      Change(Dollars
      in thousands)Fees
      for services related to deposit accounts
              
              $
              244
              
              
              $
              258
              
              
              
              (5.43)
              %
              
              $
              490
              
              
              $
              493
              
              
              
              (0.61)
              %Fees
      for other services
              
              
              220
              
              
              
              174
              
              
              
              26.44
              %
              
              
              386
              
              
              
              299
              
              
              
              29.10
              %Income
      from bank owned life insurance
              
              
              83
              
              
              
              87
              
              
              
              (4.60)
              %
              
              
              167
              
              
              
              171
              
              
              
              (2.34)
              %Income
      from investment advisory services, net
              
              
              54
              
              
              
              101
              
              
              
              (46.53)
              %
              
              
              95
              
              
              
              158
              
              
              
              (39.87)
              %Gain
      on investments
              
              
              3
              
              
              
              -
              
              
              
              N/A
              
              
              
              11
              
              
              
              176
              
              
              
              (93.75)
              %Other
      income
              
              
              55
              
              
              
              25
              
              
              
              120.00
              %
              
              
              81
              
              
              
              56
              
              
              
              44.64
              %Total
              
              $
              659
              
              
              $
              645
              
              
              
              2.17
              %
              
              $
              1,230
              
              
              $
              1,353
              
              
              
              (9.09)
              %




Noninterest
income increased $14,000, or 2.2%, for the three months ended June 30, 2010, and
decreased $123,000, or 9.1% in the six month period, as compared to the same
2009 periods.  The increase in the three month period is primarily due
to an increase in fees for other services, partially offset by decreases in
income from investment advisory services and fees for services related to
deposit accounts.  This decrease in the six month period was primarily
due to a lower level of gains realized on the sale of investments and income
from investment advisory services in the 2010 period, partially offset by an
increase in fees for other services. The increase in fees for other services in
both periods is largely due to the fees associated with the increase in activity
in the secondary mortgage market.





Noninterest
Expense.  The following
table summarizes noninterest expense for the three and six months ended June 30,
2010 and 2009.





Three
      Months
              
              
              
              
              
              Six
      MonthsEnded
      June 30,
              
              
              
              
              
              Ended
      June 30,2010
              
              
              2009
              
              
              %
      Change
              
              
              2010
              
              
              2009
              
              
              %
      Change(Dollars
      in thousands)Compensation,
      taxes and benefits
              
              $
              2,122
              
              
              $
              1,943
              
              
              
              9.21
              %
              
              $
              4,196
              
              
              $
              3,827
              
              
              
              9.64
              %Office
      occupancy
              
              
              592
              
              
              
              559
              
              
              
              5.90
              %
              
              
              1,178
              
              
              
              1,093
              
              
              
              7.78
              %Computer
      processing
              
              
              233
              
              
              
              248
              
              
              
              (6.05)
              %
              
              
              462
              
              
              
              470
              
              
              
              (1.70)
              %Directors
      compensation
              
              
              172
              
              
              
              118
              
              
              
              45.76
              %
              
              
              388
              
              
              
              317
              
              
              
              22.40
              %FDIC
      insurance premiums
              
              
              170
              
              
              
              389
              
              
              
              (56.30)
              %
              
              
              332
              
              
              
              625
              
              
              
              (46.88)
              %Advertising
              
              
              93
              
              
              
              130
              
              
              
              (28.46)
              %
              
              
              166
              
              
              
              185
              
              
              
              (10.27)
              %Loss
      on foreclosed real estate, net
              
              
              13
              
              
              
              2
              
              
              
              550.00
              %
              
              
              31
              
              
              
              9
              
              
              
              244.44
              %Other
      expenses
              
              
              524
              
              
              
              407
              
              
              
              28.75
              %
              
              
              1,020
              
              
              
              870
              
              
              
              17.24
              %Total
              
              $
              3,919
              
              
              $
              3,796
              
              
              
              3.24
              %
              
              $
              7,773
              
              
              $
              7,396
              
              
              
              5.10
              %





Noninterest
expense increased by $123,000 and by $377,000 for the three and six month
periods ended June 30, 2010, respectively, over the same 2009
periods.  The increase in both periods was primarily the result of
increases in compensation costs, directors compensation, office occupancy and
loss on foreclosed real estate, partially offset by decreases in FDIC insurance
premiums, advertising and computer processing over the 2009
periods.  The 2009 periods include the accrual for the FDIC onetime
special assessment in the amount of $250,000.  Additionally, “other
expenses” in the 2010 periods include nonrecurring costs associated with the
planned acquisition of Southern Connecticut Bancorp, Inc. totaling approximately
$89,000 and $155,000 for the three and six months ended June 30, 2010,
respectively.








Liquidity
and Capital Resources





Liquidity
is the ability to meet current and future short-term financial
obligations.  The Company’s primary sources of funds consist of
deposit inflows, loan repayments, maturities and sales of investment securities
and advances from the Federal Home Loan Bank of Boston.  While
maturities and scheduled amortization of loans and securities are predictable
sources of funds, deposit flows and mortgage prepayments are greatly influenced
by general interest rates, economic conditions and competition.


21
 Table of Contents





Each
quarter the Company projects liquidity availability and demands on this
liquidity for the next 90 days.  The Company regularly adjusts its
investments in liquid assets based upon its assessment of (1) expected loan
demand, (2) expected deposit flows, (3) yields available on
interest-earning deposits and securities, and (4) the objectives of our
asset/liability management program.  Excess liquid assets are invested
generally in federal funds, short- and intermediate-term U.S. Government agency
obligations and to a lesser extent, municipal securities.





The
Company’s most liquid assets are cash and cash equivalents.  The
levels of these assets depend on our operating, financing, lending and investing
activities during any given period.  At June 30, 2010, cash and cash
equivalents totaled $11.0 million, including federal funds of
$816,000.  Securities classified as available-for-sale, which provide
additional sources of liquidity, totaled $35.6 million at June 30,
2010.  At June 30, 2010, the Company had the ability to borrow a total
of $155.5 million from the Federal Home Loan Bank of Boston, of which $108.4
million in borrowings was outstanding, along with $4.1 million in repurchase
agreements.  At June 30, 2010, the Company had arranged overnight
lines of credit of $2.5 million with the Federal Home Loan Bank of
Boston.  The Company had no overnight advances outstanding with the
Federal Home Loan Bank of Boston as of that date.  In addition, at
June 30, 2010, the Company had the ability to borrow $3.5 million from a
correspondent bank.  The Company had no advances outstanding on this
line at June 30, 2010.





The
following table summarizes the commitments and contingent liabilities as of the
dates indicated:




June
      30,
              
              
              December
      31,(In
      thousands)
              
              2010
              
              
              2009Commitments
      to extend credit:Loan
      commitments
              
              $
              10,395
              
              
              $
              10,611Unused
      lines of credit
              
              
              20,546
              
              
              
              21,142Amounts
      due mortgagors on construction loans
              
              
              24,457
              
              
              
              28,843Amounts
      due on commercial  loans
              
              
              19,649
              
              
              
              17,899Commercial
      letters of credit
              
              
              4,191
              
              
              
              4,332





Certificates
of deposit due within one year of June 30, 2010 totaled $117.7 million, or 29.8%
of total deposits.  If these deposits do not remain with us, the
Company will be required to seek other sources of funds, including other
certificates of deposit and our available lines of credit.  Depending
on market conditions, the Company may be required to pay higher rates on such
deposits or other borrowings than are currently paid on the certificates of
deposit due on or before June 30, 2011.  Based on past experience,
however, the Company believes that a significant portion of our certificates of
deposit will remain with us.  The Company has the ability to attract
and retain deposits by adjusting the interest rates offered.





Historically,
the Company (on a consolidated basis) has remained highly liquid.  The
Company is not aware of any trends and/or demands, commitments, events or
uncertainties that could result in a material decrease in
liquidity.  The Company expects that all of our liquidity needs,
including the contractual commitments stated above, the estimated costs of our
branch expansion plans and increases in loan demand can be met by our currently
available liquid assets and cash flows.  In the event loan demand was
to increase at a pace greater than expected, or any unforeseen demand or
commitment were to occur, we could access our borrowing capacity with the
Federal Home Loan Bank of Boston.  The Company expects that our
currently available liquid assets and our ability to borrow from the Federal
Home Loan Bank of Boston would be sufficient to satisfy our liquidity needs
without any material adverse effect on our liquidity.





The
Company’s primary investing activities are the origination of loans and the
purchase of securities.  For the six months ended June 30, 2010, the
Company originated $43.2 million of loans, including renewals and refinances,
and purchased $11.1 million of securities.  These activities were
funded primarily by the proceeds from sales and maturities of available-for-sale
securities and held to maturity securities of $11.4 million and an increase of
$13.4 million in deposits.





Financing
activities consist primarily of activity in deposit accounts and in Federal Home
Loan Bank advances.  The Company experienced a net increase in total
deposits of $13.4 million for the six months ended June 30,
2010.  Deposit flows are affected by the overall level of interest
rates, the interest rates and products offered by us and its local competitors
and other factors.  The Company generally manages the pricing of
deposits to be competitive and to increase core deposit
relationships.  Occasionally, the Company offers promotional rates on
certain deposit


22
 Table of Contents





products
in order to attract deposits.  The Company experienced a net decrease
in Federal Home Loan Bank advances and repurchase agreements of $6.4 million for
the six months ended June 30, 2010.  The increases in deposit accounts
primarily funded our lending activities and, to a lesser extent, repayment of
Federal Home Loan Bank advances.





The
Company is a separate legal entity from the Bank and must provide for its own
liquidity.  In addition to its operating expenses, the Company, on a
stand-alone basis, is responsible for paying any dividends declared to its
shareholders.  The Company also has repurchased shares of its common
stock.  The Company’s primary source of income is dividends received
from the Bank.  The amount of dividends that the Bank may declare and
pay to the Company in any calendar year, without the receipt of prior approval
from the Office of Thrift Supervision (“OTS”) but with prior notice to the OTS,
cannot exceed net income for that year to date plus retained net income (as
defined) for the preceding two calendar years.  On a stand-alone
basis, the Company had liquid assets of $2.3 million at June 30,
2010.





The
Company is not subject to separate regulatory capital
requirements.  At June 30, 2010, the Bank was subject to the
regulatory capital requirements of the OTS, including a risk-based capital
measure.  The risk-based capital guidelines include both a definition
of capital and a framework for calculating risk-weighted assets by assigning
balance sheet assets and off-balance sheet items to broad risk
categories.  At June 30, 2010, the Bank exceeded all of its regulatory
capital requirements, and was considered “well capitalized” under regulatory
guidelines.





The
following table is a summary of the Bank’s actual capital as computed under the
standards established by the OTS at June 30, 2010.





Naugatuck
      ValleyOTS
      Regulation
              
              
              Savings
      and LoanAdequately
              
              
              Well(Dollars
      in thousands)
              
              Capitalized
              
              
              Capitalized
              
              
              Amount
              
              
              RatioTotal
      Risk-Based Capital (to Risk-Weighted Assets)
              
              
              8.00
              %
              
              
              10.00
              %
              
              $
              48,748
              
              
              
              11.25
              %Tier
      I Risk-Based Capital (to Risk-Weighted Assets)
              
              
              4.00
              %
              
              
              6.00
              %
              
              
              44,352
              
              
              
              10.24
              %Tier
      I  Capital (to Adjusted Total Assets)
              
              
              4.00
              %
              
              
              5.00
              %
              
              
              44,352
              
              
              
              7.88
              %Tangible
      Equity Capital (to Tangible Assets)
              
              
              1.50
              %
              
              
              2.00
              %
              
              
              44,352
              
              
              
              7.88
              %







Off-Balance
Sheet Arrangements





In the
normal course of operations, the Company engages in a variety of financial
transactions that, in accordance with generally accepted accounting principles,
are not recorded in our financial statements.  These transactions
involve, to varying degrees, elements of credit, interest rate, and liquidity
risks.  Such transactions are used primarily to manage customers’
requests for funding and take the form of loan commitments, unused lines of
credit, amounts due on construction loans, amounts due on commercial loans,
commercial letters of credit and commitments to sell loans.





For the
six months ended June 30, 2010, the Company did not engage in any
off-balance-sheet transactions reasonably likely to have a material effect on
its financial condition, results of operations or cash flows.











Item
3. Quantitative and Qualitative Disclosures About Market
Risk.





Qualitative Aspects of Market
Risk.The
Company’s most significant form of market risk is interest rate
risk.  The Company manages the interest rate sensitivity of its
interest-bearing liabilities and interest-earning assets in an effort to
minimize the adverse effects of changes in the interest rate
environment.  Deposit accounts typically react more quickly to changes
in market interest rates than mortgage loans because of the shorter maturities
of deposits.


23
 Table of Contents





As a
result, sharp increases in interest rates may adversely affect the Company’s
earnings while decreases in interest rates may beneficially affect the Company’s
earnings.  To reduce the potential volatility of the Company’s
earnings, the Company has sought to improve the match between assets and
liability maturities (or rate adjustment periods), while maintaining an
acceptable interest rate spread, by originating adjustable-rate mortgage loans
for retention in the loan portfolio, variable-rate home equity lines and
variable-rate commercial loans and by purchasing variable-rate investments and
investments with expected maturities of less than 10 years.  The
Company currently does not participate in hedging programs, interest rate swaps
or other activities involving the use of off-balance sheet derivative financial
instruments.





The
Bank’s Asset/Liability Committee communicates, coordinates and controls all
aspects of asset/liability management.  The committee establishes and
monitors the volume and mix of assets and funding sources with the objective of
managing assets and funding sources.





Quantitative Aspects of Market
Risk.  The Bank uses an interest rate sensitivity analysis
prepared by the OTS to review its level of interest rate risk.  This
analysis measures interest rate risk by computing changes in net portfolio value
of the Bank’s cash flows from assets, liabilities and off-balance sheet items in
the event of a range of assumed changes in market interest rates.  Net
portfolio value represents the market value of portfolio equity and is equal to
the market value of assets minus the market value of liabilities, with
adjustments made for off-balance sheet items.  This analysis assesses
the risk of loss in market risk sensitive instruments in the event of a sudden
and sustained 50 to 300 basis point increase or 50 to 100 basis point decrease
in market interest rates with no effect given to any steps that we might take to
counter the effect of that interest rate movement.  The Bank measures
interest rate risk by modeling the changes in net portfolio value over a variety
of interest rate scenarios.  The following table, which is based on
information that the Bank provides to the OTS, presents the change in the Bank’s
net portfolio value at March 31, 2010 (the most current information available)
that would occur in the event of an immediate change in interest rates based on
OTS assumptions, with no effect given to any steps that the Bank might take to
counteract that change.





Net
      Portfolio Value as % ofBasis
      Point ("bp")
              
              Net
      Portfolio Value
              
              
              
              
              
              Present
      Value of AssetsChange
      in Rates
              
              $
      Amount
              
              
              $
      Change
              
              
              %
      Change
              
              NPV
      Ratio
              
              Change(Dollars
      in thousands)300
              bp
              
              $
              36,150
              
              
              $
              (22,289
              )
              
              
              (38
              )
      %
              
              
              6.58
              %
              
              
              (3.38
              )
      %200
              
              
              
              44,660
              
              
              
              (13,779
              )
              
              
              (24
              )
      %
              
              
              7.93
              %
              
              
              (2.03
              )
      %100
              
              
              
              52,573
              
              
              
              (5,866
              )
              
              
              (10
              )
      %
              
              
              9.13
              %
              
              
              (0.83
              )
      %50
              
              
              
              55,902
              
              
              
              (2,537
              )
              
              
              (4
              )
      %
              
              
              9.61
              %
              
              
              (0.35
              )
      %0
              
              
              
              58,439
              
              
              
              -
              
              
              
              -
              
              
              
              9.96
              %
              
              
              -(50
              )
              
              
              59,677
              
              
              
              1,238
              
              
              
              2
              %
              
              
              10.10
              %
              
              
              0.14
              %(100
              )
              
              
              59,827
              
              
              
              1,388
              
              
              
              2
              %
              
              
              10.08
              %
              
              
              0.12
              %








The OTS
uses certain assumptions in assessing the interest rate risk of savings
associations.  These assumptions relate to interest rates, loan
prepayment rates, deposit decay rates, and the market values of certain assets
under differing interest rate scenarios, among others.  As with any
method of measuring interest rate risk, certain shortcomings are inherent in the
method of analysis presented in the foregoing table.  For example,
although certain assets and liabilities may have similar maturities or periods
to repricing, they may react in different degrees to changes in market interest
rates.  Also, the interest rates on certain types of assets and
liabilities may fluctuate in advance of changes in market interest rates, while
interest rates on other types may lag behind changes in market
rates.  Additionally, certain assets, such as adjustable-rate mortgage
loans, have features that restrict changes in interest rates on a short-term
basis and over the life of the asset.  Further, in the event of a
change in interest rates, expected rates of prepayments on loans and early
withdrawals from certificates could deviate significantly from those assumed in
calculating the table.





24
 Table of Contents








Item
4. Controls and Procedures.





The
Company’s management, including the Company’s principal executive officer and
principal financial officer, have evaluated the effectiveness of the Company’s
“disclosure controls and procedures”, as such term is defined in Rule 13a-15(e)
promulgated under the Securities Exchange Act of 1934, as amended, (the
“Exchange Act”).  Based upon that evaluation, the principal executive
officer and principal financial officer concluded that, as of the end of the
period covered by this report, the Company’s disclosure controls and procedures
were effective for the purpose of ensuring that the information required to be
disclosed in the reports that the Company files or submits under the Exchange
Act with the Securities and Exchange Commission (the “SEC”) (1) is recorded,
processed, summarized and reported within the time periods specified in the
SEC’s rules and forms, and (2) is accumulated and communicated to the Company’s
management, including its principal executive and principal financial officers,
as appropriate to allow timely decisions regarding required
disclosure.





There
were no changes in the Company’s internal control over financial reporting
during the three months ended June 30, 2010 that have materially affected, or
are reasonable likely to materially affect, the Company’s internal control over
financial reporting.














Part
II - OTHER INFORMATION





Item 1. - Legal Proceedings.





The
Company is not involved in any pending legal proceedings.  The Bank is
not involved in any pending legal proceedings other than routine legal
proceedings occurring in the ordinary course of business. Such routine legal
proceedings, in the aggregate, are believed by management to be immaterial to
its financial condition and results of operations.











Item
1A. – Risk Factors.





Recently
enacted regulatory reform may have a material impact on our
operations.





On July
21, 2010, the President signed into law The Dodd-Frank Wall Street Reform and
Consumer Protection Act (the “Dodd-Frank Act”).  The Dodd-Frank Act
restructures the regulation of depository institutions.  Under the
Dodd-Frank Act, the Office of Thrift Supervision will be merged into the Office
of the Comptroller of the Currency, which regulates national
banks.  Savings and loan holding companies will be regulated by the
Federal Reserve Board.  The Dodd-Frank Act contains various provisions
designed to enhance the regulation of depository institutions and prevent the
recurrence of a financial crisis such as occurred in 2008-2009.  Also
included is the creation of a new federal agency to administer and enforce
consumer and fair lending laws, a function that is now performed by the
depository institution regulators.  The federal preemption of state
laws currently accorded federally chartered depository institutions will be
reduced as well.  The Dodd-Frank Act also will impose consolidated
capital requirements on savings and loan holding companies effective in five
years, which will limit our ability to borrow at the holding company and invest
the proceeds from such borrowings as capital in the Bank that could be leveraged
to support additional growth.  The full impact of the Dodd-Frank Act
on our business and operations will not be known for years until regulations
implementing the statute are written and adopted.  The Dodd-Frank Act
may have a material impact on our operations, particularly through increased
compliance costs resulting from possible future consumer and fair lending
regulations.





In
addition to the other information set forth in this report, you should carefully
consider the factors discussed in Part I, “Item 1A. Risk Factors” in our Annual
Report on Form 10-K for the year ended December 31, 2009, which could materially
affect our business, financial condition or future results. The risks described
in our Annual Report on Form 10-K are not the only risks that we face.
Additional risks and uncertainties not currently known to us or that we
currently deem to be immaterial also may materially adversely affect our
business, financial condition and/or operating results.


25
 Table of Contents











Item 2. – Unregistered Sales of Equity Securities and Use of
Proceeds.





During
the three month period ended June 30, 2010, the Company did not repurchase any
shares of common stock.





The
Company announced on February 19, 2008, that the Board of Directors authorized
the Company to repurchase up to 361,207 shares, or approximately 5%, of the
outstanding shares including shares held by Naugatuck Valley Mutual Holding
Company.  The repurchases will be conducted through open-market
purchases or privately negotiated transactions and will be made from time to
time depending on market conditions and other factors.  No time limit
was placed on the duration of the share repurchase program.  Any
repurchased shares will be held as treasury stock and will be available for
general corporate purposes.








Item 3. – Defaults Upon Senior Securities.  Not
applicable








Item
4. – (Removed and Reserved)








Item 5. – Other Information.  Not applicable








Item
6. – Exhibits.





Exhibits
      –3.1
            Charter
      of Naugatuck Valley Financial Corporation (1)3.2
            Bylaws
      of Naugatuck Valley Financial Corporation (2)4.1
            Specimen
      Stock Certificate of Naugatuck Valley Financial Corporation
      (3)31.1
            Rule
      13a-14(a)/15d-14(a) Certification.31.2
            Rule
      13a-14(a)/15d-14(a) Certification.32
            Section
      1350 Certifications.


____________________


(1)  Incorporated
by reference to the Exhibits to the Company’s Form 10-Q for the three months
ended September 30, 2004.





(2)  Incorporated
herein by reference to Exhibit 3.2 to the Company’s Current Report on Form 8-K
filed on October 18, 2007.





(3)  Incorporated
herein by reference to the Exhibits to the Company’s Registration Statement on
Form S-1, as amended, initially filed on June 18, 2004.





26
 Table of Contents





SIGNATURES





Pursuant
to the requirements of the Securities Exchange Act of 1934, the registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.





Naugatuck
Valley Financial Corporation








Date:
      August 13,
      2010
            by:
            /s/
      John C. RomanJohn
      C. RomanPresident
      and Chief Executive Officer(principal
      executive officer)Date:
      August 13,
      2010
            by:
            /s/
      Lee R. SchlesingerLee
      R. SchlesingerSenior
      Vice President and Chief Financial Officer(principal
      financial officer)










27