[GRAPHIC OMITTED]

                          MAIN STREET HONESDALE, 1912

     Wayne County Fair Parade proceeds down Main Street in Honesdale, 1912. Fair
President W.J.  Ferguson  rides on the first carriage with Amos Ward,  Marshall.
Note the ox-drawn cart and muddy street.

--------------------------------------------------------------------------------


               A HERITAGE OF HARD WORK, DILIGENCE AND ACHIEVEMENT


                               [GRAPHIC OMITTED]





NORWOOD FINANCIAL CORP.              o                       2006 ANNUAL REPORT

<PAGE>

                               [GRAPHIC OMITTED]

                            MAIN STREET - CIRCA 1942




Color  postcard  depicting  Honesdale  in the  1930s-40s.  Note Wayne Bank,  the
yellow-pillared building on the right.

-------------------------------------------------------------------------------

                       SUMMARY OF SELECTED FINANCIAL DATA
                 (dollars in thousands, except per share data)


<TABLE>
<CAPTION>
  For the years ended December 31,              2006      2005       2004        2003        2002
  --------------------------------------------------------------------------------------------------
<S>                                         <C>       <C>       <C>         <C>         <C>
  Net interest income                        $ 16,183   $ 15,263    $ 14,012    $ 13,322    $ 13,951
  Provision for loan losses                       220        350         455         660         630
  Other income                                  3,517      3,506       3,088       2,801       2,577
  Net realized gains on sales of securities        66         42         458         692         427

  Other expense                                10,957     10,623      10,090       9,808      10,349
  Income before income taxes                    8,589      7,838       7,013       6,347       5,976
  Income tax expense                            2,679      2,341       2,003       1,694       1,623
  Net Income                                 $  5,910   $  5,497    $  5,010    $  4,653    $  4,353

  Net income per share-Basic                 $   2.11   $   1.96*   $   1.80*   $   1.70*   $   1.62*
  Net income per share-Diluted               $   2.07   $   1.92*   $   1.77*   $   1.67*   $   1.60*
  Cash dividends declared                        0.85       0.71*       0.66*       0.62*       0.57*
  Dividend pay-out ratio                        40.28%     36.41%      36.51%      36.31%      35.29%

  Return on average assets                       1.33%      1.31%       1.27%       1.22%       1.21%
  Return on average equity                      11.85%     11.72%      11.39%      11.24%      11.60%

  BALANCES AS OF YEAR END
  Total assets                               $454,356   $433,556    $411,626    $387,483    $367,468
  Loans receivable                            315,567    290,890     254,757     233,733     217,970
  Allowance for loan losses                     3,828      3,669       3,448       3,267       3,146
  Total deposits                              358,103    340,603     318,645     306,669     291,852
  Shareholders' equity                         52,231     48,108      45,685      42,831      40,125
  Trust assets under management                96,879     86,972      83,397      73,991      60,102

  Book value per share                       $  18.67   $  17.07*   $  16.14*   $  15.20*   $  14.37*

  Tier 1 Capital to risk-adjusted assets        15.67%     15.29%      15.91%      15.58%      15.06%
  Total Capital to risk-adjusted assets         16.99%     16.63%      17.34%      17.09%      16.57%
  Allowance for loan losses to total loans       1.21%      1.26%       1.35%       1.40%       1.44%
  Non-performing assets to total assets          0.09%      0.08%       0.02%       0.04%       0.07%

*    References to share and  per-share  amounts  reflect the 5% stock  dividend
     distributed to shareholders on May 26, 2006.

</TABLE>
<PAGE>

                                    NORWOOD
                                 FINANCIAL CORP


                      2006 ANNUAL REPORT TABLE OF CONTENTS



A LETTER TO OUR SHAREHOLDERS                                                2-7

YOUR BOARD OF DIRECTORS                                                     4-5

WAYNE BANK BRANCH LOCATIONS                                                   8

FINANCIAL REPORT INDEX                                                        9


                               [GRAPHIC OMITTED]

Portrait of the Honesdale Semi-Pro Baseball Club. Note Christy  Mathewson second
from the left. Mathewson  was one of the first five  players ever elected to the
Baseball Hall of Fame.

<PAGE>
                               [GRAPHIC OMITTED]


A Letter to our Shareholders


     We hope you enjoy the  photographs  throughout  this year's Annual  Report,
reflecting  various eras in our  community's  history.  We feel they reflect the
ongoing  sense of  community  and  strong  work  ethic  our  local  people  have
demonstrated generation after generation and into the present time. These values
are  important  to Wayne  Bank and to our  community,  and we are proud to offer
examples  from our work this year that  demonstrate  the  Bank's  dedication  to
building community through initiative and dedicated labor.

--------------------------------------------------------------------------------

     WE ARE  PLEASED TO REPORT that your  Company  had a very  strong  financial
performance  in 2006.  Our earnings for the year ended December 31, 2006 totaled
$5,910,000 which is an increase of $413,000, or 7.5%, over the $5,497,000 earned
in 2005.  Earnings  per share on a fully  diluted  basis were $2.07  compared to
$1.92 in 2005. The return on average assets for the year was 1.33% with a return
on average equity of 11.85%. Both of these measures of performance improved over
the prior year.

     As a result of this excellent performance,  the Board of Directors approved
two  increases to  dividends  declared for our  shareholders  during 2006.  Cash
dividends  declared per share totaled $.85 in 2006, an increase of $.14 or 19.7%
over the  $.71 per  share  declared  in 2005.  In  addition,  the  Company  also
distributed a 5% stock dividend in May 2006.

     Total  assets as of  December  31,  2006 were  $454.4  million  with  loans
receivable  of $315.6  million,  deposits of $358.1  million  and  shareholders'
equity of $52.2 million. Total assets have increased $20.8 million from December
31, 2005.

     We had steady loan activity  throughout 2006.  Loans  receivable  increased
$24.7  million,  or 8.5% from the prior year. We had balanced  growth during the
year with the commercial loan portfolio  increased $12.6 million and residential
mortgages,  including home equity financing, growing $13.1 million. The majority
of our loan growth was funded with a $17.5 million increase in deposits.

     Credit   quality   ratios  were   consistently   strong  during  the  year.
Non-performing  loans  totaled  $409,000  and  represented  .13% of  loans as of
December 31, 2006  compared to $353,000 and .12% as of year ended 2005.  Our net
charge-offs  decreased  by over 50%,  and  totaled  $61,000 in 2006


NET INCOME
----------
($ in thousands) for the year ended December 31

[BAR GRAPH WITH FOLLOWING DATA POINTS:

2002 - $4,353
2003 - $4,653
2004 - $5,010
2005 - $5,497
2006 - $5,910]



NORWOOD FINANCIAL CORP               2                        2006 ANNUAL REPORT
<PAGE>

compared to $129,000 in 2005. As a result of the lower level of charge-offs, our
provision  expense  in 2006 was  $220,000  compared  to  $350,000  in 2005.  The
allowance for loan losses  totaled  $3,828,000 and 1.21% as of December 31, 2006
compared to $3,669,000 and 1.26% as of year end 2005.

     The Company faced a challenging  interest rate environment  during 2006, in
which short term interest  rates,  which effect CD rates,  were higher than long
term rates, which impacts loan pricing. For the year, net interest income (fully
taxable  equivalent)  totaled  $16,708,000,  an increase  of  $819,000  over the
$15,889,000  earned in 2005.  Our net  interest  margin,  (fte) for the year was
3.96%  decreasing  only 3 basis points from 3.99% in the prior year.  The slight
decrease in net interest  margin was  principally  due to an increase in deposit
costs,  most evident in the CD  portfolio,  which was  partially  offset by loan
volume and higher yields on loans and investments.

     For the year,  other income  totaled  $3,583,000  compared to $3,548,000 in
2005. The increase was principally due to $147,000 in gains on sales of mortgage
loans and servicing  rights in 2006  increasing from $64,000 in similar gains in
2005.  Other  expenses  totaled  $10,957,000 in 2006, an increase of $334,000 or
3.1% over the prior year. The increase was  principally due to rising salary and
employee  benefit  costs.  We  strongly   encourage  you  to  read  Management's
Discussion and Analysis and the Audited  Financial  Statements and Footnotes for
more details on our performance.

   DILUTED EARNINGS PER SHARE
   --------------------------
   For the year ended December 31

   [BAR GRAPH WITH FOLLOWING DATA POINTS:

   2002 - $1.60
   2003 - $1.67
   2004 - $1.77
   2005 - $1.92
   2006 - $2.07]



     Wayne Bank takes pride in seeing  businesses,  in particular  locally owned
businesses, flourish in all the communities we serve. In accord with our slogan,
"Helping the Community Grow," we have helped to finance  start-up  businesses as
well as the  expansion of existing  businesses.  The Bank played a major role in
the significant  commercial  growth  experienced in our market area during 2006.
Wayne Bank also  launched a Free Business  Checking  account in December of 2006
and began to offer small business owners loans at the


                               [GRAPHIC OMMITTED]

                           Do Your Part - Circa 1944

     The bank lobby  circa 1944 - evident are the various war bond signs and the
flags of our  allies,  along  with the scale  which  still  resides in the lobby
today. Above right is our original bond wallet as issued by Wayne Bank.

NORWOOD FINANCIAL CORP               3                        2006 ANNUAL REPORT
<PAGE>

                               [GRAPHIC OMITTED]
                        Picture - The Board of Directors

--------------------------------------------------------------------------------

branch  level for those who were  looking  for loans of $50,000 or less.  We are
able to offer "Same Day Approval" on these loans due to the fact that Wayne Bank
is  locally  owned--many  of the  inconveniences  that go with  large  financial
institutions are not a dilemma with Wayne Bank. We pride ourselves on giving our
customers   exceptional  service  with  quick   decision-making  and  rapid-fire
processing.

     Throughout its long history, Wayne Bank has helped thousands of individuals
and families enjoy the benefits of homeownership.  That tradition continues into
the 21st century.  In 2006 we generated almost $50 million in loans for new home
construction,   purchases  and  refurbishing.  New,  more  flexible  Residential
Mortgage and Home Equity Lending Programs were also introduced to meet the needs
of  our  communities.  The  Bank  actively  supports  the  local  home  building
industry--our officers are active in area realtors' and builders' associations.


                               BOOK VALUE PER SHARE
                               --------------------
                               as of year end December 31

                      [BAR GRAPH WITH FOLLOWING DATA POINTS:

                                2002 - $14.37
                                2003 - $15.20
                                2004 - $16.14
                                2005 - $17.07
                                2006 - $18.67]


     The Wealth Management and Trust Services Division staff believes that "slow
and steady wins the race." This  philosophy  of  controlled  growth allows us to
provide the level of services  our clients  deserve and expect.  The  department
ended the year with a record dollar value of assets under management, increasing
almost $10 million  dollars from the previous  year.  This  resulted in a record
high level of total revenue.

     Many of the Bank's key business  objectives are centered upon the effective
deployment of  information  technology.  Technology  investments  made in recent
years  have led to  improvements  in  productivity  that  influenced  the Bank's
ability to control costs and stay competitive during 2006. For example, a modern
wire transfer system introduced during the third quarter reduces handling by 70%
while  enhancing  accuracy  for all wires and adding  cost  savings  for foreign
interchange transactions.

     Direct  Link,  our Internet  banking  service,  now  includes  bill payment
capability,  expanded  access to account  information and the addition of Direct
Protect  authentication  to enhance  online  security.  New  telecommunications,
security  and  customer  service  devices have been  introduced  throughout  our
community office network. Our transaction  processing unit continues its work to
align the bank with paper  reduction  strategies  such as the Federal  Reserve's
Check 21 program,  converting checks to digital form for interbank  exchange and
archives.  Great strides have been made in  converting  internal file systems to
digitized  format and  providing  Direct  Link users with  detailed  transaction
histories for their loans.

NORWOOD FINANCIAL CORP                 4                      2006 ANNUAL REPORT

<PAGE>
                               [GRAPHIC OMITTED]

     The Norwood  Financial Corp.  Board of Directors (left to right) William W.
Davis,  Jr.,  Russell Ridd,  Daniel J.  O'Neill,  John E.  Marshall,  Richard L.
Snyder, Susan Gumble-Cottell,  Dr. Kenneth A. Phillips,  Ralph A. Matergia, Esq.
and  Gary P.  Rickard,  in the  newly  renovated  lobby of the  main  branch  in
Honesdale, PA.

--------------------------------------------------------------------------------

                       TOTAL DEPOSITS
                       --------------
                       ($ in millions) as of year end December 31

                      [BAR GRAPH WITH FOLLOWING DATA POINTS:

                                2002 - $291.9
                                2003 - $306.7
                                2004 - $318.6
                                2005 - $340.6
                                2006 - $358.1]


--------------------------------------------------------------------------------

     Wayne  Bank  employs  over 120  people  throughout  Wayne,  Pike and Monroe
Counties.  Year after year, we steadfastly  achieve the results we desire due to
the combined  efforts of our Board of Directors,  officers and employees.  It is
always a pleasure  to  recognize  the  achievements  of our  staff.  In 2006 the
following  Wayne Bank  employees  were promoted to Vice  President:  Ray Hebden,
JoAnn Fuller and Jennifer Witowic.  In addition,  Teresa Melucci was promoted to
Branch Manager in our Stroudsburg location, Renee Gilbert was promoted to Branch
Manager in our Tannersville  location and Sandy  Mruczkewycz was hired as Branch
Manager  of the  Lords  Valley  location.  Lastly,  Jeff  Shrader  was hired and
appointed to Vice  President,  Regional  Manager of the Monroe County  Branches.
Notably,  we had 16 staff  members who have  achieved  between 5 and 30 years of
service, a remarkable feat when so many people are transient these days.


                            TIMERBERING - CIRCA 1895

                               [GRAPHIC OMITTED]

     Men at work at Dyberry  Sawmill.  At left,  a formal  portrait of Horace C.
Hand, Cashier of Wayne County Savings Bank from its inception in 1871 to January
1898, a service of 27 years. Mr. Hand was elected President of the Bank in 1898.

NORWOOD FINANCIAL CORP                 5                      2006 ANNUAL REPORT
<PAGE>

                               [GRAPHIC OMITTED]
                             Senior Management 2006


Senior Management at the Bank's entrance in Honsedale, PA.

     Front row, from left to right are: Wayne D. Wilcha,  William W. Davis, Jr.,
and Lewis J.  Critelli.  Back row,  from left to right  are:  Edward C.  Kasper,
Joseph A. Kneller and John H. Sanders.

--------------------------------------------------------------------------------


                             TOTAL LOANS
                             -----------
                             ($ in millions) as of December 31

                       [BAR GRAPH WITH FOLLOWING DATA POINTS:

                                2002 - $218.0
                                2003 - $233.7
                                2004 - $254.8
                                2005 - $290.9
                                2006 - $315.6

--------------------------------------------------------------------------------

     In 2006, we were extremely  pleased to have Susan  Gumble-Cottell  join the
Board of Directors of Wayne Bank and Norwood  Financial Corp.  Sue's  experience
includes ten years as  President  and CEO of Gumble  Brothers,  Inc., a building
materials  company located in Paupack.  She is a welcome  addition to our board,
bringing a variety of business  knowledge  from both Florida and the Lake Region
of the Poconos in addition to her real estate  background  and  experience  as a
local business owner.

     Wayne Bank is proud to have served its community  since 1871. Our community
is supported by many nonprofit  organizations  to which our Directors,  officers
and  employees  give their time and energy.  We have taken a leadership  role in
working  with the Wayne  County  YMCA.  Wayne  Memorial  Hospital,  Wayne County
Builders  Association,  the Wayne  County  Chamber  of  Commerce,  Wayne  County
Historical Society, the Wayne County Community Foundation, the Greater Honesdale
Partnership,  the Pike County  Chamber of Commerce,  the Pike County United Way,
Pocono Builders  Association,  Pocono Mountain  Chamber of Commerce,  the Pocono
Mountain Association of Realtors, the Dorflinger-Suydan  Wildlife Sanctuary, and
the Villaume Foundation, to name just a few.

     Although  Norwood  Financial Corp. is  headquartered  in Honesdale,  with 6
branches located within Wayne County, we have grown steadily and have 3 branches
in Pike County as well as 3 branches in Monroe County.  Our newest Monroe County
branch,  in  Tannersville,  opened in  December of 2006.  According  to the 2000
Census,  "Monroe  [44.9%].  Pike [65.6%],  and Wayne  [19.5%]  counties have the
highest population growth rates in the Commonwealth" of Pennsylvania. Our branch
expansion serves that population growth.


       NET INTEREST INCOME
       -------------------
       (Fully taxable equivalent, $ in thousands) for the year ended December 31


      [BAR GRAPH WITH FOLLOWING DATA POINTS:

               2002 - $14,479
               2003 - $13,945
               2004 - $14,653
               2005 - $15,889
               2006 - $16,708

--------------------------------------------------------------------------------

NORWOOD FINANCIAL CORP                 6                     2006 ANNUAL REPORT
<PAGE>

                     NET CHARGE-OFFS
                     ---------------
                     ($ in thousands) for the year ended December 31

            [BAR GRAPH WITH FOLLOWING DATA POINTS:

                     2002 - $700
                     2003 - $539
                     2004 - $274
                     2005 - $129
                     2006 - $ 61


--------------------------------------------------------------------------------


     We also  remodeled  the Honesdale  Community  Branch lobby to create a very
stately  look with  better  functionality  for the  privacy of  customers.  (The
photograph on pages 4 & 5 features the new decor). Two plasma television screens
were  installed in the lobby to advertise our services and a coin sorter machine
was also added as an amenity for our customers.

     As you can see,  Norwood  Financial  had a very  notable  2006 with  strong
financial results, a new branch opening and new product launches. Our consistent
performance has been noticed by the investment  community.  We were pleased that
Wayne Bank was one of only forty companies  awarded "Honor Roll" status by Keefe
Bruyette & Woods, a prominent  investment  banking firm.  Keefe Bruyette & Woods
includes in its "Honor Roll" those banking  institutions  that have  continually
reported increases in earnings per share over the last decade, regardless of the
economic environment. The report also highlighted that Norwood's compound annual
growth rate in stock price for the period 2000 to 2005 exceeded 23%.

     We are always looking for new ways to improve  customer  service,  help our
communities  prosper,  and enhance your  shareholder  value. In closing,  we are
proud of our  accomplishments  and look forward to new challenges and rewards in
2007.


/s/ William W. Davis, Jr.

William W. Davis, Jr., President and Chief Executive Officer

/s/ Russell L. Ridd

Russell L. Ridd, Chairman of the Board

                               [GRAPHIC OMITTED]
                               4th of July - 1925
                A group of children celebrating on a front porch


NORWOOD FINANCIAL CORP                 7                      2006 ANNUAL REPORT


<PAGE>
717 Main Street
P.O. Box 269
Honesdale, PA 18431
                                 [GRAPHIC OMITTED - MAP]
717 Main Street
Honesdale, PA 18431

245 Willow Avenue
Honesdale, PA 18431

Belmont & Water Streets
Waymart, PA 18472

Route 6
Hawley, PA 18428

111 West Harford Street
Milford, PA 18337

Weis Market, Route 590
Hamlin, PA 18427

Richardson Avenue
Shohola, PA 18458

Route 370 &  Lake Como Road
Lakewood, PA 18439

Stroud Mall - ROute 611
Stroudsburg, PA 18360

Route 739
Lords Valley Shopping Plaza
Lords Valley, PA 18428

Route 209
5165 Milford Road
Marshalls Creek, PA 18335

Route 611
Tannersville, PA  18327

NORWOOD FINANCIAL CORP                 8                      2006 ANNUAL REPORT

<PAGE>

                                    NORWOOD
                                 --------------
                                 FINANCIAL CORP


                                      2006
                         CONSOLIDATED FINANCIAL REPORT
--------------------------------------------------------------------------------


MANAGEMENT'S DISCUSSION & ANALYSIS                                         11-28
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM                       29
CONSOLIDATED BALANCE SHEETS                                                   30
CONSOLIDATED STATEMENTS OF INCOME                                             31
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY                               32
CONSOLIDATED STATEMENTS OF CASH FLOWS                                         33
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS                                 34-55
INVESTOR INFORMATION                                                          56

<PAGE>



MANAGEMENT'S DISCUSSION AND ANALYSIS

INTRODUCTION

     This  Management's  Discussion and Analysis and related  financial data are
presented  to  assist  in the  understanding  and  evaluation  of the  financial
condition and results of operations for Norwood Financial Corp (The Company) and
its  subsidiary  Wayne Bank (the Bank) as of December  31, 2006 and 2005 and for
the years ended  December  31,  2006,  2005,  and 2004.  All share and per share
amounts  have been  adjusted  to  reflect  the  effect of the 5% stock  dividend
distributed  to  shareholders  on May 26, 2006.  This section  should be read in
conjunction with the consolidated financial statements and related footnotes.

FORWARD-LOOKING STATEMENTS

     The Private  Securities  Litigation Reform Act of 1995 contains safe harbor
provisions regarding forward-looking  statements.  When used in this discussion,
the words believes, anticipates,  contemplates, expects, and similar expressions
are intended to identify forward-looking statements. Such statements are subject
to certain risks and  uncertainties,  which could cause actual results to differ
materially from those projected.  Those risks and uncertainties  include changes
in interest rates, risks associated with the effect of opening a new branch, the
ability to  control  costs and  expenses,  demand  for real  estate and  general
economic  conditions.  The Company  undertakes no obligation to publicly release
the results of any revisions to those  forward-looking  statements  which may be
made to reflect events or circumstances  after the date hereof or to reflect the
occurrence of unanticipated events.

CRITICAL ACCOUNTING POLICIES

     Note 2 to the Company's consolidated financial statements  (incorporated by
reference in Item 8 of the Form 10-K) lists significant accounting policies used
in the development and presentation of its financial statements. This discussion
and analysis, the significant accounting policies, and other financial statement
disclosures  identify  and  address  key  variables  and other  qualitative  and
quantitative  factors that are necessary for an understanding  and evaluation of
the Company and its results of operations.

     Material estimates that are particularly  susceptible to significant change
in the near term relate to the  determination  of the allowance for loan losses,
accounting  for stock  options,  the  valuation  of deferred  tax assets and the
determination of  other-than-temporary  impairment losses on securities.  Please
refer to the  discussion  of the  allowance  for loan losses  calculation  under
"Non-performing  Assets  and  Allowance  for  Loan  Losses"  in  the  "Financial
Condition" section.

     For periods  ending  prior to January 1, 2006,  the Company  accounted  for
stock option  plans under the  recognition  and  measurement  principles  of APB
Opinion  No.  25,  "Accounting  for Stock  Issued  to  Employees",  and  related
interpretations.  Under APB Opinion No. 25, no stock-based employee compensation
was reflected in net income,  as all options granted had an exercise price equal
to the  market  value of the  underlying  common  stock on the grant  date.  The
Company adopted SFAS No. 123 (R),  "Share-Based  Payment" as of January 1, 2006,
which  requires that  transactions  be recognized  as  compensation  cost in the
income statement based on their fair values on the measurement  date, which, for
the Company is the grant date.  The Norwood  Financial  Corp.


NORWOOD FINANCIAL CORP                 11                     2006 ANNUAL REPORT
<PAGE>

2006 Stock  Option Plan was  approved on April 25, 2006 and the Company  granted
47,700  options  during 2006.  For the year ended December 31, 2006 salaries and
employee benefit expense includes  $136,000 related to the adoption of Statement
No.  123  (R).  See  Notes  2  and  12  for   additional   discussion   of  this
pronouncement's impact on the Company's consolidated financial statements.

     The deferred income taxes reflect temporary  differences in the recognition
of the revenue and expenses for tax reporting and financial  statement purposes,
principally  because  certain  items are  recognized  in  different  periods for
financial  reporting  and  tax  return  purposes.  Although  realization  is not
assured,  the Company  believes it is more likely than not that all deferred tax
assets will be realized.

     In estimating  other-than-temporary  impairment  losses on securities,  the
Company  considers  1) the length of time and extent to which the fair value has
been less than cost 2) the  financial  condition of the issuer and 3) the intent
and ability of the Company to hold the  security to allow for a recovery to fair
value. The Company believes that the unrealized losses, at December 31, 2006 and
2005 represent temporary impairment of the securities.

RESULTS OF OPERATIONS - SUMMARY

     Net income for the Company  for the year ended  December  31, 2006  totaled
$5,910,000 an increase of $413,000 or 7.5% over the $5,497,000  earned for 2005.
Basic and diluted earnings per share for 2006 were $2.11 and $2.07 respectively,
increasing  from $1.96 and $1.92,  respectively  in 2005.  The return on average
assets (ROA) for the year ended December 31, 2006 was 1.33% improving from 1.31%
for 2005.  Return on average  equity also showed  improvement  at 11.85% in 2006
compared to 11.72% in 2005.

     The increase in earnings was principally attributable to an increase in net
interest  income and a lower level of provision  for loan  losses.  Net interest
income on a fully taxable  equivalent  basis (fte) totaled  $16,708,000 in 2006,
compared to $15,889,000 in 2005, an increase of $819,000, or 5.2%.

     Net interest  income was favorably  impacted by a $27.5 million,  or 10.0%,
increase  in  average  loans  receivable  for 2006  compared  to  average  loans
receivable  in 2005.  The  Company  reduced  its  provision  for loan  losses to
$220,000  for the year ended  December  31,  2006 from  $350,000  for 2005.  The
decrease was  principally  due to a lower level of net  charge-offs,  $61,000 in
2006 declining from $129,000 in 2005.

     Loans  receivable  increased  $24.7 million,  to total $315.6 million as of
December 31, 2006. The Company had balanced growth  throughout the year with the
commercial loan portfolio,  including  commercial real estate,  increasing $12.7
million and loans secured by residential real estate growing $13.1 million.  The
majority  of the  loan  growth  was  funded  with a $17.5  million  increase  in
deposits, principally short-term time deposits.

     Other income for 2006 totaled  $3,583,000  compared to $3,548,000 for 2005.
The increase was principally due to $147,000 of gains on sales of mortgage loans
and servicing rights in 2006 compared to $64,000 in similar gains in 2005. Other
expenses  totaled  $10,957,000,  an increase of $334,000 or 3.1% over 2005.  The
increase was  primarily  due to rising salary and employee  benefit  costs.  The
resulting efficiency ratio for 2006 was 54.0% improving from 54.7% in 2005.


NORWOOD FINANCIAL CORP                 12                     2006 ANNUAL REPORT
<PAGE>

     The following table sets forth changes in net income (in thousands):

         Net income for  2005                     $  5,497

         Net interest income                           920
         Provision for loan losses                     130
         Gains on sales of mortgage loans               83
         All other income                              (48)
         Salaries and employee benefits               (245)
         Professional fees                             104
         All other expenses                           (193)
         Income tax expense                           (338)
                                                  --------
         Net income for 2006                      $  5,910
                                                  ========

     Net income for the Company for the year 2005 totaled $5,497,000 compared to
$5,010,000  earned in 2004.  This  represents an increase of $487,000,  or 9.7%,
over the prior year.  Basic and diluted  earnings  per share for 2005 were $1.96
and $1.92 respectively,  increasing from $1.80 and $1.77, respectively, in 2004.
The return on average  assets  (ROA) for the year ended  December  31,  2005 was
1.31%  improving from 1.27% for 2004.  Likewise,  return on average equity (ROE)
for 2005 was 11.72%, increasing from 11.39% in 2004.

     The increase in earnings was principally attributable to an increase in net
interest  income and a lower level of provision  for loan  losses.  Net interest
income, on a fully taxable  equivalent basis (fte) totaled  $15,889,000 in 2005,
compared to $14,653,000 in 2004, an increase of $1,236,000, or 8.4%.

     The primary driver for the increase in net interest  income was an increase
in  average  loans  receivable  of $28.3  million,  or 11.5%,  for the year 2005
compared to the  average  loans  receivable  for 2004.  The Company  reduced its
provision for loan losses to $350,000 for the year ended  December 31, 2005 from
$455,000  for  2004.  The  decrease  was due in part  to a  lower  level  of net
charge-offs in 2005, $129,000 compared to $274,000 in 2004.

     Loans  receivable  increased  $36.1  million to total $290.9  million as of
December 31, 2005. The growth was  principally  related to loans secured by real
estate, both commercial,  and to a lesser extent,  residential.  The loan growth
was funded by a $22.0 million growth in deposits,  and a $13 million decrease in
Federal Funds sold.

     Other income for 2005 was  $3,548,000  compared to $3,546,000 in 2004.  The
Company  had a  significantly  lower  level  of net  realized  gains on sales of
securities,  $42,000 in 2005 compared to $458,000 in 2004.  This was principally
offset by $385,000 increase in service charges and fees. Other income, excluding
gains on sales  of  securities  represented  18.1%  of total  revenues  in 2005,
improving  from  17.4% in  2004.  Other  expenses  totaled  $10,623,000  in 2005
compared to  $10,090,000  in 2004, an increase of $533,000 or 5.3%. The increase
was  principally due to higher  professional  fees and costs related to employee
benefit plans.


NORWOOD FINANCIAL CORP                 13                     2006 ANNUAL REPORT
<PAGE>

     The  following  table sets  forth  changes in net income for the year ended
December 31, 2005 compared to the year ended December 31, 2004:

(in thousands)
         Net income for 2004                               $ 5,010

         Net interest income                                 1,251
         Provision for loan losses                             105
         Net realized gains on sales of securities            (416)
         All other income                                      418
         Salaries and employee benefits                       (277)
         Professional fees                                    (121)
         All other expenses                                   (135)
         Income tax expense                                   (338)
                                                           -------
         Net income for 2005                               $ 5,497
                                                           =======
FINANCIAL CONDITION

TOTAL ASSETS

     Total  assets as of December  31,  2006,  were $454.4  million  compared to
$433.6 million as of year-end 2005, an increase of $21 million or 4.8%.

LOANS RECEIVABLE

     As of December  31,  2006,  total  loans  receivable  were  $315.6  million
compared to $290.9 million as of year-end 2005, an increase of $24.7 million, or
8.5%. Loan growth in commercial and residential real estate was partially offset
by a net run-off in indirect automobile financing, which is included in consumer
loans to individuals.  Loans receivable represented 69.5% of the Company's total
assets as of December 31, 2006 compared to 67.1% at year end 2005.

     Residential real estate loans, which includes home equity lending,  totaled
$113.8  million  as of  December  31,  2006,  compared  to $100.7  million as of
year-end 2005. The increase of $13.1 million is net of prepayments,  refinancing
activity  and  sales  of  mortgage  loans  into  the  secondary  market.  In the
relatively low interest rate environment of 2006,  fixed rate mortgage  products
were  preferred by the Bank's  customers  and  accounted for the majority of the
activity.  The Company does not originate any non-traditional  mortgage products
such as  interest-only  loans or option  adjustable rate mortgages.  The Company
sells a portion of its long-term  fixed rate  residential  loan  production  for
interest  rate risk  management,  with $2.1  million of 30 year fixed rate loans
sold into the secondary  market  during 2006.  The Company holds the majority of
its fifteen and twenty year fixed rate  residential  mortgage  production in its
portfolio.  The Company  also had growth in home equity  lending in 2006 through
its branch system. Total outstandings increased $6.3 million to $49.5 million as
of December 31, 2006.

     Commercial  loans  consist  principally  of loans made to small  businesses
within the  Company's  market and are  usually  secured by real  estate or other
assets of the  borrower.  Commercial  and  commercial  real estate loans totaled
$172.9  million as of December 31, 2006,  increasing  from $160.3  million as of
December  31,  2005,  an increase  of $12.6  million or 7.9%.  Loans  secured by
commercial  real estate  increased $5.4 million.  The terms for commercial  real
estate loans are typically 15 years,  with adjustable rates based on a spread to
the

NORWOOD FINANCIAL CORP                 14                     2006 ANNUAL REPORT
<PAGE>

prime rate. The majority of the Company's  commercial real estate  portfolio
is owner occupied and includes the personal  guarantees of the  principals.  The
growth in  commercial  lending was centered in the Pike and Monroe County market
areas. Commercial loans consisting principally of lines of credit and term loans
secured by equipment or other assets increased $7.3 million.

     The Company's  indirect  lending  portfolio  (included in consumer loans to
individuals) declined $2.9 million to $14.0 million as of December 31, 2006. The
Company has  de-emphasized  this product line due to credit losses and increased
pricing competition.

NON-PERFORMING ASSETS AND ALLOWANCE FOR LOAN LOSSES

     Non-performing  assets  consist  of  non-performing  loans and real  estate
acquired  through  foreclosure,  which is held for  sale.  Loans  are  placed on
non-accrual  status  when  management  believes  that  a  borrower's   financial
condition is such that  collection of interest is doubtful.  Commercial and real
estate  related loans are generally  placed on  non-accrual  when interest is 90
days delinquent.  When loans are placed on non-accrual,  accrued interest income
is reversed from current earnings.

     As  of  December  31,  2006,  non-performing  loans  totaled  $409,000  and
represented .13% of total loans  receivable  compared to $353,000 and .12% as of
year-end  2005. The balance is  principally  attributable  to two credits to one
borrower.  The loans are  secured  by real  estate and the  Company is  actively
pursuing a resolution.  Total  non-performing  assets, which includes foreclosed
real estate totaled $409,000 and represented  .09% of total assets,  compared to
$353,000 and .08% as of December 31, 2005. As of December 31, 2006 and 2005, the
Company had no foreclosed real estate.

     The  allowance for loan losses  totaled  $3,828,000 as of December 31, 2006
and represented 1.21% of total loans receivable compared to $3,669,000 and 1.26%
of total loans as of  year-end  2005.  Net  charge-offs  for 2006 were  $61,000,
consisting  principally  of  losses  on the  sale  of  repossessed  automobiles,
compared to net  charge-offs  of $129,000 in 2005. The provision for loan losses
for 2006 was $220,000, compared to $350,000 in 2005.

     The Company's  loan review  process  assesses the adequacy of the allowance
for loan losses on a quarterly basis. The process includes a review of the risks
inherent in the loan portfolio.  It includes an analysis of impaired loans and a
historical review of losses.  Other factors  considered in the analysis include;
concentrations of credit in specific industries in the commercial portfolio; the
local and regional economic  condition;  trends in delinquencies,  internal risk
rating classifications,  and large dollar loans of over $2 million and growth in
the portfolio. As of December 31, 2006, the Company considered its concentration
of credit risk profile to be  acceptable.  The local economy was stable in 2006,
with a slight  decrease in the  unemployment  rate in its primary market area of
Wayne, Pike and Monroe Counties.  The Company has modestly  increased its number
of large  commercial  credits and had double digit growth in commercial and real
estate related loans. As a result of its analysis, after applying these factors,
management  considers the allowance as of December 31, 2006  adequate.  However,
there can be no assurance that the allowance for loan losses will be adequate to
cover significant losses, if any, that might be incurred in the future.

NORWOOD FINANCIAL CORP                 15                     2006 ANNUAL REPORT

<PAGE>

     The following  table sets forth  information  with respect to the Company's
allowance for loan losses at the dates indicated:
<TABLE>
<CAPTION>

                                                            Year-ended December 31,
                                             -------------------------------------------------------
                                                                (in thousands)
                                               2006        2005        2004        2003        2002
                                             -------------------------------------------------------

<S>                                          <C>         <C>         <C>         <C>         <C>
Allowance balance at beginning of period     $ 3,669     $ 3,448     $ 3,267     $ 3,146     $ 3,216
Charge-offs:
         Commercial and all other                 --          (4)        (19)       (121)        (34)
         Real Estate                              --          (6)        (10)         --        (122)
         Consumer                               (150)       (200)       (342)       (478)       (608)
         Lease Financing                          --          --         (11)        (36)        (30)
                                             -------------------------------------------------------
Total                                           (150)       (210)       (382)       (635)       (794)
                                             -------------------------------------------------------
Recoveries:
         Commercial and all other                 18          12          13           5          --
         Real Estate                               2          18           8          24          13
         Consumer                                 65          46          78          64          72
         Lease Financing                           4           5           9           3           9
                                             -------------------------------------------------------
Total                                             89          81         108          96          94
                                             -------------------------------------------------------
Provision expense                                220         350         455         660         630
                                             -------------------------------------------------------
Allowance balance at end of period           $ 3,828     $ 3,669     $ 3,448     $ 3,267     $ 3,146
                                             =======================================================
Allowance for loan losses as a percent
         of total loans outstanding             1.21%       1.26%       1.35%       1.40%       1.44%
Net loans charged off as a percent of
         average loans outstanding               .02%        .05%        .11%        .24%        .33%
Allowance coverage of non-performing loans       9.4x       10.4x       51.5x       22.8x       14.2x
</TABLE>

     The following table sets forth information regarding non-performing assets.
The Bank had no troubled  debt  restructurings  as defined in FAS No. 114. As of
December 31, 2006, the Company had $290,000  impaired and  collateral  dependent
loans compared to $310,000 at year-end 2005.
<TABLE>
<CAPTION>
                                                   As of December 31,
                                          -------------------------------------
                                                     (in thousands)
                                           2006    2005    2004    2003    2002
                                          -------------------------------------
<S>                                       <C>     <C>     <C>     <C>     <C>
Non-accrual loans:
         Commercial and all other         $  --   $  --   $  --   $  --   $  --
         Real estate                        392     330      32     125     213
         Consumer                            17      11       8      --       3
                                          -------------------------------------
Total                                       409     341      40     125     216

Accruing loans which are contractually
         past due 90 days or more            --      12      27      18       5
                                          -------------------------------------
Total non-performing loans                  409     353      67     143     221

Foreclosed real estate                       --      --      --      --      21
                                          -------------------------------------
Total non-performing assets               $ 409   $ 353   $  67   $ 143   $ 242
                                          =====================================
Non-performing loans to total loans         .13%    .12%    .03%    .06%    .10%

Non-performing loans to total assets        .09%    .08%    .02%    .04%    .06%

Non-performing assets to total assets       .09%    .08%    .02%    .04%    .07%
</TABLE>
NORWOOD FINANCIAL CORP                 16                     2006 ANNUAL REPORT
<PAGE>

SECURITIES

     The securities  portfolio  consists  principally of issues of United States
Government   agencies,    including   mortgage-backed   securities,    municipal
obligations, and corporate debt. In accordance with SFAS No. 115 "Accounting for
Certain  Investments in Debt and Equity  Securities" the Company  classifies its
investments  into two categories:  held to maturity (HTM) and available for sale
(AFS). The Company does not have a trading account. Securities classified as HTM
are  those in which  the  Company  has the  ability  and the  intent to hold the
security until contractual  maturity. As of December 31, 2006, the HTM portfolio
totaled  $954,000 and consisted  entirely of municipal  obligations.  Securities
classified  as AFS are  eligible to be sold due to  liquidity  needs or interest
rate risk management. These securities are adjusted to and carried at their fair
market value with any  unrealized  gains or losses  recorded as an adjustment to
capital  and  reported  in the  equity  section  of the  balance  sheet as other
comprehensive  income (loss),  net of deferred  income taxes. As of December 31,
2006,  $112.9 million in securities were so classified and carried at their fair
market value, with unrealized depreciation;  net of tax, of $44,000, included in
Accumulated other comprehensive loss in stockholders' equity.

     As of December 31, 2006,  the average life of the  portfolio was 2.1 years.
The Company has  maintained a relatively  short average life in the portfolio in
order to generate  cash flows to support  loan  growth.  Purchases  for the year
totaled  $32.3  million  with  securities   called,   maturities  and  principal
reductions of $36.0  million and proceeds  from sales of $96,000.  The purchases
were funded principally by cash flow from the portfolio.  As of December 31, the
carrying  value of the  Company's  securities  portfolio  (HTM and AFS)  totaled
$113.9 million with the mix as follows:
<TABLE>
<CAPTION>
                                                           2006                           2005
                                            -----------------------------------------------------------------
                                                                 (dollars in thousands)
                                               Carrying                         Carrying
                                                Value         % of portfolio       Value       % of portfolio
                                            -----------------------------------------------------------------
<S>                                         <C>                                 <C>                  <C>
US Treasury Securities                      $        --             --%         $   1,989            1.7%
US Government agencies                           47,581            41.9            51,996           44.3
States and political subdivisions                17,419            15.3            21,175           18.1
Corporate obligations                             8,439             7.4            10,450            8.9
Mortgage-backed securities                       38,652            33.8            29,954           25.5
Equity securities                                 1,775             1.6             1,702            1.5
                                            ------------------------------------------------------------
Total                                       $   113,866           100.0%        $ 117,266          100.0%
                                            ============================================================
</TABLE>

     The portfolio had $17.7 million of floating rate  instruments,  principally
adjustable rate mortgage  backed  securities as of December 31, 2006 compared to
$11.4  million at year end 2005.  The portfolio  contained no structured  notes,
step-up  bonds  and no  off-balance  sheet  derivatives  were in use.  The  U.S.
Government  agency portfolio  consists  principally of callable notes with final
maturities of generally less than five years. The mortgage backed securities are
pass-through  bonds  with the  Federal  National  Mortgage  Association  (FNMA),
Federal Home Loan Mortgage Corp (Freddie Mac), and Guaranteed  National Mortgage
Association  (GNMA).   During  2006,  the  Company  increased  its  holdings  of
mortgage-backed  securities  with the  expectation  that the bonds will  provide
regular cash flow.

DEPOSITS

     The Company, through the twelve branches of the Bank, provides a full range
of deposit products to its retail and business customers. These products include
interest-bearing  and  non-interest  bearing  transaction  accounts,   statement
savings and money market  accounts.  Time deposits  consist of  certificates  of
deposit (CDs) with terms of up to five years and include  Individual  Retirement
Accounts. The Bank participates in the Jumbo CD ($100,000 and over) markets with
local  municipalities  and school  districts,  which are typically  awarded on a
competitive bid basis.

NORWOOD FINANCIAL CORP                 17                     2006 ANNUAL REPORT

<PAGE>

     Total deposits as of December 31, 2006,  totaled $358.1 million  increasing
from $340.6  million as of year-end  2005, an increase of $17.5 million or 5.1%.
The increase was  principally  in time deposits as the Bank offered  competitive
rates on short-term  CDs. The Company's money market deposit and savings deposit
products   decreased  $10.3  million  reflecting   depositors'   preference  for
short-term time deposits in 2006 to take advantage of higher short-term interest
rates.

     Time deposits over $100,000,  which consist  principally of school district
and other public funds, with maturities generally less than one year, were $56.7
million as of December 31, 2006, compared to $48.9 million at year-end 2005. The
increase  was  principally  due to a higher level of jumbo CDs with local school
districts.  These deposits are subject to competitive  bid and the Company bases
its bid on current interest rates, loan demand,  investment  portfolio structure
and the relative cost of other funding sources.  The Company also had short-term
time deposits of $9.1 million from commercial customers as of December 31, 2006.

     As of December 31, 2006, non-interest bearing demand deposits totaled $53.9
million, increasing $3.0 million or 5.8% from the prior year-end. This growth is
partially  attributable  to an increase in commercial  deposits,  related to the
increase in the commercial loan portfolio.  In addition, a portion of the growth
is due to the Bank's  "Simply Free" retail  checking  product.  Interest-bearing
demand accounts  totaled $36.6 million as of December 31, 2006 compared to $40.7
million at year end 2005. The decrease is principally  due to certain  municipal
accounts  converting  to cash  management  accounts.  Cash  management  accounts
included  in  short-term  borrowings,  totaled  $20.7  million  at year end 2006
compared to $12.5  million.  These balances  represent  commercial and municipal
customers' funds invested in over-night securities.  The Company considers these
accounts as a source of core funding.

     The Company  believes a portion of its deposit  growth over the prior three
years may have been due in part to the relatively low interest rate  environment
which offered limited  opportunities to earn higher yields.  Bank deposit growth
in core deposits did slow in 2006, as the stock market became more attractive to
investors,  competition for deposits  increased among banks,  and customers took
advantage of higher time deposit  rates.  However,  the Company  believes it can
continue to increase  its core  deposits by  establishing  new  commercial  loan
relationships, and by seeking new branch locations in high growth areas.

MARKET RISK

     Interest rate sensitivity and the repricing  characteristics  of assets and
liabilities are managed by the Asset and Liability  Management Committee (ALCO).
The  principal  objective  of ALCO is to maximize  net  interest  income  within
acceptable  levels of risk, which are established by policy.  Interest rate risk
is monitored and managed by using financial  modeling  techniques to measure the
impact of changes in interest rates.

     Net interest income, which is the primary source of the Company's earnings,
is impacted  by changes in  interest  rates and the  relationship  of  different
interest  rates.  To manage the impact of the rate  changes,  the balance  sheet
should be structured so that repricing  opportunities  exist for both assets and
liabilities  at  approximately  the same time  intervals.  The Company  uses net
interest  simulation  to assist in interest  rate risk  management.  The process
includes  simulating  various interest rate environments and their impact on net
interest  income.  As of December 31, 2006, the level of net interest  income at
risk in a 200 basis points increase or decrease was within the Company's  policy
limits, of a decline less than 8% of net interest income.

     Imbalance  in  repricing  opportunities  at a given  point in time  reflect
interest-sensitivity  gaps  measured as the  difference  between  rate-sensitive
assets and rate-sensitive liabilities. These are static gap measurements that do
not take into account any future  activity,  and as such are principally used as
early indications of potential interest rate exposures over specific intervals.

     At December 31, 2006,  the Bank had a positive 90 day interest  sensitivity
gap of $24.0 million or 5.3% of total assets.  A positive gap indicates that the
balance  sheet  has  more   rate-sensitive   assets  (RSA)  than

NORWOOD FINANCIAL CORP                 18                     2006 ANNUAL REPORT
<PAGE>

rate-sensitive  liabilities (RSL) at the time interval. This would indicate that
in a rising  rate  environment,  the  yield  on  interest-earning  assets  would
increase faster than the cost of interest-bearing liabilities in the 90 day time
frame.  The level of RSA and RSL for an interval is managed by ALCO  strategies,
including  adjusting  the  average  life  of the  investment  portfolio  through
purchase and sales,  pricing of deposit  liabilities to attract longer term time
deposits,  loan pricing to encourage  variable rate  products and  evaluation of
loan sales of long term fixed rate mortgages.

     The Company  analyzes  and  measures  the time periods in which RSA and RSL
will  mature  or  reprice  in  accordance  with  their   contractual  terms  and
assumptions.  Management believes that the assumptions used are reasonable.  The
interest rate sensitivity of assets and liabilities could vary  substantially if
differing  assumptions  were  used or if  actual  experience  differs  from  the
assumptions  used in the  analysis.  For example,  although  certain  assets and
liabilities may have similar maturities or periods to repricing,  they may react
in differing  degrees to changes in market interest rates. 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.  Interest rates may change at different  rates changing
the shape of the yield curve. This was evident in 2006 as the Federal Funds rate
increased  100 basis  points,  while the two to ten year  treasury  bond  yields
increased  about 40 basis  points.  As a result the yield curve was inverted for
most of 2006 as short-term rates were higher than long-term rates.  Further,  in
the  event of a  significant  change in  interest  rates,  prepayment  and early
withdrawal  levels  would  likely  deviate  significantly  from  those  assumed.
Finally,  the ability of borrowers  to service  their  adjustable-rate  debt may
decrease in the event of an interest rate  increase.  We do not believe that the
operating  results of the Company are  subject to foreign  currency  exchange or
commodity price risk.

     The following table displays  interest-sensitivity  as of December 31, 2006
(in thousands):
<TABLE>
<CAPTION>
                                          3 Months         3-12                       Greater than
                                          or Less         Months      1-3 Years         3 Years        Total
                                         ---------------------------------------------------------------------
<S>                                      <C>            <C>           <C>             <C>            <C>
Interest-bearing deposits                $      67      $      --     $      --       $       --     $      67
Securities                                  19,348         32,837        34,324           27,357       113,866
Loans Receivable                            95,019         48,739        70,478          101,331       315,567
                                         ---------------------------------------------------------------------
Total Rate Sensitive Assets (RSA)        $ 114,434      $  81,576     $ 104,802       $  128,688     $ 429,500
                                         =====================================================================

Non-maturity interest bearing deposits   $  20,583      $  22,435     $  59,406       $   29,368     $ 131,792
Time Deposits                               55,976         86,304        22,024            8,151       172,455
Other                                       13,913          7,264        14,559               --        35,736
                                         ---------------------------------------------------------------------
Total Rate Sensitive Liabilities (RSL)   $  90,472      $ 116,003     $  95,989       $   37,519     $ 339,983
                                         =====================================================================

Interest Sensitivity Gap                 $  23,962      $ (34,427)    $   8,813       $   91,169     $  89,517
Cumulative Gap                              23,962        (10,465)       (1,652)          89,517
RSA/RSL-Cumulative                           126.5%          94.9%         99.5%           126.3%

As of December 31, 2005
Interest Sensitivity Gap                 $  24,402      $  (5,676)    $   1,642       $   56,582     $  76,950
Cumulative Gap                              24,402         18,726        20,368           76,950
RSA/RSL-Cumulative                           126.5%         110.7%        107.1%           123.2%
</TABLE>

LIQUIDITY

     Liquidity  is the  ability  to fund  customers'  borrowing  needs and their
deposit withdrawal requests while supporting asset growth. The Company's primary
sources of liquidity include deposit generation, asset maturities, and cash flow
from payments on loans and securities.

NORWOOD FINANCIAL CORP                 19                     2006 ANNUAL REPORT

<PAGE>

     As of December 31, 2006, the Company had cash and cash  equivalents of $9.5
million in the form of cash, due from banks, and short-term  deposits with other
institutions.  In addition,  the Company had total securities available for sale
of $112.9 million,  which could be used for liquidity needs.  This totals $122.4
million and represents  26.9% of total assets compared to $125.6 million and 29%
of total assets as of December 31, 2005. The change was  principally  due to the
lower level of  securities  available  for sale as of  December  31,  2006.  The
Company used the proceeds from the investment portfolio to fund loan growth. The
Company also monitors  other  liquidity  measures,  all of which were within the
Company's policy  guidelines as of December 31, 2006. Based upon these measures,
the Company believes its liquidity position is adequate.

     The Company  maintains  established  lines of credit with the Federal  Home
Loan Bank of Pittsburgh  (FHLB),  the Atlantic  Central  Bankers Bank (ACBB) and
other  correspondent  banks,  which support liquidity needs. The total available
under all the lines was $46 million, with $-0- outstanding at December 31, 2006.
The maximum  borrowing  capacity  from FHLB was $216.9  million.  As of year-end
2006, the Company had $13 million in term borrowings  from the FHLB,  decreasing
from $23 million in similar borrowings from the FHLB as of December 31, 2005.

OFF-BALANCE SHEET ARRANGEMENTS

     The Company's financial  statements do not reflect various commitments that
are made in the normal  course of  business,  which may involve  some  liquidity
risk. These  commitments  consist mainly of unfunded loans and letters of credit
made  under  the  same  standards  as  on-balance  sheet   instruments.   Unused
commitments,  as of December 31, 2006 totaled $54.0  million.  They consisted of
$18.3  million in commercial  real estate,  construction  and land  developments
loans,  $10.6  million in home equity  lines of credit,  $7.2 million in standby
letters of credit  and $17.9  million in other  unused  commitments  principally
commercial lines of credit.  Because these instruments have fixed maturity dates
and because  many of them will  expire  without  being  drawn upon,  they do not
represent any significant liquidity risk.

     Management  believes that any amounts  actually drawn upon can be funded in
the normal course of  operations.  The Company has no investment in or financial
relationship with any unconsolidated entities that are reasonably likely to have
a material effect on liquidity or the availability of capital resources.

CONTRACTUAL OBLIGATIONS

     The  following  table  represents  the  aggregate on and off balance  sheet
contractual obligations to make future payments (in thousands):
<TABLE>
<CAPTION>
(In thousands)                                                  December 31, 2006
                                   ------------------------------------------------------------------------
                                     Total      Less than 1 year     1-3 years    4-5 years    Over 5 years
                                   ------------------------------------------------------------------------
<S>                                 <C>             <C>              <C>         <C>            <C>
Time deposits                       $ 172,455       $ 142,281        $ 22,024    $   8,150      $      --
Long-term debt                         13,000              --          10,000        3,000             --
Operating leases                        4,011             271             472          467          2,801
                                   ----------------------------------------------------------------------
                                    $ 189,466       $  142,552       $ 32,496    $  11,617      $   2,801
                                   ======================================================================
</TABLE>

RESULTS OF OPERATIONS

NET INTEREST INCOME

     The following analysis should be read in conjunction with the "Consolidated
Average  Balance  Sheets with  Resultant  Interest  and Rates" and  "Rate/Volume
Analysis" tables.

     Net  interest  income is the most  significant  source of  revenue  for the
Company and  represented  81.9% of total revenue for the year ended December 31,
2006.  Net interest  income on a fully  taxable  equivalent  basis (fte)

NORWOOD FINANCIAL CORP                 20                     2006 ANNUAL REPORT

<PAGE>

totaled  $16,708,000,   for  the  year  ended  December  31,  2006  compared  to
$15,889,000  for 2005, an increase of $819,000,  or 5.2%.  The resulting fte net
interest spread and fte net interest  margin were 3.36% and 3.96%,  respectively
in 2006 compared to 3.58% and 3.99% respectively in 2005.

     Interest  income  (fte)  for the  year  ended  December  31,  2006  totaled
$26,474,000 an increase of $4,080,000 over $22,394,000 in 2005. The fte yield on
average  earning  assets for 2006 was 6.27%  increasing  from 5.62% in 2005. The
increase in interest  income was  principally  due to higher yields on loans and
investments,  growth in average earning assets and a higher  percentage of loans
on the balance sheet. The prime rate of interest and other  short-term  interest
rates  reflected  a steady  increase  from June 2004 to June 2006.  During  that
period the prime rate increased from 4.00% to 8.25%. This has improved the yield
on the Company's  floating rate loans,  principally  commercial  real estate and
commercial lines of credit, which are tied to the prime rate. As of December 31,
2006, $78.8 million of loans were immediately repricable. Average earning assets
for 2006 totaled $422.0  million,  an increase of $23.9 million over the average
for 2005.  The mix of earning  assets  also  improved  with  higher  yield loans
representing 71.2% of average earning assets in 2006 compared to 68.8% in 2005.

     Interest  income (fte)  earned on loans  totaled  $21,600,000  for the year
ended  December  31,  2006  with a  resulting  fte  yield of 7.16%  compared  to
$17,727,000 with a fte yield of 6.47% in 2005. Rising short-term  interest rates
and an increase in average volume of $27.4 million,  or 10.0%,  were responsible
for the improvement in income and yield.

     The securities  available for sale portfolio averaged $116.6 million during
2006,  with fte interest  income of $4,637,000 and a fte yield of 3.98% compared
to $116.6  million with fte  interest  income of  $4,139,000  and a fte yield of
3.55% in 2005. The increase in yield was due to re-investment of cash flows from
the  portfolio  into  higher  yielding  instruments,  due  to  the  increase  in
short-term interest rates.

     Interest  expense for the year ended December 31, 2006 totaled  $9,766,000,
an increase of $3,261,000  over $6,505,000 in 2005. The increase was principally
due  to  higher  short  term  interest   rates  and  a  more  expensive  mix  of
interest-bearing liabilities in 2006. The Company incurred higher costs for time
deposits,  in 2006 at 3.96% compared to 2.82% in 2005. The cost of time deposits
was  influenced by  competitive  pressures,  and higher  short-term  rates.  The
Company  expects the cost of  short-term  deposits  to  increase  again in 2007.
Higher  interest  rates also  impacted  the cost of money  market  accounts  and
short-term borrowings. The mix of average interest-bearing  liabilities was also
more  expensive in 2006,  with average time deposits and  short-term  borrowings
representing 49.3% of the total compared to 45.4% on average in 2005.

     Net interest income  represented  81.8% of total revenue for the year ended
December 31, 2005. Net interest  income (fte) totaled  $15,889,000  for 2005, an
increase  of  $1,236,000,  or 8.4%,  over the  amount  earned in the  year-ended
December 31, 2004. The resulting fte net interest spread and net interest margin
for 2005 were  3.58%  and  3.99%,  respectively,  compared  to 3.60% and  3.91%,
respectively, in 2004.

     Interest  income  (fte)  for the  year  ended  December  31,  2005  totaled
$22,394,000  compared to $19,647,000 in 2004. The yield (fte) on average earning
assets  for 2005 was  5.62%  increasing  from  5.25% in 2004.  The  increase  in
interest  income was  principally  due to growth in average  earning  assets,  a
higher  percentage of loans on the balance  sheet,  and an increase in the prime
rate. Average earning assets increased $23.6 million or 6.3%. The mix of earning
assets improved with loans  representing  68.8% of average earning assets during
2005 compared to 65.6% during 2004.  Prime rate and  short-term  interest  rates
reflected a steady  increase from June 2004 through  December 2005.  During that
period, the prime rate increased from 4.00% to 7.25%. This improved the yield on
the Company's floating rate loans,  principally  commercial real estate, tied to
prime rate.  As of December 31, 2005,  $79.6  million of loans were  immediately
repricable.

NORWOOD FINANCIAL CORP                 21                     2006 ANNUAL REPORT
<PAGE>

     Interest  income  earned on loans  during 2005 totaled  $17,727,000  with a
yield of 6.47%, increasing from $14,912,000 and a yield of 6.07% during 2004. An
increase in average  volume of $28.3 million,  or 11.5% and increasing  interest
rates were responsible for the improvement in income and yield.

     The securities  available for sale portfolio averaged $116.6 million during
2005, with interest income of $4,139,000 and a yield of 3.55%.  This represented
very little change from 2004,  which had an average  balance of $118.3  million,
interest income of $4,159,000 and a yield of 3.52%.  Total cash flow from sales,
maturities, calls and principal reductions on mortgage-backed securities totaled
$17.9 million in 2005  declining  from $49.5  million in 2004.  Proceeds in 2005
were  generally  reinvested  in  short-term  callable  U. S.  Government  agency
instruments and mortgage-backed  securities.  The Company has kept the portfolio
relatively short due to a flattening treasury yield curve in 2005.

     Interest  expense for the year-ended  December 31, 2005 totaled  $6,505,000
compared to $4,994,000 in 2004. The average cost of interest-bearing liabilities
increased 39 basis points to 2.04% for 2005 from 1.65% in 2004. The increase was
due to rising  short-term  interest  rates.  This impacted the Company's cost of
time deposits which increased 51 basis points to 2.82%.

OTHER INCOME

     Other  income  totaled  $3,583,000  for the  year-ended  December  31, 2006
compared to $3,548,000 in 2005.  Service  charges and fees decreased  $52,000 to
$2,455,000. The decrease was partially due to $26,000 decline in service charges
on deposit  accounts  reflecting  growth in the  Bank's no fee  retail  checking
products.  Loan related services  decreased $79,000 due in part to a lower level
of letter of credit fees and no-fee loan promotions conducted in 2006.

     Income  from  fiduciary  activities  totaled  $355,000  in 2006  increasing
$12,000 from 2005.  The increase was  principally  due to $9.9 million growth in
assets under management which totaled $96.9 million as of December 31, 2006.

     Gains on sales of mortgage loans and servicing  rights,  included in Other,
totaled  $147,000 in 2006  compared to $64,000 in 2005.  The increase was due to
the  gain on sale of  $13.7  million  of  mortgage  servicing  rights  on  loans
previously  sold in the  secondary  market to FNMA.  The Company does not expect
similar gains on the sale of servicing rights in 2007.

     Other  income  totaled  $3,548,000  for the year ended  December  31,  2005
compared to $3,546,000 in 2004.

     Service  charges and fees  increased  $385,000 to $2,507,000  for 2005. The
increase was  principally  due to a higher  level of overdraft  (nsf) fees which
increased  $373,000.  Service charges on deposit accounts  decreased  $53,000 to
$322,000 reflecting growth in the Bank's no-fee retail checking product.

     Income from  fiduciary  activities  totaled  $343,000  in 2005,  increasing
$42,000 from 2004.  The increase was partially due to a $10,000 growth in estate
fees. In addition,  the market value of assets under  management  increased $3.6
million to $87.0 million.

     The Company had a lower level of net realized  gains on sales of securities
in 2005 at $42,000  declining from $458,000 in 2004.  Total  securities  sold in
2005  totaled $6.1 million  compared to $11.7  million in 2004.  The decrease in
gains is due in part to the increase in interest rates in 2005,  which adversely
impacts the value of securities.

         Total gains on sales of mortgage loans,  included in Other were $64,000
on sales of $6.7  million in 2005,  compared to $67,000 on sales of $4.1 million
in 2004.  The  loans  sold  were  principally  30 year  fixed  rate  residential
mortgages.  The sales  were for  interest  rate risk  management  to reduce  the
Company's exposure in long-term fixed rate assets.

NORWOOD FINANCIAL CORP                 22                     2006 ANNUAL REPORT
<PAGE>

Other Income (dollars in thousands)
For the year-ended December 31
<TABLE>
<CAPTION>
                                                        2006     2005     2004
                                                       ------------------------
<S>                                                    <C>      <C>      <C>
Service charges on deposit accounts                    $  296   $  322   $  375
ATM Fees                                                  224      215      219
NSF Fees                                                1,260    1,265      892
Safe Deposit Box Rental                                    55       56       57
Loan related service fees                                 271      350      324
Debit Card                                                282      253      213
Fiduciary activities                                      355      343      301
Mutual funds & annuities                                  131      150      154
Gain on sales of mortgage loans and servicing assets      147       64       67
CSV on life insurance                                     309      296      316
Other income                                              187      192      170
                                                       ------------------------
                                                        3,517    3,506    3,088
Net realized gains on sales of securities                  66       42      458
                                                       ------------------------
Total                                                  $3,583   $3,548   $3,546
                                                       ========================
</TABLE>

OTHER EXPENSES

     Other expenses for the year ended December 31, 2006 totaled $10,957,000, an
increase of $334,000 or 3.15% over $10,623,000 in 2005.

     Salaries and employee  benefits  expense,  which represented 51.6% of total
expense,  increased  $245,000 or 4.5% to $5,655,000 in 2006.  The cost of health
insurance  premiums paid by the Company for its employees  increased $105,000 in
2006. The Company incurred  $136,000 of expense related to stock options granted
in 2006 as a  result  of  adopting  FASB  Statement  No.  123 (R)  "Share  Based
Payment".  The Company had expense of  $444,000  related to its  employee  stock
ownership  plan (ESOP) in 2006 compared to $588,000 in 2005.  The ESOP had a ten
year life and was fully funded as of September 30, 2006.

     Furniture  and  equipment  expense  decreased  $96,000 to  $479,000 in 2006
principally due to lower maintenance expense. Data processing related operations
totaled  $700,000 in 2006 compared to $625,000 in 2005.  The increase was due to
enhancement to the Bank's on-line banking product and implementation of software
related to image based check processing.  Advertising  expense increased $65,000
to $224,000 in 2006 reflecting increased use of radio advertising.  Professional
fees  decreased  $104,000  due to a lower  level  of  corporate  legal  fees and
accounting services.

     Other expenses for the year ended December 31, 2005 totaled $10,623,000, an
increase of  $533,000,  or 5.3%,  over the  $10,090,000  in 2004.  Salaries  and
employee  benefits,  which represented  50.9% of total other expense,  increased
$277,000,  or 5.4% to $5,410,000 in 2005.  The increase was  principally  due to
increasing costs related to the Company's  Employee Stock Ownership Plan (ESOP),
which  increased  $57,000 due to  appreciation  in the Company's stock price and
health insurance premiums which increased $59,000.

     Occupancy  costs  increased   $115,000  to  $928,000  for  2005.  This  was
principally  due to the full year effect of the  Marshalls  Creek  Office  which
opened in August  2004 and  increases  in real  estate  taxes.  Data  processing
related  expenses  totaled  $625,000 in 2005  compared to $598,000 in 2004.  The
increase  reflects costs  associated  with enhancing the Bank's on-line  banking
service.  The Company disposed of its final leased vehicles in

NORWOOD FINANCIAL CORP                 22                     2006 ANNUAL REPORT
<PAGE>

2004,  therefore,  there was no loss on lease  residuals  in 2005,  compared  to
$90,000 in 2004.  Professional  fees totaled  $444,000 in 2005  increasing  from
$323,000  in 2004.  This  includes  an  increase  of  $76,000  to  $238,000  for
accounting  services  reflecting  expenses  associated with the internal control
documentation required by Sarbanes-Oxley.

INCOME TAXES

     Income tax expense for the year ended December 31, 2006 totaled  $2,679,000
for an effective tax rate of 31.2%  compared to an expense of $2,341,000  and an
effective  tax  rate of  29.9%  for  2005.  The  higher  effective  tax rate was
principally  due to a lower  level of tax  exempt  interest  income  and the tax
effect of compensation expense related to stock options.

     Income tax expense for the year ended December 31, 2005 totaled  $2,341,000
for an  effective  tax rate of 29.9%  compared  to an expense of  $2,003,000  an
effective tax rate of 28.6% in 2004.  The increase in the effective tax rate was
principally due to a lower level of tax exempt interest income in 2005.

CAPITAL AND DIVIDENDS

     Total  stockholders'  equity as of December  31, 2006,  was $52.2  million,
compared to $48.1 million as of year-end 2005. The increase was  principally due
to  retention  of  earnings  of  $3,542,000  after cash  dividends  declared  of
$2,368,000.  Accumulated other  comprehensive  income increased  $728,000 due to
market value changes in the Company's AFS securities portfolio  principally as a
result of changing  interest  rates.  As of December  31, 2006 the Company had a
leverage capital ratio of 11.43%,  Tier 1 risk-based capital of 15.67% and total
risk-based   capital  of  16.99%   compared  to,  11.05%,   15.29%  and  16.63%,
respectively, at year end 2005.

     The Company's stock is traded on the Nasdaq Global market under the symbol,
NWFL. As of December 31, 2006, there were approximately 1,400 shareholders based
on transfer agent mailings.

     The following table sets forth the price range and cash dividends  declared
per share regarding common stock for the period indicated:

                              Closing Price Range
                           ------------------------      Cash dividend
                              High           Low      declared per share
                           ---------------------------------------------
Year 2005
---------
First Quarter              $ 34.18        $  24.24         $  .1714
Second Quarter               32.47           28.57            .1714
Third Quarter                31.43           29.32            .1714
Fourth Quarter               31.74           29.33            .20

Year 2006
---------
First Quarter              $ 31.16        $  29.59        $   .20
Second Quarter               33.75           30.24            .21
Third Quarter                32.00           31.07            .21
Fourth Quarter               31.68           30.22            .23

     The book  value of the  common  stock was $18.67 as of  December  31,  2006
compared to $17.07 as of December 31, 2005. As of year-end 2006, the stock price
was $31.50, compared to $31.71 as of December 31, 2005.

NORWOOD FINANCIAL CORP                 24                     2006 ANNUAL REPORT
<PAGE>

STOCK PERFORMANCE GRAPH

     Set forth below is a stock performance graph comparing the cumulative total
shareholder return on the Common Stock with (a) the cumulative total stockholder
return  on  stocks  included  in the  Nasdaq  Stock  Market  index  and  (b) the
cumulative total stockholder return on stocks included in the Nasdaq Bank index,
as prepared for Nasdaq by the Center for Research in Securities  Prices ("CRSP")
at the  University  of  Chicago.  All three  investment  comparisons  assume the
investment of $100 at the market close on December 31, 2001 and the reinvestment
of dividends  paid. The graph provides  comparison at December 31, 2001 and each
fiscal year through December 31, 2006.


     [Line graph  appears here showing  5-year  cumulative  total return on $100
invested  in the Common  Stock  compared  to  cumulative  total  returns on $100
invested in the Nasdaq  Bank Index and Nasdaq  Index,  respectively.  Line graph
starts at December 31, 2001 and shows the  cumulative  total returns at December
31, 2002, 2003, 2004, 2005 and 2006. Plot points are shown below]


<TABLE>
<CAPTION>
                                     12/31/01       12/31/02       12/31/03        12/31/04       12/31/05        12/31/06
----------------------------------------------------------------------------------------------------------------------------
<S>                                    <C>             <C>            <C>             <C>            <C>             <C>
Norwood Financial Corp.                100.0           117.8          161.2           220.8          206.0           217.0
----------------------------------------------------------------------------------------------------------------------------
Nasdaq Stock Market (US Companies)     100.0            69.1          103.4           112.5          114.9           126.2
----------------------------------------------------------------------------------------------------------------------------
Nasdaq Bank Stocks                     100.0           102.4          131.7           150.7          147.2           165.2
----------------------------------------------------------------------------------------------------------------------------
</TABLE>

     There can be no assurance that the Company's future stock  performance will
be the same or similar to the historical  performance  shown in the above graph.
The Company neither makes nor endorses any predictions as to stock performance.

NORWOOD FINANCIAL CORP                 25                     2006 ANNUAL REPORT
<PAGE>

NORWOOD FINANCIAL CORP.
SUMMARY OF QUARTERLY RESULTS (UNAUDITED)
(Dollars in thousands, except per share amounts)
<TABLE>
<CAPTION>

2006
                                         December 31   September 30     June 30   March 31
                                         -------------------------------------------------
<S>                                         <C>           <C>           <C>        <C>
Interest income                             $6,956        $6,647        $6,350     $5,996
Interest expense                             2,830         2,545         2,321      2,070
                                         ------------------------------------------------
         Net interest income                 4,126         4,102         4,029      3,926
Provision for loan losses                       50            45            55         70
Other income                                   862           849           989        817
Net realized gains on sales of securities     --              45            14          7
Other expense                                2,620         2,730         2,841      2,766
                                         ------------------------------------------------
Income before income taxes                   2,318         2,221         2,136      1,914
Income tax expense                             739           699           660        581
                                         ------------------------------------------------
NET INCOME                                  $1,579        $1,522        $1,476     $1,333
                                         ================================================
Basic earnings per share                    $ 0.56        $ 0.54        $ 0.53     $ 0.48
                                         ================================================
Diluted earnings per share                  $ 0.55        $ 0.53        $ 0.52     $ 0.47
                                         ================================================
<CAPTION>

2005
                                         December 31   September 30     June 30   March 31
                                         -------------------------------------------------
<S>                                         <C>           <C>           <C>       <C>
Interest income                             $ 5,904       $5,578        $5,313    $4,973
Interest expense                              1,941        1,644         1,517     1,403
                                         ------------------------------------------------
  Net interest income                         3,963        3,934         3,796     3,570
Provision for loan losses                        70           90            90       100
Other income                                    896          905           862       843
Net realized gain (loss) on sales
  of securities                                 (41)           3             3        77
Other expense                                 2,668        2,627         2,677     2,651
                                         ------------------------------------------------

Income before income taxes                    2,080        2,125         1,894     1,739
Income tax expense                              638          643           564       496
                                         ------------------------------------------------
NET INCOME                                  $ 1,442       $1,482        $1,330    $1,243
                                         ================================================
Basic earnings per share                    $  0.52       $ 0.53        $ 0.47    $ 0.44
                                         ================================================
Diluted earnings per share                  $  0.51       $ 0.52        $ 0.46    $ 0.43
                                         ================================================

</TABLE>

NORWOOD FINANCIAL CORP                 26                     2006 ANNUAL REPORT
<PAGE>

NORWOOD  FINANCIAL  CORP.  CONSOLIDATED  AVERAGE  BALANCE  SHEETS WITH RESULTANT
INTEREST AND RATES
(Tax-Equivalent Basis, dollars in thousands)


<TABLE>
<CAPTION>
Year Ended December 31                                 2006                                2005
                                         ---------------------------------------------------------------------
                                           Average                  Ave         Average                 Ave
                                          Balance(2)  Interest(1)   Rate       Balance(2) Interest(1)   Rate
                                         ---------------------------------------------------------------------
<S>                                     <C>         <C>           <C>         <C>        <C>           <C>
ASSETS
Interest Earning Assets:
  Federal funds sold                      $  2,778    $   142       5.11%       $  3,730    $   129       3.46%
  Interest bearing deposits with banks          98          5       5.10             123          3       2.44
  Securities held to maturity                  981         90       9.17           3,608        396      10.98
  Securities available for sale
        Taxable                             99,571      3,712       3.73          98,038      3,116       3.18
        Tax-exempt                          17,070        925       5.42          18,602      1,023       5.50
                                          -------------------                   -------------------
            Total securities available
                         for sale          116,641      4,637       3.73         116,640      4,139       3.55
  Loans receivable (3,4)                   301,533     21,600       7.16         274,053     17,727       6.47
                                          -------------------                   -------------------
            Total interest earning assets  422,031     26,474       6.27         398,154     22,394       5.62
Non-interest earning assets:
  Cash and due from banks                    8,857                                 8,569
  Allowance for loan losses                 (3,785)                               (3,597)
  Other assets                              16,976                                16,049
                                          --------                              --------
            Total non-interest earning
              assets                        22,048                                21,021
                                          --------                              --------
TOTAL ASSETS                              $444,079                              $419,175
                                          ========                              ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest-Bearing Liabilities:
  Interest-bearing demand
     and money market                     $ 96,882    $ 1,688       1.74        $ 93,747        969       1.03
  Savings                                   49,937        232       0.46          57,128        268       0.47
  Time                                     146,344      5,798       3.96         128,704      3,634       2.82
                                          -------------------                   -------------------
            Total interest-bearing
              deposits                     293,163      7,718       2.63         279,579      4,871       1.74
Short-term borrowings                       19,284        823       4.27          15,783        416       2.64
Long term debt                              23,419      1,225       5.23          23,000      1,218       5.30
                                          -------------------                   -------------------
            Total interest bearing
              liabilities                  335,866      9,766       2.91         318,362      6,505       2.04
                                                      -------                               -------
Non-interest bearing liabilities
Non-interest bearing demand deposits        54,798                                52,109
Other liabilities                            3,526                                 1,804
                                          --------                              --------
            Total non-interest bearing
               liabilities                  58,324                                53,913
                                          --------                              --------
Stockholders' equity                        49,889                                46,900
                                          --------                              --------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY                      $444,079                              $419,175
                                          ========                              ========
Net interest income
   (tax-equivalent basis)                              16,708       3.36%                    15,889       3.58%
                                                                    ====                                  ====
Tax-equivalent basis adjustment                          (525)                                 (626)
                                                      -------                               -------
Net Interest Income                                   $16,183                               $15,263
                                                      =======                               =======
Net Interest margin(tax-equivalent basis)                           3.96%                                 3.99%
                                                                    ====                                  ====
<CAPTION>

Year Ended December 31                                 2004
                                         ---------------------------------
                                            Average                 Ave
                                           Balance(2) Interest(1)   Rate
                                         ---------------------------------
<S>                                       <C>        <C>           <C>
ASSETS
Interest Earning Assets:
  Federal funds sold                        $  4,648    $    68       1.46%
  Interest bearing deposits with banks           120          2       1.67
  Securities held to maturity                  5,732        506       8.83
  Securities available for sale
        Taxable                              100,180      3,127       3.12
        Tax-exempt                            18,080      1,032       5.71
                                            -------------------
            Total securities available
                         for sale            118,260      4,159       3.52
  Loans receivable (3,4)                     245,783     14,912       6.07
                                            -------------------
            Total interest earning assets    374,543     19,647       5.25
Non-interest earning assets:
  Cash and due from banks                      8,542
  Allowance for loan losses                   (3,376)
  Other assets                                14,846
                                            --------
            Total non-interest earning
              assets                          20,012
                                            --------
TOTAL ASSETS                                $394,555
                                            ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest-Bearing Liabilities:
  Interest-bearing demand
     and money market                       $ 89,851        549       0.61
  Savings                                     58,243        273       0.47
  Time                                       118,512      2,733       2.31
                                            -------------------
            Total interest-bearing
              deposits                       266,606      3,555       1.33
Short-term borrowings                         12,965        151       1.16
Long term debt                                23,000      1,288       5.60
                                            -------------------
            Total interest bearing
              liabilities                    302,571      4,994       1.65
                                                        -------
Non-interest bearing liabilities
Non-interest bearing demand deposits          47,399
Other liabilities                                596
                                            --------
            Total non-interest bearing
               liabilities                    47,995
                                            --------
Stockholders' equity                          43,989
                                            --------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY                        $394,555
                                            ========
Net interest income
   (tax-equivalent basis)                                14,653       3.60%
                                                                      ====
Tax-equivalent basis adjustment                            (641)
                                                        -------
Net Interest Income                                     $14,012
                                                        =======
Net Interest margin(tax-equivalent basis)                             3.91%
                                                                      ====
</TABLE>
1.   Interest  and  yields  are  presented  on a  tax-equivalent  basis  using a
     marginal tax rate of 34%.
2.   Average balances have been calculated based on daily balances.
3.   Loan balances include non-accrual loans and are net of unearned income.
4.   Loan yields  include  the effect of  amortization  of deferred  fees net of
     costs.

NORWOOD FINANCIAL CORP                 27                     2006 ANNUAL REPORT
<PAGE>

RATE/VOLUME ANALYSIS

     The following table shows the fully taxable equivalent effect of changes in
volumes and rates on interest income and interest expense.

<TABLE>
<CAPTION>
                                                                            INCREASE/(DECREASE)
                                                 -------------------------------------------------------------------------
(dollars in thousands)                                   2006 COMPARED TO 2005                2005 COMPARED TO 2004
                                                 -------------------------------------------------------------------------
                                                            VARIANCE DUE TO                     VARIANCE DUE TO
                                                 -------------------------------------------------------------------------
                                                  VOLUME          RATE         NET       VOLUME         RATE        NET
                                                 ------------------------------------    ---------------------------------
<S>                                              <C>           <C>           <C>         <C>          <C>         <C>
INTEREST EARNING ASSETS:
--------------------------------------------------------------------------------------------------------------------------
Federal funds sold                               $  (38)       $    51       $    13   $  (16)       $    77       $    61
Interest bearing deposits with banks                 (1)             3             2       --              1             1
Securities held to maturity                        (250)           (56)         (306)    (215)           105          (110)
Securities available for sale
   Taxable                                           49            547           596      (68)            57           (11)
   Tax-exempt                                       (83)           (15)          (98)      29            (38)           (9)
                                                 -------------------------------------------------------------------------
        Total  securities available for sale        (34)           532           498      (39)            19           (20)
Loans receivable                                  1,870          2,003         3,873    1,787          1,028         2,815
                                                 -------------------------------------------------------------------------
        Total interest earning assets             1,547          2,533         4,080    1,517          1,230         2,747
                                                 -------------------------------------------------------------------------

INTEREST BEARING LIABILITIES:
--------------------------------------------------------------------------------------------------------------------------
Interest-bearing demand and money market             33            686           719       25            395           420
Savings                                             (33)            (3)          (36)      (5)            --            (5)
Time                                                549          1,615         2,164      250            651           901
                                                 -------------------------------------------------------------------------
         Total interest-bearing deposits            549          2,298         2,847      270          1,046         1,316
Short-term borrowings                               107            300           407       39            276           265
Long term debt                                       22            (15)            7       --            (70)          (70)
                                                 -------------------------------------------------------------------------
         Total interest bearing liabilities         678          2,583         3,261      309          1,202         1,511
                                                 -------------------------------------------------------------------------
Net interest income (tax-equivalent basis)       $  869        $   (50)      $   819   $1,208        $    28       $ 1,236
                                                 =========================================================================
</TABLE>
         Changes  in  net  interest   income  that  could  not  be  specifically
identified as either a rate or volume change were allocated  proportionately  to
changes in volume and changes in rate.


NORWOOD FINANCIAL CORP                 28                     2006 ANNUAL REPORT
<PAGE>

            REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Stockholders
Norwood Financial Corp.
Honesdale, Pennsylvania

     We have audited the  accompanying  consolidated  balance  sheets of Norwood
Financial  Corp.  and its  subsidiary as of December 31, 2006 and 2005,  and the
related consolidated  statements of income,  stockholders' equity and cash flows
for each of the  three  years in the  period  ended  December  31,  2006.  These
consolidated  financial  statements  are  the  responsibility  of the  Company's
management.  Our  responsibility is to express an opinion on these  consolidated
financial statements based on our audits.

     We  conducted  our audits in  accordance  with the  standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain  reasonable  assurance about whether the
financial  statements  are free of  material  misstatement.  The  Company is not
required  to have,  nor were we engaged  to  perform,  an audit of its  internal
control over financial reporting.  Our audit included  consideration of internal
control over financial  reporting as a basis for designing audit procedures that
are appropriate in the  circumstances,  but not for the purpose of expressing an
opinion on the  effectiveness  of the Company's  internal control over financial
reporting.  Accordingly,  we express  no such  opinion.  An audit also  includes
examining,  on a test basis,  evidence supporting the amounts and disclosures in
the  financial   statements,   assessing  the  accounting  principles  used  and
significant  estimates  made by  management,  as well as evaluating  the overall
financial  statement  presentation.   We  believe  that  our  audits  provide  a
reasonable basis for our opinion.

     In our opinion,  the consolidated  financial  statements  referred to above
present  fairly,  in all material  respects,  the financial  position of Norwood
Financial  Corp.  and its  subsidiary as of December 31, 2006 and 2005,  and the
results of their  operations and their cash flows for each of the three years in
the period ended  December 31, 2006 in  conformity  with  accounting  principles
generally accepted in the United States of America.

     As  discussed  in  Note 2 to the  consolidated  financial  statements,  the
Company changed its method of accounting for share-based payments in 2006.

                                        /s/ Beard Miller Company LLP



Beard Miller Company LLP
Reading, Pennsylvania
February 26, 2007


NORWOOD FINANCIAL CORP                 29                     2006 ANNUAL REPORT

<PAGE>
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
                                                                                      DECEMBER 31,
                                                                                 ----------------------
                                                                                    2006        2005
                                                                                 ----------------------
                                                                                     (IN THOUSANDS,
                                                                                   EXCEPT SHARE DATA)
                                        ASSETS
<S>                                                                              <C>          <C>
Cash and due from banks                                                          $   9,450    $   9,746
Interest bearing deposits with banks                                                    67           70
                                                                                 ----------------------
         Cash and Cash Equivalents                                                   9,517        9,816

Securities available for sale                                                      112,912      115,814
Securities held to maturity, fair value 2006 $971; 2005 $1,480                         954        1,452
Loans receivable, net of allowance for loan losses 2006 $3,828; 2005 $3,669        311,739      287,221
Investment in FHLB stock, at cost                                                    1,687        1,620
Bank premises and equipment, net                                                     6,020        5,393
Bank owned life insurance                                                            7,479        7,213
Accrued interest receivable                                                          2,129        1,812
Other assets                                                                         1,919        3,215
                                                                                 ----------------------
                  TOTAL ASSETS                                                   $ 454,356    $ 433,556
                                                                                 ======================

                        LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
         Deposits:
                  Non-interest bearing demand                                    $  53,856    $  50,891
                  Interest-bearing demand                                           36,600       40,738
                  Money market deposit accounts                                     50,048       52,194
                  Savings                                                           45,144       53,311
                  Time                                                             172,455      143,469
                                                                                 ----------------------
                           TOTAL DEPOSITS                                          358,103      340,603

         Short-term borrowings                                                      22,736       18,564
         Long-term debt                                                             13,000       23,000
         Accrued interest payable                                                    2,894        1,691
         Other liabilities                                                           5,392        1,590
                                                                                 ----------------------
                           TOTAL LIABILITIES                                       402,125      385,448
                                                                                 ----------------------
STOCKHOLDERS' EQUITY
         Common stock, par value $.10 per share; authorized 10,000,000 shares;
                  issued 2006: 2,840,872  2005: 2,705,715 shares                       284          270
         Surplus                                                                    10,149        5,648
         Retained earnings                                                          43,125       43,722
         Treasury stock, at cost 2006 43,721 shares; 2005 21,189 shares             (1,283)        (633)
         Accumulated other comprehensive loss                                          (44)        (772)
         Unearned Employee Stock Ownership Plan (ESOP) shares                           --         (127)
                                                                                 ----------------------
                           TOTAL STOCKHOLDERS' EQUITY                               52,231       48,108
                                                                                 ----------------------
                           TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY            $ 454,356    $ 433,556
                                                                                 ======================
</TABLE>

See notes to consolidated financial statements

NORWOOD FINANCIAL CORP                 30                     2006 ANNUAL REPORT
<PAGE>
CONSOLIDATED STATEMENTS OF INCOME
<TABLE>
<CAPTION>
                                                                     YEARS ENDED DECEMBER 31,
                                                               ------------------------------------
                                                                 2006          2005          2004
                                                               ------------------------------------
                                                              (IN THOUSANDS, EXCEPT PER SHARE DATA)
<S>                                                            <C>            <C>           <C>
INTEREST INCOME
         Loans receivable, including fees                      $21,422        $17,583       $14,794
         Securities:
                  Taxable                                        3,712          3,116         3,127
                  Tax exempt                                       668            937         1,015
         Other                                                     147            132            70
                                                               ------------------------------------
                           TOTAL INTEREST INCOME                25,949         21,768        19,006
                                                               ------------------------------------

INTEREST EXPENSE
         Deposits                                                7,718          4,871         3,555
         Short-term borrowings                                     823            416           151
         Long-term debt                                          1,225          1,218         1,288
                                                               ------------------------------------
                           TOTAL INTEREST EXPENSE                9,766          6,505         4,994
                                                               ------------------------------------
                           NET INTEREST INCOME                  16,183         15,263        14,012

PROVISION FOR LOAN LOSSES                                          220            350           455
                                                               ------------------------------------
         NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES    15,963         14,913        13,557
                                                               ------------------------------------

OTHER INCOME
         Service charges and fees                                2,455          2,507         2,122
         Income from fiduciary activities                          355            343           301
         Net realized gains on sales of securities                  66             42           458
         Earnings on life insurance policies                       309            296           316
         Other                                                     398            360           349
                                                               ------------------------------------
                           TOTAL OTHER INCOME                    3,583          3,548         3,546
                                                               ------------------------------------

OTHER EXPENSES
         Salaries and employee benefits                          5,655          5,410         5,133
         Occupancy                                                 968            928           813
         Furniture and equipment                                   479            575           542
         Data processing related operations                        700            625           598
         Losses on lease residuals                                --             --              90
         Advertising                                               224            159           156
         Professional fees                                         340            444           323
         Postage and telephone                                     471            470           471
         Taxes, other than income                                  354            334           276
         Amortization of intangible assets                          52             52            52
         Other                                                   1,714          1,626         1,636
                                                               ------------------------------------
                           TOTAL OTHER EXPENSES                 10,957         10,623        10,090
                                                               ------------------------------------
                           INCOME BEFORE INCOME TAXES            8,589          7,838         7,013

INCOME TAX EXPENSE                                               2,679          2,341         2,003
                                                               ------------------------------------

                           NET INCOME                          $ 5,910        $ 5,497       $ 5,010
                                                               ====================================

EARNINGS PER SHARE
Basic                                                          $  2.11        $  1.96       $  1.80
                                                               ====================================

Diluted                                                        $  2.07        $  1.92       $  1.77
                                                               ====================================
</TABLE>

See notes to consolidated financial statements.

NORWOOD FINANCIAL CORP                 31                     2006 ANNUAL REPORT
<PAGE>

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

<TABLE>
<CAPTION>
                                                           YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004
                                -------------------------------------------------------------------------------------------------
                                                                                             ACCUMULATED
                                 NUMBER OF                                                      OTHER       UNEARNED
                                  SHARES       COMMON              RETAINED     TREASURY     COMPREHENSIVE    ESOP
                                  ISSUED       STOCK     SURPLUS   EARNINGS      STOCK       INCOME (LOSS)   SHARES       TOTAL
                                -------------------------------------------------------------------------------------------------
                                                       (Dollars in Thousands, Except Per Share Data)
<S>                            <C>              <C>     <C>        <C>         <C>              <C>        <C>          <C>

BALANCE - DECEMBER 31, 2003      2,705,715        $270   $ 4,933     $37,042     $  (295)      $ 1,431         $(550)     $42,831
                                                                                                                          --------

Comprehensive income:
  Net income                             -           -         -       5,010           -             -             -        5,010
  Change in unrealized gains
    on securities available for sale,
    net of reclassification
    adjustment and tax effects           -           -         -           -           -        (1,098)            -       (1,098)
                                                                                                                          --------
    Total Comprehensive Income                                                                                              3,912
                                                                                                                          --------

  Cash dividends declared,
    $.66 per share                       -           -         -      (1,830)          -             -             -       (1,830)
  Stock options exercised                -           -       (21)          -         227             -             -          206
  Tax benefit of stock
    options exercised                    -           -        22           -                         -             -           22
  Acquisition of treasury stock          -           -         -           -        (118)            -             -         (118)
  Release of treasury stock
    for ESOP                             -           -        40           -          37             -             -           77
  Release of earned ESOP
    shares, net                          -           -       362           -           -             -           223          585
                                -------------------------------------------------------------------------------------------------

BALANCE - DECEMBER 31, 2004      2,705,715         270     5,336      40,222        (149)          333          (327)      45,685
                                                                                                                          --------
Comprehensive income:
  Net income                             -           -         -       5,497           -             -             -        5,497
  Change in unrealized gains
    on securities available for sale,
    net of reclassification
    adjustment and tax effects           -           -         -           -           -        (1,105)            -       (1,105)
                                                                                                                          --------

    Total Comprehensive Income                                                                                              4,392
                                                                                                                          --------

  Cash dividends declared,
    $.71 per share                       -           -         -      (1,997)          -             -             -       (1,997)
  Stock options exercised                -           -       (78)          -         228             -             -          150
  Tax benefit of stock
    options exercised                    -           -        18           -           -             -             -           18
  Acquisition of treasury stock          -           -         -           -        (819)            -             -         (819)
  Release of treasury stock
    for ESOP                             -           -         7           -         107             -             -          114
  Release of earned ESOP
    shares, net                          -           -       365           -           -             -           200          565
                                -------------------------------------------------------------------------------------------------
BALANCE - DECEMBER 31, 2005      2,705,715         270     5,648      43,722        (633)         (772)         (127)      48,108

Comprehensive income:
  Net income                             -           -         -       5,910           -             -             -        5,910
  Change in unrealized gains (losses)
    on securities available for sale,
    net of reclassification
    adjustment and tax effects           -           -         -           -           -           728             -          728
                                                                                                                          --------

    Total Comprehensive Income                                                                                              6,638
                                                                                                                          --------

  Cash dividends declared,
    $.85 per share                       -           -         -      (2,368)          -             -             -       (2,368)
  5% stock dividend at $30.59
    per share                      135,157          14     4,121      (4,139)          -             -             -           (4)
  Acquisition of treasury stock          -           -         -           -        (890)            -             -         (890)
  Stock options exercised                -           -       (68)          -         128             -             -           60
  Tax benefit of stock
    options exercised                    -           -        10           -           -             -             -           10
  Release of treasury stock
    for ESOP                             -           -         8           -         112             -             -          120
  Compensation expense related
    to stock options                     -           -       136           -           -             -             -          136
  Release of earned ESOP
    shares, net                          -           -       294           -           -             -           127          421
                                -------------------------------------------------------------------------------------------------
BALANCE - DECEMBER 31, 2006      2,840,872        $284   $10,149     $43,125     $(1,283)      $   (44)        $   -      $52,231
                                 ================================================================================================


</TABLE>

See notes to consolidated financial statements.

NORWOOD FINANCIAL CORP                 32                     2006 ANNUAL REPORT
<PAGE>

CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>

                                                                                              YEARS ENDED DECEMBER 31,
                                                                                          --------------------------------
                                                                                            2006        2005         2004
                                                                                          --------------------------------
                                                                                                    (IN THOUSANDS)
<S>                                                                                       <C>         <C>         <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income                                                                                $  5,910    $  5,497    $  5,010
Adjustments to reconcile net income to net cash provided by operating activities:
                  Provision for loan losses                                                    220         350         455
                  Depreciation                                                                 503         535         544
                  Amortization of intangible assets                                             52          52          52
                  Deferred income taxes                                                       (108)        (37)        (81)
                  Net amortization of securities premiums and discounts                        301         431         540
                  Net realized gains on sales of securities                                    (66)        (42)       (458)
                  Net increase in investment in life insurance                                (266)       (254)       (283)
                  Gain on sale of bank premises and equipment and
                           foreclosed real estate                                              (12)         (5)        (12)
                  Gain on sale of mortgage loans and servicing rights                         (147)        (64)        (67)
                  Mortgage loans originated for sale                                        (2,065)     (6,650)     (4,101)
                  Proceeds from sale of mortgage loans                                       2,212       6,714       4,168
                  Tax benefit of stock options exercised                                      --            18          22
                  Release of ESOP shares                                                       421         565         585
                  Compensation expense related to stock options                                136        --          --
                  Decrease (increase) in accrued interest receivable and
                           other assets                                                      1,137      (1,725)        884
                  Increase (decrease) in accrued interest payable and other Liabilities      4,543       1,575        (200)
                                                                                          --------------------------------
                           Net Cash Provided by Operating Activities                        12,771       6,960       7,058
                                                                                          --------------------------------

CASH FLOWS FROM INVESTING ACTIVITIES
         Securities available for sale:
                  Proceeds from sales                                                           96       6,073      11,687
                  Proceeds from maturities and principal reductions on
                           mortgage-backed securities                                       35,962      11,799      37,779
                  Purchases                                                                (32,291)    (18,878)    (43,331)
         Securities held to maturity, proceeds from maturities                                 505       4,330          35
         (Increase) decrease in investment in FHLB stock                                       (67)        605        (223)
         Net  increase in loans                                                            (24,892)    (36,374)    (21,579)
         Purchase of bank premises and equipment                                            (1,130)       (446)       (445)
         Proceeds from sales of premises and equipment and foreclosed real estate               64          12          42
                                                                                          --------------------------------

                           Net Cash Used in Investing Activities                           (21,753)    (32,879)    (16,035)
                                                                                          --------------------------------

CASH FLOWS FROM FINANCING ACTIVITIES
         Net increase in deposits                                                           17,500      21,958      11,976
         Net increase (decrease) in short-term borrowings                                    4,172      (4,418)     10,123
         Proceeds  from long-term debt                                                        --         5,000        --
         Repayments of long-term debt                                                      (10,000)     (5,000)       --
         Stock options exercised                                                                60         150         206
         Tax benefit of stock options exercised                                                 10        --          --
         ESOP purchase of shares from treasury stock                                           120         114          77
         Acquisition of treasury stock                                                        (890)       (819)       (118)
         Cash dividends paid                                                                (2,289)     (1,916)     (1,795)
                                                                                          --------------------------------
                           Net Cash Provided by Financing Activities                         8,683      15,069      20,469
                                                                                          --------------------------------
                           Net Increase (Decrease) in Cash and Cash Equivalents               (299)    (10,850)     11,492

CASH AND CASH EQUIVALENTS - BEGINNING                                                        9,816      20,666       9,174
                                                                                          --------------------------------
CASH AND CASH EQUIVALENTS - ENDING                                                        $  9,517    $  9,816    $ 20,666
                                                                                          ================================
</TABLE>

See notes to consolidated financial statements

NORWOOD FINANCIAL CORP                 33                     2006 ANNUAL REPORT
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1 - NATURE OF OPERATIONS
     Norwood Financial Corp. (Company) is a one bank holding company. Wayne Bank
(Bank)  is  a   wholly-owned   subsidiary   of  the  Company.   The  Bank  is  a
state-chartered  bank located in Honesdale,  Pennsylvania.  The Company  derives
substantially  all of its income from the bank related  services  which  include
interest  earnings on commercial  mortgages,  residential real estate mortgages,
commercial  and  consumer  loans,  as well as interest  earnings  on  investment
securities  and fees from  deposit  services  to its  customers.  The Company is
subject to regulation  and  supervision  by the Federal  Reserve Board while the
Bank is subject to regulation and supervision by the Federal  Deposit  Insurance
Corporation and the Pennsylvania Department of Banking.

NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION
     The consolidated  financial  statements include the accounts of the Company
and  its  wholly-owned  subsidiary,   the  Bank,  and  the  Bank's  wholly-owned
subsidiaries,  WCB Realty Corp.,  Norwood  Investment Corp. and WTRO Properties.
All   intercompany   accounts  and   transactions   have  been   eliminated   in
consolidation.

ESTIMATES
     The  preparation  of financial  statements  in conformity  with  accounting
principles   generally  accepted  in  the  United  States  of  America  requires
management to make estimates and assumptions that affect the reported amounts of
assets and  liabilities  and disclosure of contingent  assets and liabilities at
the date of the financial  statements  and the reported  amounts of revenues and
expenses  during the reporting  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 loan
losses,  the  valuation  of  deferred  tax  assets,  and  the  determination  of
other-than-temporary impairment on securities.

SIGNIFICANT GROUP CONCENTRATIONS OF CREDIT RISK
     Most  of  the  Company's  activities  are  with  customers  located  within
northeastern  Pennsylvania.  Note 3 discusses the types of  securities  that the
Company  invests  in.  Note 4  discusses  the types of lending  that the Company
engages in. The Company does not have any significant  concentrations to any one
industry or customer.

CONCENTRATIONS OF CREDIT RISK
     The  Bank  operates  primarily  in  Wayne,  Pike  and  Monroe  Counties  in
Pennsylvania  and,  accordingly,  has extended  credit  primarily to  commercial
entities and  individuals in this area whose ability to honor their contracts is
influenced  by the  region's  economy.  These  customers  are also  the  primary
depositors of the Bank. The Bank is limited in extending credit by legal lending
limits to any single borrower or group of borrowers.

SECURITIES
     Securities  classified as available for sale are those  securities that the
Company intends to hold for an indefinite  period of time but not necessarily to
maturity. Any decision to sell a security classified as available for sale would
be based on various factors,  including  significant movement in interest rates,
changes in  maturity  mix of the  Company's  assets and  liabilities,  liquidity
needs,  regulatory capital considerations and other similar factors.  Securities
available  for sale are carried at fair value.  Unrealized  gains and losses are
reported in other comprehensive  income, net of the related deferred tax effect.
Realized  gains or losses,  determined  on the basis of the cost of the specific
securities sold, are included in earnings. Premiums and discounts are recognized
in interest  income using a method which  approximates  the interest method over
the term of the security.

     Bonds,  notes and debentures for which the Company has the positive  intent
and ability to hold to maturity are reported at cost,  adjusted for premiums and
discounts that are recognized in interest  income using the interest method over
the term of the security.

     Management determines the appropriate  classification of debt securities at
the time of purchase and re-evaluates  such designation as of each balance sheet
date.

NORWOOD FINANCIAL CORP                 34                     2006 ANNUAL REPORT
<PAGE>

NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
     Declines  in the fair  value of held to  maturity  and  available  for sale
securities  below  their  cost that are deemed to be other  than  temporary  are
reflected in earnings as realized  losses.  In  estimating  other-than-temporary
impairment losses, management considers (1) the length of time and the extent to
which the fair value has been less than cost,  (2) the  financial  condition and
near-term prospects of the issuer, and (3) the intent and ability of the Company
to retain its investment in the issuer for a period of time  sufficient to allow
for any anticipated recovery in fair value.

     Federal law  requires a member  institution  of the Federal  Home Loan Bank
system to hold  stock of its  district  Federal  Home Loan Bank  according  to a
predetermined formula. This restricted stock is carried at cost.

LOANS RECEIVABLE
     Loans receivable that management has the intent and ability to hold for the
foreseeable  future or until maturity or payoff are stated at their  outstanding
unpaid principal balances,  net of an allowance for loan losses and any deferred
fees.  Interest  income  is  accrued  on  the  unpaid  principal  balance.  Loan
origination  fees are  deferred and  recognized  as an  adjustment  of the yield
(interest  income) of the related  loans.  The Company is  generally  amortizing
these amounts over the contractual life of the loan.

     The accrual of  interest is  generally  discontinued  when the  contractual
payment of principal or interest has become 90 days past due or  management  has
serious  doubts about  further  collectibility  of  principal or interest,  even
though the loan is currently performing.  A loan may remain on accrual status if
it is in the process of  collection  and is either  guaranteed  or well secured.
When a loan is placed on nonaccrual  status,  unpaid interest credited to income
in the current  year is reversed and unpaid  interest  accrued in prior years is
charged against the allowance for loan losses.  Interest  received on nonaccrual
loans  generally  is either  applied  against  principal or reported as interest
income,   according  to  management's  judgment  as  to  the  collectibility  of
principal.  Generally,  loans are restored to accrual status when the obligation
is brought current, has performed in accordance with the contractual terms for a
reasonable  period  of  time  and  the  ultimate  collectibility  of  the  total
contractual principal and interest is no longer in doubt.

ALLOWANCE FOR LOAN LOSSES
     The allowance for loan losses is  established  through  provisions for loan
losses charged  against  income.  Loans deemed to be  uncollectible  are charged
against the allowance for loan losses,  and subsequent  recoveries,  if any, are
credited to the allowance.

     The allowance for loan losses is maintained at a level considered  adequate
to provide for losses that can be reasonably anticipated.  Management's periodic
evaluation of the adequacy of the allowance is based on the Company's  past loan
loss experience,  known and inherent risks in the portfolio,  adverse situations
that may affect the  borrower's  ability to repay,  the  estimated  value of any
underlying  collateral,  composition  of the loan  portfolio,  current  economic
conditions and other relevant factors.  This evaluation is inherently subjective
as it  requires  material  estimates  that  may be  susceptible  to  significant
revision as more information becomes available.

     The allowance consists of specific, general and unallocated components. The
specific  component  relates to loans that are  classified  as either  doubtful,
substandard  or special  mention.  For such loans  that are also  classified  as
impaired,  an  allowance  is  established  when the  discounted  cash  flows (or
collateral value or observable  market price) of the impaired loan is lower than
the carrying value of that loan.  The general  component  covers  non-classified
loans  and is based on  historical  loss  experience  adjusted  for  qualitative
factors.  An  unallocated  component is maintained to cover  uncertainties  that
could affect management's estimate of probable losses. The unallocated component
of the allowance  reflects the margin of imprecision  inherent in the underlying
assumptions used in the methodologies for estimating specific and general losses
in the portfolio.

NORWOOD FINANCIAL CORP                 35                     2006 ANNUAL REPORT
<PAGE>

NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
     A loan is  considered  impaired  when,  based on  current  information  and
events,  it is probable that the Company will be unable to collect the scheduled
payments of principal or interest when due according to the contractual terms of
the loan agreement.  Factors considered by management in determining  impairment
include  payment  status,  collateral  value and the  probability  of collecting
scheduled  principal  and  interest  payments  when due.  Loans that  experience
insignificant payment delays and payment shortfalls generally are not classified
as  impaired.  Management  determines  the  significance  of payment  delays and
payment shortfalls on a case-by-case basis, taking into consideration all of the
circumstances surrounding the loan and the borrower, including the length of the
delay,  the reasons for the delay,  the borrower's  prior payment record and the
amount  of the  shortfall  in  relation  to the  principal  and  interest  owed.
Impairment is measured on a loan by loan basis for commercial  and  construction
loans by either the present  value of expected  future cash flows  discounted at
the loan's effective  interest rate, the loan's  obtainable  market price or the
fair value of the collateral if the loan is collateral dependent.

     Large  groups  of  smaller  balance   homogeneous  loans  are  collectively
evaluated for impairment.  Accordingly, the Company does not separately identify
individual   consumer  and   residential   real  estate  loans  for   impairment
disclosures, unless such loans are the subject of a restructuring agreement.

PREMISES AND EQUIPMENT
     Premises and  equipment are stated at cost less  accumulated  depreciation.
Depreciation expense is calculated  principally on the straight-line method over
the respective assets estimated useful lives as follows:

                                                                 YEARS
                                                                 -----
               Buildings and improvements                       10 - 40
               Furniture and equipment                           3 - 10

TRANSFERS OF FINANCIAL ASSETS
     Transfers of financial assets, including loan and loan participation sales,
are accounted for as sales,  when control over the assets has been  surrendered.
Control over transferred  assets is deemed to be surrendered when (1) the assets
have been isolated from the Company,  (2) the transferee obtains the right (free
of conditions  that constrain it from taking  advantage of that right) to pledge
or  exchange  the  transferred  assets  and (3) the  Company  does not  maintain
effective control over the transferred assets through an agreement to repurchase
them before their maturity.

FORECLOSED REAL ESTATE
     Real estate properties  acquired  through,  or in lieu of, loan foreclosure
are to be sold and are initially recorded at fair value less cost to sell at the
date of foreclosure establishing a new cost basis. After foreclosure, valuations
are  periodically  performed by management and the real estate is carried at the
lower of its  carrying  amount  or fair  value  less cost to sell.  Revenue  and
expenses from operations and changes in the valuation  allowance are included in
other expenses. Foreclosed real estate is included in other assets.

BANK OWNED LIFE INSURANCE
     The Company  invests in bank owned life  insurance  ("BOLI") as a source of
funding for employee  benefit  expenses.  BOLI  involves the  purchasing of life
insurance by the Bank on a chosen group of  employees.  The Company is the owner
and  beneficiary of the policies.  This life insurance  investment is carried at
the cash surrender value of the underlying policies. Income from the increase in
cash  surrender  value  of the  policies  is  included  in other  income  on the
consolidated statement of income.

NORWOOD FINANCIAL CORP                 36                     2006 ANNUAL REPORT
<PAGE>


NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
INTANGIBLE ASSETS
     Intangible assets represent  goodwill arising from  acquisitions.  Goodwill
represents  the  excess  cost of an  acquisition  over the fair value of the net
assets acquired. On January 1, 2002, the Company adopted SFAS 142, "Goodwill and
Other Intangible Assets," and SFAS 147,  "Accounting for Certain Acquisitions of
Banking and Thrift Institutions." At December 31, 2006 and 2005, the Company had
intangible  assets  of  $221,000  and  $273,000,  which  is net  of  accumulated
amortization of $559,000 and $507,000, which are included in other assets. These
intangible  assets will continue to be amortized on a  straight-line  basis over
fifteen  years  under  the  provisions  of SFAS 142 and SFAS  147.  Amortization
expense  related to  intangible  assets was  $52,000 for each of the years ended
December 31, 2006, 2005 and 2004.

INCOME TAXES
     Deferred  income tax assets and  liabilities  are  determined  based on the
differences  between financial  statement  carrying amounts and the tax basis of
existing assets and liabilities.  These  differences are measured at the enacted
tax rates that will be in effect when these  differences  reverse.  Deferred tax
assets are reduced by a valuation  allowance when, in the opinion of management,
it is more likely than not that some portion of the deferred tax assets will not
be realized.  As changes in tax laws or rates are  enacted,  deferred tax assets
and liabilities are adjusted through the provision for income taxes. The Company
and its subsidiary file a consolidated federal income tax return.

ADVERTISING COSTS
     The  Company  follows the policy of charging  the costs of  advertising  to
expense as incurred.

EARNINGS PER SHARE
     On April 11, 2006, the Company declared a 5% stock dividend on common stock
outstanding  payable May 26, 2006 to shareholders of record on May 12, 2006. The
stock dividend resulted in the issuance of 135,157 additional common shares. All
share  amounts and per share data have been adjusted for the effect of the stock
dividend

     Basic earnings per share represents income available to common stockholders
divided by the weighted average number of common shares  outstanding  during the
period.  Diluted earnings per share reflects additional common shares that would
have been outstanding if dilutive  potential  common shares had been issued,  as
well as any  adjustment  to income that would result from the assumed  issuance.
Potential  common  shares  that may be issued by the  Company  relate  solely to
outstanding stock options and are determined using the treasury stock method.

STOCK OPTION PLANS
     In December 2004,  the Financial  Acounting  Standards  Board (FASB) issued
Statement  No. 123 (R),  "Share-Based  Payment."  Statement No. 123 (R) replaces
Statement No. 123, "Accounting for Stock-Based Compensation," and supersedes APB
Opinion No. 25,  "Accounting  for Stock Issued to Employees."  Statement No. 123
(R) requires the fair value of share-based payment transactions to be recognized
as  compensation  costs in the  financial  statements  over the  period  that an
employee  provides  service in  exchange  for the  award.  The fair value of the
share-based payments is estimated using the Black-Scholes  option-pricing model.
The Company adopted  Statement No. 123 (R) effective  January 1, 2006, using the
modified-prospective  transition method.  Under the modified prospective method,
companies are required to record  compensation  cost for new and modified awards
over the  related  vesting  period of such awards and record  compensation  cost
prospectively for the unvested portion,  at the date of adoption,  of previously
issued and outstanding  awards over the remaining vesting period of such awards.
No change to prior periods presented is permitted under the modified prospective
method.  The Company did not issue any stock  options in 2005.  All  outstanding
options  as of  December  31,  2005  were  fully  vested.

NORWOOD FINANCIAL CORP                 37                     2006 ANNUAL REPORT
<PAGE>

NOTE 2 -  SUMMARY  OF SIGNIFICANT  ACCOUNTING  POLICIES  (CONTINUED)
     For the years ended December 31, 2005 and 2004,  the Company  accounted for
its stock option plans under the recognition  and measurement  principles of APB
Opinion  No.  25,  "Accounting  for Stock  Issued  to  Employees,"  and  related
Interpretations.  No stock-based employee  compensation cost is reflected in net
income,  as all options granted under those plans had an exercise price equal to
the  market  value of the  underlying  common  stock on the date of  grant.  The
following  table  illustrates the effect on net income and earnings per share if
the Company had applied the fair value recognition  provisions of FASB Statement
No. 123,  "Accounting for  Stock-Based  Compensation,"  to stock-based  employee
compensation.
<TABLE>
<CAPTION>
                                                                     YEARS ENDED DECEMBER 31,
                                                                ----------------------------------
                                                                   2005                     2004
                                                                ----------------------------------
                                                                (THOUSANDS, EXCEPT PER SHARE DATA)
<S>                                                             <C>                      <C>
         Net income, as reported                                $   5,497                $   5,010
                  Total stock-based employee compensation
                  expense determined under fair value based
                  method for all awards, net of related taxes        (194)                    (143)
                                                                ----------------------------------
         Pro forma net income                                   $   5,303                $   4,867
                                                                ----------------------------------
         Earnings per share (basic):
                  As reported                                   $    1.96                $    1.80
                  Pro forma                                     $    1.89                $    1.75
                                                                ----------------------------------
         Earnings per share (assuming dilution):
                  As reported                                   $    1.92                $    1.77
                  Pro forma                                     $    1.85                $    1.71
                                                                ==================================
</TABLE>

CASH FLOW INFORMATION
     For the purposes of reporting cash flows, cash and cash equivalents include
cash on hand, amounts due from banks,  interest-bearing  deposits with banks and
federal funds sold.

     Cash payments for interest for the years ended December 31, 2006,  2005 and
2004 were $8,563,000,  $6,014,000, and $5,103,000,  respectively.  Cash payments
for income  taxes for the years  ended  December  31,  2006,  2005 and 2004 were
$2,677,000,  $2,449,000,  and  $1,941,000,   respectively.   Non-cash  investing
activities  for  2006,  2005  and  2004  included   foreclosed   mortgage  loans
transferred  to  foreclosed  real  estate and  repossession  of other  assets of
$154,000, $112,000, and $281,000, respectively.

OFF-BALANCE SHEET FINANCIAL INSTRUMENTS
     In  the  ordinary  course  of  business,   the  Company  has  entered  into
off-balance  sheet  financial  instruments  consisting of  commitments to extend
credit,  letters  of  credit  and  commitments  to sell  loans.  Such  financial
instruments  are recorded in the  consolidated  balance  sheets when they become
receivable or payable.

NORWOOD FINANCIAL CORP                 38                     2006 ANNUAL REPORT
<PAGE>

NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
TRUST ASSETS
     Assets held by the Company in a fiduciary  capacity for  customers  are not
included  in the  financial  statements  since  such items are not assets of the
Company. Trust income is reported on the accrual method.

COMPREHENSIVE INCOME
     Accounting  principles  generally  accepted in the United States of America
require that recognized revenue,  expenses,  gains and losses be included in net
income.  Although certain changes in assets and liabilities,  such as unrealized
gains and losses on available  for sale  securities,  are reported as a separate
component of the equity section of the consolidated  balance sheet,  such items,
along with net income, are components of comprehensive income.

     The components of other comprehensive income and related tax effects are as
follows:
<TABLE>
<CAPTION>
                                                                        YEARS ENDED DECEMBER 31,
                                                                      ----------------------------
                                                                        2006      2005      2004
                                                                      ----------------------------
                                                                             (IN THOUSANDS)
<S>                                                                   <C>       <C>        <C>
Unrealized holding gains/ (losses) on available for sale securities   $ 1,173   $(1,636)   $(1,204)
Reclassification adjustment for gains realized in income                   66        42        458
                                                                      ----------------------------
         Net Unrealized Gains/( Losses)                                 1,107    (1,678)    (1,662)

Income tax expense (benefit)                                              379      (573)      (564)
                                                                      ----------------------------
         Net of Tax Amount                                            $   728   $(1,105)   $(1,098)
                                                                      ============================
</TABLE>

SEGMENT REPORTING
     The Company acts as an independent community financial service provider and
offers  traditional  banking  and  related  financial  services  to  individual,
business  and  government  customers.  Through its branch and  automated  teller
machine  network,  the  Company  offers a full  array of  commercial  and retail
financial  services,  including the taking of time, savings and demand deposits;
the making of commercial, consumer and mortgage loans; and the providing of safe
deposit services.  The Company also performs  personal,  corporate,  pension and
fiduciary services through its Trust Department.

     Management  does not separately  allocate  expenses,  including the cost of
funding loan demand, between the commercial,  retail, mortgage banking and trust
operations of the Company.  As such,  discrete  information is not available and
segment reporting would not be meaningful.

NEW ACCOUNTING STANDARDS
     In February  2006,  the FASB issued SFAS No. 155,  "Accounting  for Certain
Hybrid  Financial  Instruments".  SFAS No. 155 amends FASB Statement No. 133 and
FASB  Statement No. 140, and improves the financial  reporting of certain hybrid
financial  instruments by requiring more  consistent  accounting that eliminates
exemptions   and  provides  a  means  to  simplify  the   accounting  for  these
instruments.  Specifically,  SFAS No. 155 allows financial instruments that have
embedded  derivatives  to be accounted for as a whole  (eliminating  the need to
bifurcate the derivative  from its host) if the holder elects to account for the
whole  instrument  on a fair  value  basis.  SFAS No. 155 is  effective  for all
financial  instruments  acquired or issued  after the  beginning  of an entity's
first fiscal year that begins after  September 15, 2006. The Company is required
to adopt the provisions of SFAS No. 155, as applicable, beginning in fiscal year
2007.  Management  does not  believe  the  adoption  of SFAS No. 155 will have a
material impact on the Company's  consolidated financial position and results of
operations.

NORWOOD FINANCIAL CORP                 39                     2006 ANNUAL REPORT
<PAGE>
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
     In March 2006, the FASB issued SFAS No. 156,  "Accounting  for Servicing of
Financial  Assets - An Amendment of FASB  Statement No. 140" ("SFAS 156").  SFAS
156 requires  that all  separately  recognized  servicing  assets and  servicing
liabilities be initially  measured at fair value, if practicable.  The statement
permits,  but does not require,  the subsequent  measurement of servicing assets
and  servicing  liabilities  at fair  value.  SFAS  156 is  effective  as of the
beginning of an entity's first fiscal year that begins after September 15, 2006,
which for the Company will be as of the  beginning  of fiscal 2007.  The Company
does not believe that the adoption of SFAS 156 will have a significant effect on
its consolidated financial statements.

     In February  2006,  the FASB issued FASB Staff  Position No. FAS  123(R)-4,
"Classification   of  Options  and  Similar   Instruments   Issued  as  Employee
Compensation  That Allow for Cash Settlement upon the Occurrence of a Contingent
Event." This position  amends SFAS 123R to  incorporate  that a cash  settlement
feature that can be exercised  only upon the  occurrence  of a contingent  event
that is outside the employee's  control does not meet certain conditions in SFAS
123R until it becomes  probable that the event will occur.  The guidance in this
FASB Staff  Position shall be applied upon initial  adoption of Statement  123R.
The Company is  currently  evaluating  the impact that the adoption of SFAS 123R
will have on its consolidated financial statements.

     In July 2006, the Financial  Accounting  Standards Board (FASB) issued FASB
Interpretation   No.  48,   "Accounting   for  Uncertainty  in  Income  Taxes-an
interpretation  of FASB  Statement  No.  109"  (FIN  48),  which  clarifies  the
accounting for uncertainty in tax positions.  This Interpretation  requires that
companies recognize in their financial  statements the impact of a tax position,
if that position is more likely than not of being  sustained on audit,  based on
the technical merits of the position. The provisions of FIN 48 are effective for
fiscal years beginning  after December 15, 2006,  with the cumulative  effect of
the change in accounting principle recorded as an adjustment to opening retained
earnings.  We are  currently  evaluating  the impact of  adopting  FIN 48 on our
consolidated financial statements.

     In  September  2006,  the FASB issued FASB  Statement  No. 157,  Fair Value
Measurements,  which  defines fair value,  establishes a framework for measuring
fair value under GAAP, and expands  disclosures  about fair value  measurements.
FASB Statement No. 157 applies to other accounting  pronouncements  that require
or permit fair value  measurements.  The new guidance is effective for financial
statements  issued for fiscal years  beginning  after November 15, 2007, and for
interim  periods  within those fiscal  years.  We are currently  evaluating  the
potential  impact,  if any,  of the  adoption of FASB  Statement  No. 157 on our
consolidated financial position, results of operations and cash flows.

     On September 13, 2006, the Securities and Exchange  Commission "SEC" issued
Staff  Accounting  Bulletin No. 108 ("SAB 108").  SAB 108 provides  interpretive
guidance  on how  the  effects  of the  carryover  or  reversal  of  prior  year
misstatements  should be  considered  in  quantifying  a potential  current year
misstatement.  Prior to SAB 108,  Companies  might  evaluate the  materiality of
financial-statement  misstatements  using either the income statement or balance
sheet approach, with the income statement approach focusing on new misstatements
added in the  current  year,  and the  balance  sheet  approach  focusing on the
cumulative  amount  of  misstatement  present  in  a  company's  balance  sheet.
Misstatements  that  would be  material  under one  approach  could be viewed as
immaterial under another  approach,  and not be corrected.  SAB 108 now requires
that companies view financial  statements  misstatements as material if they are
material according to either the income statement or balance sheet approach. The
Company has analyzed SAB 108 and  determined  that upon adoption it will have no
impact on the reported results of operations or financial condition.

NORWOOD FINANCIAL CORP                 40                     2006 ANNUAL REPORT
<PAGE>

NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
   In September  2006, the FASB's  Emerging Issues Task Force (EIFT) issued EITF
Issue No. 06-4, "Accounting for Deferred Compensation and Postretirement Benefit
Aspects of Endorsement Split Dollar Life Insurance  Arrangements"  ("EITF 06-4).
EITF 06-4 requires the recognition of a liability related to the  postretirement
benefits covered by an endorsement split-dollar life insurance arrangement.  The
consensus  highlights  that the employer  (who is also the  policyholder)  has a
liability  for the benefit it is  providing  to its  employee.  As such,  if the
policyholder  has  agreed  to  maintain  the  insurance  policy in force for the
employee's benefit during his or her retirement,  then the liability  recognized
during the  employee's  active service period should be based on the future cost
of insurance to be incurred during the employee's retirement.  Alternatively, if
the policy holder has agreed to provide the employee with a death benefit,  then
the liability for the future death benefit should be recognized by following the
guidance in SFAS No. 106 or Accounting Principals Board (APB) Opinion No. 12, as
appropriate.  For  transition,  an entity can choose to apply the guidance using
either of the following approaches: (a) a change in accounting principle through
retrospective application to all periods presented or (b) a change in accounting
principle  through a  cumulative-effect  adjustment  to the  balance in retained
earnings at the beginning of the year of adoption.  The disclosures are required
in  fiscal  years  beginning  after  December  15,  2007,  with  early  adoption
permitted. The Company does not believe that the implementation of this guidance
will have a material impact on the Company's consolidated financial statements.

     In  October  2006,  the FASB  issued  FASB  Staff  Position  No.  123(R)-5,
"Amendment of FASB Staff Position FAS 123(R)-1" ("FSP  123(R)-5").  FSP 123(R)-5
amends  FSP  123(R)-1  for equity  instruments  that were  originally  issued as
employee  compensation and then modified,  with such modification made solely to
reflect an equity  restructuring  that  occurs  when the  holders  are no longer
employees.  The Company  does not expect the  adoption of FSP 123(R)-5 to have a
material impact on its financial condition, results of operations or cash flows.

     In February  2007, the FASB issued SFAS No. 159, "The Fair Value Option for
Financial  Assets  and  Financial  Liabilities-Including  an  amendment  of FASB
Statement  No.  115." SFAS No. 159 permits  entities  to choose to measure  many
financial  instruments and certain other items at fair value.  Unrealized  gains
and losses on items for which the fair value  option  has been  elected  will be
recognized  in  earnings  at each  subsequent  reporting  date.  SFAS No. 159 is
effective for our Company  January 1, 2008. The Company is evaluating the impact
that the  adoption  of SFAS  No.  159 will  have on our  consolidated  financial
statements.

NORWOOD FINANCIAL CORP                 41                     2006 ANNUAL REPORT
<PAGE>

NOTE 3 - SECURITIES
     The amortized cost and fair value of securities were as follows:
<TABLE>
<CAPTION>
                                                                             DECEMBER 31, 2006
                                                              ---------------------------------------------
                                                                              GROSS      GROSS
                                                              AMORTIZED     UNREALIZED  UNREALIZED   FAIR
                                                                 COST         GAINS      LOSSES      VALUE
                                                              ---------------------------------------------
                                                                                (IN THOUSANDS)
<S>                                                           <C>            <C>       <C>         <C>
AVAILABLE FOR SALE:
         U.S. Government agencies                             $ 48,117      $   10    $   (546)   $  47,581
         States and political subdivisions                      16,572          73        (180)      16,465
         Corporate obligations                                   8,552          --        (113)       8,439
         Mortgage-backed securities                             39,123          98        (569)      38,652
                                                              ---------------------------------------------
                                                               112,364         181      (1,408)     111,137
         Equity securities                                         593       1,182          --        1,775
                                                              ---------------------------------------------
                                                              $112,957      $1,363    $ (1,408)   $ 112,912
                                                              =============================================
HELD TO MATURITY:
         States and political subdivisions                    $    954      $   17    $     --    $     971
                                                              =============================================
<CAPTION>
                                                                             DECEMBER 31, 2005
                                                              ---------------------------------------------
                                                                              GROSS      GROSS
                                                              AMORTIZED     UNREALIZED  UNREALIZED   FAIR
                                                                 COST         GAINS      LOSSES      VALUE
                                                              ---------------------------------------------
                                                                                (IN THOUSANDS)
<S>                                                           <C>            <C>       <C>         <C>
AVAILABLE FOR SALE:
         U.S. Treasuries                                      $  2,008       $    -    $    (19)   $  1,989
         U.S. Government agencies                               53,180            -      (1,184)     51,996
         States and political subdivisions                      19,810          141        (228)     19,723
         Corporate obligations                                  10,708            2        (260)     10,450
         Mortgage-backed securities                             30,675           17        (738)     29,954
                                                              ---------------------------------------------
                                                               116,381          160      (2,429)    114,112
         Equity securities                                         586        1,118          (2)      1,702
                                                              ---------------------------------------------
                                                              $116,967       $1,278    $ (2,431)   $115,814
                                                              =============================================
HELD TO MATURITY:
         States and political subdivisions                    $  1,452       $   28    $     -     $  1,480
                                                              =============================================
</TABLE>

     The  following  tables show the  Company's  investments'  gross  unrealized
losses and fair value,  aggregated by length of time that individual  securities
have been in a continuous unrealized loss position:
<TABLE>
<CAPTION>
                                                                DECEMBER 31, 2006
                                    ----------------------------------------------------------------------
                                       LESS THAN 12 MONTHS        12 MONTHS OR MORE        TOTAL
                                    ---------------------------------------------------------------------
                                      FAIR       UNREALIZED     FAIR    UNREALIZED   FAIR      UNREALIZED
                                      VALUE        LOSSES       VALUE     LOSSES     VALUE       LOSSES
                                    ---------------------------------------------------------------------
                                                                  (IN THOUSANDS)
<S>                                 <C>         <C>             <C>        <C>        <C>         <C>
U.S. Government agencies            $  9,966    $    (32)   $ 34,605    $   (514)   $ 44,571    $   (546)
States and political subdivisions      3,104          (8)      8,064        (172)     11,168        (180)
Corporate obligations                   --          --         7,440        (113)      7,440        (113)
Mortgage-backed securities             4,952         (35)     21,419        (534)     26,371        (569)
                                   ----------------------------------------------------------------------
                                    $ 18,022    $    (75)   $ 71,528    $ (1,333)   $ 89,550    $ (1,408)
                                   ======================================================================
</TABLE>
NORWOOD FINANCIAL CORP                 42                     2006 ANNUAL REPORT

<PAGE>
<TABLE>
<CAPTION>
                                                                DECEMBER 31, 2005
                                    ----------------------------------------------------------------------
                                       LESS THAN 12 MONTHS        12 MONTHS OR MORE        TOTAL
                                    ---------------------------------------------------------------------
                                      FAIR       UNREALIZED     FAIR    UNREALIZED   FAIR      UNREALIZED
                                      VALUE        LOSSES       VALUE     LOSSES     VALUE       LOSSES
                                    ---------------------------------------------------------------------
                                                                  (In Thousands)

<S>                                 <C>         <C>             <C>        <C>        <C>         <C>
U.S. Treasuries                    $      -     $      -        $  1,989    $   (19)    $  1,989  $   (19)
U.S. Government agencies             11,378         (122)         40,618     (1,062)      51,996   (1,184)
States and political subdivisions     6,014          (78)          4,797       (150)      10,811     (228)
Corporate obligations                     -            -           9,452       (260)       9,452     (260)
Mortgage-backed securities           14,675         (225)         14,380       (513)      29,055     (738)
Equity securities                        34           (2)              -           -          34       (2)
                                   ----------------------------------------------------------------------
                                   $ 32,101     $   (427)       $ 71,236    $(2,004)    $103,337  $(2,431)
                                   ======================================================================
</TABLE>

     At December 31, 2006, the Company had 20 securities in the less than twelve
month  category and 92  securities  in the twelve  months or more  category.  In
management's  opinion,  the unrealized  losses reflect changes in interest rates
subsequent to the acquisition of specific  securities.  Management believes that
the unrealized losses represent temporary  impairment of the securities,  as the
Company has the intent and ability to hold these  investments  until maturity or
market price recovery.

     The  amortized  cost and fair value of debt  securities  as of December 31,
2006 by contractual  maturity,  are shown below.  Expected maturities may differ
from  contractual  maturities  because  borrowers  may have the  right to prepay
obligations with or without call or prepayment penalties.
<TABLE>
<CAPTION>
                                                              AVAILABLE FOR SALE      HELD TO MATURITY
                                                             -----------------------------------------
                                                              AMORTIZED     FAIR      AMORTIZED    FAIR
                                                               COST        VALUE      COST       VALUE
                                                             -----------------------------------------
                                                                            (IN THOUSANDS)
<S>                                                          <C>          <C>        <C>         <C>
Due in one year or less                                      $ 32,157     $ 31,835   $    --     $  --
Due after one year through five years                          30,106       29,632        --        --
Due after five years through ten years                          8,883        8,923       414       429
Due after ten years                                             2,095        2,095       540       542
                                                             -----------------------------------------
                                                               73,241       72,485       954       971
Mortgage-backed securities                                     39,123       38,652        --        --
                                                             -----------------------------------------
                                                             $112,364     $111,137   $   954     $ 971
                                                             =========================================
</TABLE>

     Gross  realized  gains and  gross  realized  losses on sales of  securities
available for sale were $66,000 and $-0-,  respectively,  in 2006,  $107,000 and
$65,000, respectively, in 2005, and $475,000 and $17,000, respectively, in 2004.

     Securities with a carrying value of $50,677,000 and $41,959,000 at December
31, 2006 and 2005,  respectively,  were pledged to secure public deposits,  U.S.
Treasury demand notes,  securities  sold under  agreements to repurchase and for
other purposes as required or permitted by law.

NORWOOD FINANCIAL CORP                 43                     2006 ANNUAL REPORT
<PAGE>

NOTE 4 - LOANS RECEIVABLE AND ALLOWANCE FOR LOAN LOSSES

     The components of loans receivable at December 31 were as follows:

                                                      2006        2005
                                                   ----------------------
                                                       (IN THOUSANDS)
Real estate:
         Residential                               $ 113,783    $ 100,705
         Commercial                                  138,881      133,495
         Construction                                  7,714        5,944
Commercial, financial and agricultural                34,019       26,755
Consumer loans to individuals                         21,520       24,353
                                                   ----------------------
                                                     315,917      291,252
Unearned income and deferred fees                       (350)        (362)
Allowance for loan losses                             (3,828)      (3,669)
                                                   ----------------------
                                                   $ 311,739    $ 287,221
                                                   ======================

The following table presents changes in the allowance for loan losses:

                                                    YEARS ENDED DECEMBER 31,
                                              ---------------------------------
                                                 2006       2005         2004
                                              ---------------------------------
                                                       (IN THOUSANDS)

Balance, beginning                            $ 3,669      $ 3,448      $ 3,267
         Provision for loan losses                220          350          455
         Recoveries                                89           81          108
         Loans charged off                       (150)        (210)        (382)
                                              ---------------------------------
Balance, ending                               $ 3,828      $ 3,669      $ 3,448
                                              =================================

     The recorded  investment in impaired loans,  not requiring an allowance for
loan  losses  was   $290,000  and  $310,000  at  December  31,  2006  and  2005,
respectively.  The recorded  investment in impaired loans requiring an allowance
for loan  losses was $-0- at  December  31,  2006 and 2005.  For the years ended
December 31,  2006,  2005 and 2004,  the average  recorded  investment  in these
impaired  loans was  $286,000,  $316,000,  and  $-0-,  and the  interest  income
recognized on these impaired loans was $1,000, $11,000, and $-0-, respectively.

     Loans on which the accrual of interest  has been  discontinued  amounted to
$409,000 and $341,000 at December 31, 2006 and 2005, respectively. Loan balances
past due 90 days or more and  still  accruing  interest,  but  which  management
expects  will  eventually  be paid in  full,  amounted  to $-0- and  $12,000  at
December 31, 2006 and 2005, respectively.

NOTE 5 - PREMISES AND EQUIPMENT
     Components of premises and equipment at December 31 are as follows:

                                                         2006             2005
                                                     --------------------------
                                                             (In Thousands)
Land and improvements                                $    925          $    925
Buildings and improvements                              7,766             7,318
Furniture and equipment                                 4,638             3,956
                                                     --------------------------
                                                       13,329            12,199
Accumulated depreciation                               (7,309)           (6,806)
                                                     --------------------------
                                                     $  6,020          $  5,393
                                                     ==========================

NORWOOD FINANCIAL CORP                 44                     2006 ANNUAL REPORT

<PAGE>

NOTE 5 - PREMISES AND EQUIPMENT (CONTINUED)
     Certain  facilities  are leased  under  various  operating  leases.  Rental
expense for these leases was $222,000,  $203,000,  and  $147,000,  for the years
ended December 31, 2006, 2005 and 2004. Future minimum rental  commitments under
noncancellable leases as of December 31, 2006 were as follows (in thousands):

                                                             2007         $  271
                                                             2008            241
                                                             2009            231
                                                             2010            228
                                                             2011            239
                                                             Thereafter    2,801
                                                                          ------
                                                                          $4,011
                                                                          ======
NOTE 6 - DEPOSITS
     Aggregate  time  deposits  in   denominations  of  $100,000  or  more  were
$56,736,000 and $48,857,000 at December 31, 2006 and 2005, respectively.

     At December 31, 2006,  the  scheduled  maturities  of time  deposits are as
follows (in thousands):

                                                                 2007   $142,281
                                                                 2008     17,713
                                                                 2009      4,311
                                                                 2010      3,897
                                                                 2011      4,253
                                                                        --------
                                                                        $172,455
                                                                        ========

NOTE 7 - BORROWINGS
     Short-term borrowings at December 31 consist of the following:

                                                              2006         2005
                                                             -------------------
                                                               (IN THOUSANDS)

Securities sold under agreements to repurchase               $21,736     $12,464
Federal funds purchased                                         --         5,100
U.S. Treasury demand notes                                     1,000       1,000
                                                             -------------------
                                                             $22,736     $18,564
                                                             ===================

     The outstanding  balances and related information of short-term  borrowings
are summarized as follows:
<TABLE>
<CAPTION>
                                                         YEARS ENDED DECEMBER 31,
                                                         -----------------------
                                                           2006          2005
                                                         -----------------------
                                                         (DOLLARS IN THOUSANDS)
<S>                                                      <C>          <C>
Average balance during the year                          $22,209      $15,059
Average interest rate during the year                       4.39%        2.76%
Maximum month-end balance during the year                $29,677      $24,956
Weighted average interest rate at the end of the year       4.20%         3.76%
</TABLE>

     Securities sold under agreements to repurchase  generally mature within one
day to one year from the transaction date. Securities with an amortized cost and
fair value of $24,535,000  and  $24,270,000 at December 31, 2006 and $14,768,000
and  $14,396,000  at December  31,  2005 were  pledged as  collateral  for these
agreements.  The securities  underlying the agreements  were under the Company's
control.


NORWOOD FINANCIAL CORP                 45                     2006 ANNUAL REPORT
<PAGE>

NOTE 7 - BORROWINGS (CONTINUED)
     The Company has a line of credit commitment available from the Federal Home
Loan Bank (FHLB) of Pittsburgh for borrowings of up to $20,000,000 which expires
in December 2011.  There were no borrowings under this line at December 31, 2006
and 2005.  The Company has a line of credit  commitment  available  from PNC for
$12,000,000,  Atlantic Central Bankers Bank for $7,000,000 and Wachovia Bank for
$2,000,000. There were no borrowings under these lines of credit at December 31,
2006 and 2005.  The Company had a line of credit  commitment  available from the
Bank of Lancaster  County for $5,000,000 at December 31, 2006 and for $8,000,000
at December 31, 2005.  There was $-0-  outstanding  under this line of credit at
December 31, 2006 and $5,100,000 at December 31, 2005.

     Long-term debt consisted of the following at December 31, 2006 and 2005:

                                                               2006        2005
                                                             -------------------
                                                                (IN THOUSANDS)
Notes with the Federal Home Loan Bank (FHLB):
    Convertible note due December 2006 at 6.19%              $    --     $ 5,000
    Fixed rate note due April 2008 at 4.17%                    5,000       5,000
    Convertible note due April 2009 at 5.53% and 4.83%         5,000       5,000
    Convertible note due April 2009 at 5.07%                      --       5,000
    Convertible note due January 2011 at 5.24%                 3,000       3,000
                                                             -------------------
                                                             $13,000     $23,000
                                                             ===================

     The convertible notes contain an option which allows the FHLB, at quarterly
intervals, to change the note to an adjustable-rate advance at three-month LIBOR
plus 11 to 16 basis points.  If the notes are  converted,  the option allows the
Bank to put the funds back to the FHLB at no charge.

     Contractual  maturities  of  long-term  debt at  December  31,  2006 are as
follows (in thousands):

                                                            2007         $    --
                                                            2008           5,000
                                                            2009           5,000
                                                            2010              --
                                                            2011           3,000
                                                            Thereafter        --
                                                                         -------
                                                                         $13,000
                                                                         =======

     The Bank's maximum  borrowing  capacity with the Federal Home Loan Bank was
$216,869,000 of which $13,000,000 was outstanding at December 31, 2006. Advances
from the Federal Home Loan Bank are secured by qualifying assets of the Bank.

NOTE 8 - EMPLOYEE BENEFIT PLANS
     The Company has a defined  contributory  profit-sharing plan which includes
provisions  of a  401(k)  plan.  The  plan  permits  employees  to make  pre-tax
contributions between 2% and 10% of the employee's  compensation.  The amount of
contributions  to  the  plan,  including  matching  contributions,   is  at  the
discretion  of the  Board of  Directors.  All  employees  over the age of 21 are
eligible  to  participate  in the plan  after one year of  employment.  Employee
contributions  are vested at all times, and any Company  contributions are fully
vested after five years. The Company's contributions are expensed as the cost is
incurred, funded currently, and amounted to $181,000, $207,000, and $185,000 for
the years ended December 31, 2006, 2005 and 2004, respectively.

NORWOOD FINANCIAL CORP                 46                     2006 ANNUAL REPORT
<PAGE>

NOTE 8 - EMPLOYEE BENEFIT PLANS (CONTINUED)
     The Company has a non-qualified  supplemental executive retirement plan for
the benefit of certain executive officers.  At December 31, 2006 and 2005, other
liabilities include approximately  $858,000 and $720,000 accrued under the Plan.
Compensation expense includes  approximately  $138,000,  $140,000, and $130,000,
relating to the supplemental  executive retirement plan for 2006, 2005 and 2004,
respectively.  To fund the benefits under this plan, the Company is the owner of
single  premium life insurance  policies on  participants  in the  non-qualified
retirement plan. At December 31, 2006 and 2005, the cash value of these policies
was $7,479,000 and $7,213,000, respectively.

     The Company has a leveraged  employee stock ownership plan ("ESOP") for the
benefit of employees who meet the eligibility  requirements which include having
completed  one  year of  service  with  the  Company  and  having  attained  age
twenty-one.  The ESOP Trust purchased  shares of the Company's common stock with
proceeds from a loan from the Company.  The Bank makes cash contributions to the
ESOP on an annual basis  sufficient to enable the ESOP to make the required loan
payments. The loan bears interest at the prime rate adjusted annually.  Interest
is payable annually and principal payable in equal annual  installments over ten
years. The loan is secured by the shares of the stock purchased.

     As the debt is repaid, shares are released from collateral and allocated to
qualified  employees  based on the  proportion of debt service paid in the year.
The Company  accounts for its  leveraged  ESOP in accordance  with  Statement of
Position  93-6.  Accordingly,  the shares  pledged as collateral are reported as
unallocated  ESOP  shares in the  consolidated  balance  sheets.  As shares  are
released from collateral,  the Company reports compensation expense equal to the
current  market  price of the  shares,  and the shares  become  outstanding  for
earnings per share computations. Dividends on allocated ESOP shares are recorded
as a reduction of retained earnings and dividends on unallocated ESOP shares are
recorded as a reduction of debt.  Dividends recorded as a reduction of debt were
$12,000  and  $23,000  for  the  years  ended   December   31,  2006  and  2005,
respectively.  The total employer contribution was $143,000 and $193,000 for the
years ended December 31, 2006 and 2005, respectively.

     Compensation expense for the ESOP was $444,000,  $588,000, and $530,000 for
the years ended December 31, 2006, 2005, and 2004, respectively.

     The status of the ESOP shares at December 31 are as follows:

                                                          2006            2005
                                                       -------------------------

Allocated shares                                        162,690          151,125
Shares released from allocation                          28,219           25,466
Unreleased shares                                            --           14,318
                                                       -------------------------
         TOTAL ESOP SHARES                              190,909          190,909
                                                       -------------------------
Fair value of unreleased shares                        $     --         $440,000
                                                       =========================

NOTE 9 - INCOME TAXES
     The components of the provision for federal income taxes are as follows:

                                              YEARS ENDED DECEMBER 31,
                                      -----------------------------------------
                                         2006           2005            2004
                                      -----------------------------------------
                                                    (IN THOUSANDS)

Current                               $ 2,787          $ 2,378          $ 2,084
Deferred                                 (108)             (37)             (81)
                                      -----------------------------------------
                                      $ 2,679          $ 2,341          $ 2,003
                                      =========================================

NORWOOD FINANCIAL CORP                 47                     2006 ANNUAL REPORT
<PAGE>

NOTE 9 - INCOME TAXES (CONTINUED)

     Deferred income taxes reflect  temporary  differences in the recognition of
revenue  and  expenses  for tax  reporting  and  financial  statement  purposes,
principally  because  certain items,  such as, the allowance for loan losses and
loan fees are  recognized in different  periods for financial  reporting and tax
return purposes. A valuation allowance has not been established for deferred tax
assets.  Realization  of the  deferred  tax assets is  dependent  on  generating
sufficient  taxable  income.  Although  realization  is not assured,  management
believes it is more likely than not that all of the  deferred  tax asset will be
realized. Deferred tax assets are recorded in other assets.

     Income tax  expense of the  Company is less than the  amounts  computed  by
applying  statutory  federal  income  tax rates to income  before  income  taxes
because of the following:
<TABLE>
<CAPTION>
                                                                                         PERCENTAGE OF INCOME
                                                                                         BEFORE INCOME TAXES
                                                                                ----------------------------------------
                                                                                       YEARS ENDED DECEMBER 31,
                                                                                ----------------------------------------
                                                                                 2006            2005              2004
                                                                                ----------------------------------------

<S>                                                                             <C>              <C>               <C>
         Tax at statutory rates                                                 34.0%            34.0%             34.0%
         Tax exempt interest income, net of interest expense disallowance       (3.6)            (4.7)             (5.6)
         Increase in fair market value of ESOP                                   1.2              1.6               1.7
         Incentive stock options compensation expense                            0.5               -                -
         Earnings on life insurance                                             (1.0)            (1.1)             (1.4)
         Other                                                                   0.1              0.1              (0.1)
                                                                                ----------------------------------------
                                                                                31.2%            29.9%             28.6%
                                                                                ========================================
</TABLE>

     The income tax provision includes $22,000, $14,000, and $156,000, of income
taxes  relating to realized  securities  gains for the years ended  December 31,
2006, 2005, and 2004, respectively.

     The net  deferred tax asset  included in other  assets in the  accompanying
consolidated  balance  sheets  includes  the  following  amounts of deferred tax
assets and liabilities:
<TABLE>
<CAPTION>
                                                                 2006      2005
                                                               -----------------
                                                                 (IN THOUSANDS)
<S>                                                            <C>        <C>
         Deferred tax assets:
         Allowance for loan losses                             $1,142     $1,070
         Deferred compensation                                    292        252
         Intangible assets                                         94        120
         Net unrealized losses on securities                        1        380
         Other                                                     21          4
                                                               -----------------
                  Total Deferred Tax Assets                     1,550      1,826
                                                               -----------------

Deferred tax liabilities:
         Premises and equipment                                   215        254
         Deferred loan fees                                       305        271
                                                               -----------------
                  Total Deferred Tax Liabilities                  520        525
                                                               -----------------
Net Deferred Tax Asset                                         $1,030     $1,301
                                                               =================
</TABLE>
NORWOOD FINANCIAL CORP                 48                     2006 ANNUAL REPORT
<PAGE>

NOTE 10 - TRANSACTIONS WITH EXECUTIVE OFFICERS AND DIRECTORS
     Certain directors and executive officers of the Company, their families and
their affiliates are customers of the Bank. Any transactions  with such parties,
including  loans and  commitments,  were in the  ordinary  course of business at
normal terms, including interest rates and collateralization,  prevailing at the
time and did not represent more than normal risks. At December 31, 2006 and 2005
such loans amounted to $5,959,000 and $3,130,000, respectively. During 2006, new
loans to such  related  parties  totaled  $3,360,000  and  repayments  and other
reductions aggregated $531,000.

NOTE 11 - REGULATORY MATTERS AND STOCKHOLDERS' EQUITY
     The Company and Bank are subject to various regulatory capital requirements
administered  by the federal banking  agencies.  Failure to meet minimum capital
requirements   can  initiate   certain   mandatory   and   possibly   additional
discretionary  actions by regulators  that, if  undertaken,  could have a direct
material effect on the Company's  financial  statements.  Under capital adequacy
guidelines  and the  regulatory  framework  for prompt  corrective  action,  the
Company must meet specific capital guidelines that involve quantitative measures
of the Company's  assets,  liabilities  and certain  off-balance  sheet items as
calculated under regulatory accounting practices.  The Company's capital amounts
and classification  are also subject to qualitative  judgments by the regulators
about components, risk-weightings and other factors.

     Quantitative  measures established by regulation to ensure capital adequacy
require the Company  and the Bank to  maintain  minimum  amounts and ratios (set
forth in the  table  below)  of total  and Tier 1  capital  (as  defined  in the
regulations) to risk-weighted  assets,  and of Tier 1 capital to average assets.
Management believes, as of December 31, 2006, that the Company and the Bank meet
all capital adequacy requirements to which they are subject.

     As of December 31, 2006, the most recent  notification  from the regulators
has categorized the Bank as well capitalized under the regulatory  framework for
prompt  corrective  action.  There  are  no  conditions  or  events  since  that
notification that management believes have changed the Bank's category.

     The Bank's actual capital amounts and ratios are presented in the table:

<TABLE>
<CAPTION>
                                                                                                       TO BE WELL
                                                                                                    CAPITALIZED UNDER
                                                                         FOR CAPITAL ADEQUACY       PROMPT CORRECTIVE
                                                       ACTUAL                  PURPOSES             ACTION PROVISIONS
                                                --------------------------------------------------------------------------
                                                AMOUNT       RATIO        AMOUNT       RATIO        AMOUNT       RATIO
                                                --------------------------------------------------------------------------
                                                                       (Dollars in Thousands)
<S>                                         <C>            <C>       <C>              <C>      <C>              <C>
AS OF DECEMBER 31, 2006:
     Total capital (to risk-weighted
         assets)                               $55,017        16.73%    $=>26,308      =>8.00%    $=>32,885      =>10.00%
     Tier 1 capital (to risk-weighted
         assets)                                50,800        15.45      =>13,153      =>4.00      =>19,728       =>6.00
     Tier 1 capital (to average assets)         50,800        11.15      =>18,224      =>4.00      =>22,780       =>5.00

AS OF DECEMBER 31, 2005:
     Total capital (to risk-weighted
         assets)                               $51,033        16.41%    $=>24,879      =>8.00%    $=>31,098      =>10.00%
     Tier 1 capital (to risk-weighted
         assets)                                46,986        15.11      =>12,438      =>4.00      =>18,658       =>6.00
     Tier 1 capital (to average assets)         46,986        10.84      =>17,338      =>4.00      =>21,673       =>5.00

</TABLE>
     The  Company's  ratios do not differ  significantly  from the Bank's ratios
presented above.

     The Bank is required to maintain  average  cash  reserve  balances in vault
cash or with the  Federal  Reserve  Bank.  The amount of these  restricted  cash
reserve  balances at December 31, 2006 and 2005 was  approximately  $253,000 and
$308,000, respectively.

NORWOOD FINANCIAL CORP                 49                     2006 ANNUAL REPORT
<PAGE>

NOTE 11 - REGULATORY MATTERS AND STOCKHOLDERS' EQUITY (CONTINUED)
     Under Pennsylvania banking law, the Bank is subject to certain restrictions
on the  amount  of  dividends  that  it may  declare  without  prior  regulatory
approval. At December 31, 2006,  $44,816,000 of retained earnings were available
for  dividends  without prior  regulatory  approval,  subject to the  regulatory
capital  requirements  discussed above. Under Federal Reserve  regulations,  the
Bank is limited as to the amount it may lend affiliates,  including the Company,
unless such loans are collateralized by specific obligations.

NOTE 12 - STOCK OPTION PLANS
     The Company's  shareholders  approved the Norwood Financial Corp 2006 Stock
Option Plan at the Annual  Meeting on April 26,  2006.  An  aggregate of 250,000
shares of authorized but unissued  Common Stock of the Company were reserved for
future  issuance under the Plan. This includes up to 40,000 shares for awards to
outside  directors.  The options  granted under this plan have an exercise price
equal to the fair  market  value of the common  stock on the grant date and vest
over a twelve month period.  Under this plan, the Company granted 47,700 options
in 2006, which included 7,675 options granted to outside directors.  The Company
adopted a Stock  Option Plan for the  officers  and  employees of the Company in
1995. An aggregate of 750,000 shares of authorized but unissued  common stock of
the Company  were  reserved for future  issuance  under the Plan.  In 1999,  the
Company  adopted the  Directors  Stock  Compensation  Plan with an  aggregate of
26,400 shares reserved for issuance under the Plan. The stock options  typically
have  expiration  terms of ten years  subject  to certain  extensions  and early
terminations  and vest over periods ranging from six months to one year from the
date of grant.  The per share  exercise  price of a stock  option shall be, at a
minimum,  equal to the fair  value  of a share of  common  stock on the date the
option is granted.  There were no options  granted under either plan in 2005, as
both plans have expired.

     As of  December  31,  2006,  there  was  approximately  $251,000  of  total
unrecognized  compensation cost related to nonvested options under the plan. For
the year ended  December  31,  2006,  salaries  and  employee  benefits  expense
includes  $136,000  related to the adoption of Statement No. 123 (R). Net income
for 2006 was reduced by approximately $129,000.

     A summary of the Company's  stock option  activity and related  information
for the years ended December 31 follows:

<TABLE>
<CAPTION>
                                                 2006                          2005                  2004
                                  ---------------------------------------------------------------------------------
                                              WEIGHTED                             WEIGHTED               WEIGHTED
                                               AVERAGE     AVERAGE                  AVERAGE                AVERAGE
                                              EXERCISE    INTRINSIC                EXERCISE               EXERCISE
                                  OPTIONS       PRICE      VALUE       OPTIONS       PRICE    OPTIONS       PRICE
                                  ---------------------------------------------------------------------------------
<S>                               <C>        <C>          <C>        <C>          <C>        <C>
Outstanding, beginning of year    140,295    $   18.45                  149,997    $ 18.25    148,687    $   16.05
         Granted                   47,700        30.91                       --         --     20,475        30.00
         Exercised                 (4,351)       13.05                   (9,701)     15.44    (15,603)       13.14
         Forfeited                     --           --                       --         --     (3,562)       16.16
                                  ---------------------------------------------------------------------------------
Outstanding, end of year          183,645    $   21.81    $1,780,000    140,296    $ 18.45    149,997    $   18.25
                                  =================================================================================
Exercisable, at end of year       135,945    $   18.62    $1,751,000
                                  ==================================
</TABLE>

NORWOOD FINANCIAL CORP                 50                     2006 ANNUAL REPORT
<PAGE>
NOTE 12 - STOCK OPTION PLANS (CONTINUED)
     The fair value of each option grant is estimated on the date of grant using
the  Black-Scholes  option  pricing  model with the following  weighted  average
assumptions:

                                                      Years Ended December 31,
                                                   ----------------------------
                                                      2006      2005     2004
                                                   ----------------------------
Dividend yield                                        2.70%       --%    2.61%
Expected life                                      7 years        --   7 years
Expected volatility                                  25.12%       --%    34.66%
Risk-free interest rate                               4.85%       --%    3.80%
Weighted average fair value of options granted       $8.11       $--    $9.50

     The expected  volatility is based on historical  volatility.  The risk-free
interest rates for periods within the  contractual  life of the awards are based
on the U.S.  Treasury  yield  curve in  effect  at the  time of the  grant.  The
expected life is based on historical  exercise  experience.  The dividend  yield
assumption  is  based on the  Company's  history  and  expectation  of  dividend
payouts.

     Proceeds from stock option exercises totaled $60,000 in 2006. Shares issued
in connection  with stock options  exercises are issued from available  treasury
shares.  If no  treasury  shares are  available,  new  shares  are  issued  from
available  authorized  shares.  During 2006, all the shares issued in connection
with stock option  exercises,  4,351 shares in total, were issued from available
treasury shares.

     As  of  December  31,  2006,  outstanding  stock  options  consist  of  the
following:
<TABLE>
<CAPTION>
                                             Options       Exercise   Remaining          Options        Exercise
                                           Outstanding      Price    Life, Years       Exercisable      Price
                                           --------------------------------------------------------------------
<S>                                        <C>               <C>        <C>             <C>              <C>
                                            13,695           $10.88      1.0              13,695         $10.88
                                            18,900            15.24      2.0              18,900          15.24
                                            16,537            14.12      3.0              16,537          14.12
                                             9,450            10.36      4.0               9,450          10.36
                                            18,113            16.98      5.0              18,113          16.98
                                            18,113            19.05      6.0              18,113          19.05
                                            20,662            23.95      7.0              20,662          23.95
                                            20,475            30.00      8.0              20,475          30.00
                                            25,200            30.38      9.3                  --             --
                                            22,500            31.50     10.0                  --             --
                                           -------                                       -------
Outstanding, end of year                   183,645           $21.81      6.0             135,945         $18.62
                                           =======                                       =======
</TABLE>
NORWOOD FINANCIAL CORP                 51                     2006 ANNUAL REPORT
<PAGE>

NOTE 13 - EARNINGS PER SHARE
     The  following  table  sets  forth the  computations  of basic and  diluted
earnings per share:
<TABLE>
<CAPTION>

                                                                             YEARS ENDED DECEMBER 31,
                                                                     -------------------------------------
                                                                         2006         2005        2004
                                                                     -------------------------------------
                                                                     (IN THOUSANDS, EXCEPT PER SHARE DATA)

<S>                                                                     <C>          <C>          <C>
Numerator, net income                                                   $5,910       $5,497       $5,010
                                                                     =====================================
Denominator:
         Denominator for basic earnings per share, weighted
                  average shares                                         2,795        2,800        2,779
         Effect of dilutive securities, employee stock options              55           59           59
                                                                     -------------------------------------
Denominator for diluted earnings per share, adjusted weighted average
         shares and assumed conversions                                  2,850        2,859        2,838
                                                                     =====================================

Basic earnings per common share                                         $ 2.11       $ 1.96       $ 1.80
                                                                     =====================================

Diluted earnings per common share                                       $ 2.07       $ 1.92       $ 1.77
                                                                     =====================================
</TABLE>

NOTE 14 - OFF-BALANCE-SHEET FINANCIAL INSTRUMENTS

     The Bank is a party to financial instruments with off-balance-sheet risk in
the normal  course of business  to meet the  financing  needs of its  customers.
These financial  instruments include commitments to extend credit and letters of
credit.  Those instruments  involve, to varying degrees,  elements of credit and
interest  rate risk in  excess  of the  amount  recognized  in the  consolidated
balance sheets.

     The Bank's  exposure to credit loss in the event of  nonperformance  by the
other party to the financial  instrument  for  commitments  to extend credit and
letters of credit is represented by the contractual amount of those instruments.
The Bank uses the same credit  policies in making  commitments  and  conditional
obligations as it does for on-balance sheet instruments.

     A summary of the Bank's financial instrument commitments is as follows:

                                                                DECEMBER 31,
                                                           ---------------------
                                                            2006           2005
                                                           ---------------------
                                                              (IN THOUSANDS)

Commitments to grant loans                                 $12,611       $16,078
Unfunded commitments under lines of credit                  34,152        29,969
Standby letters of credit                                    7,215         6,791
                                                           ---------------------
                                                           $53,978       $52,838
                                                           =====================

     Commitments  to extend credit are  agreements to lend to a customer as long
as  there  is no  violation  of  any  condition  established  in  the  contract.
Commitments  generally have fixed expiration dates or other termination  clauses
and may require  payment of a fee. Since some of the commitments are expected to
expire  without  being  drawn  upon,  the  total  commitment   amount  does  not
necessarily  represent  future  cash  requirements.   The  Bank  evaluates  each
customer's credit  worthiness on a case-by-case  basis. The amount of collateral
obtained,  if deemed necessary by the Bank upon extension of credit, is based on
management's  credit  evaluation of the customer and generally  consists of real
estate.

NORWOOD FINANCIAL CORP                 52                     2006 ANNUAL REPORT
<PAGE>

NOTE 14 - OFF-BALANCE-SHEET FINANCIAL INSTRUMENTS (CONTINUED)
     Standby letters of credit are conditional commitments issued by the Bank to
guarantee the performance of a customer to a third party.  The majority of these
standby letters of credit expire within the next twelve months.  The credit risk
involved in issuing  letters of credit is essentially  the same as that involved
in extending other loan  commitments.  The Bank requires  collateral  supporting
these  letters of credit when deemed  necessary.  Management  believes  that the
proceeds  obtained  through a liquidation of such collateral would be sufficient
to cover the maximum  potential  amount of future  payments  required  under the
corresponding guarantees. The current amount of the liability as of December 31,
2006 and 2005 for  guarantees  under  standby  letters  of credit  issued is not
material.

NOTE 15 - DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
     Management  uses its best  judgment  in  estimating  the fair  value of the
Company's financial  instruments;  however, there are inherent weaknesses in any
estimation technique.  Therefore,  for substantially all financial  instruments,
the fair value estimates  herein are not  necessarily  indicative of the amounts
the Company could have realized in a sales  transaction on the dates  indicated.
The estimated fair value amounts have been measured as of their  respective year
ends  and  have  not  been   re-evaluated  or  updated  for  purposes  of  these
consolidated financial statements subsequent to those respective dates. As such,
the  estimated  fair values of these  financial  instruments  subsequent  to the
respective  reporting  dates may be different than the amounts  reported at each
year end.

     The following  information  should not be interpreted as an estimate of the
fair value of the entire Company since a fair value calculation is only provided
for a limited  portion of the Company's  assets and  liabilities.  Due to a wide
range of valuation  techniques and the degree of subjectivity used in making the
estimates,  comparisons  between the  Company's  disclosures  and those of other
companies may not be meaningful. The following methods and assumptions were used
to estimate the fair values of the Company's  financial  instruments at December
31, 2006 and 2005:

o    For cash and due from banks and  interest-bearing  deposits  with banks the
     carrying amount is a reasonable estimate of fair value.

o    For securities,  fair value equals quoted market price, if available.  If a
     quoted market price is not available,  fair value is estimated using quoted
     market prices for similar securities.

o    The fair value of loans is estimated by  discounting  the future cash flows
     using the current  rates at which  similar loans would be made to borrowers
     with similar credit ratings and for the same remaining maturities.

o    The fair value of the investment in FHLB stock is the carrying amount.

o    The fair value of accrued interest  receivable and accrued interest payable
     is the carrying amount.

o    The fair  value of demand  deposits,  savings  accounts  and  money  market
     deposits is the amount  payable on demand at the reporting  date.  The fair
     value of  fixed-maturity  certificates  of deposit is  estimated  using the
     rates currently offered for deposits for similar remaining maturities.

o    The fair value of short-term borrowings approximate their carrying amount.

o    The fair value of long-term debt is estimated  using  discounted  cash flow
     analyses based upon the Company's current borrowing rates for similar types
     of borrowing arrangements.

o    The fair value of commitments to extend credit and for outstanding  letters
     of credit is  estimated  using the fees  currently  charged  to enter  into
     similar agreements.

NORWOOD FINANCIAL CORP                 53                     2006 ANNUAL REPORT
<PAGE>

NOTE 15 - DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
     The estimated  fair values of the Company's  financial  instruments  are as
follows:
<TABLE>
<CAPTION>
                                                                                 DECEMBER 31, 2006    DECEMBER 31, 2005
                                                                                -----------------------------------------
                                                                                CARRYING     FAIR     CARRYING     FAIR
                                                                                 AMOUNT     VALUE      AMOUNT      VALUE
                                                                                -----------------------------------------
                                                                                              (IN THOUSANDS)
<S>                                                                             <C>        <C>        <C>        <C>
Financial assets:
         Cash and due from banks and interest-bearing
                  deposits with banks                                           $  9,517   $  9,517   $  9,816   $  9,816
         Securities                                                              113,866    113,883    117,266    117,294
         Loans receivable, net                                                   311,739    305,779    287,221    282,623
         Investment in FHLB stock                                                  1,687      1,687      1,620      1,620
         Accrued interest receivable                                               2,129      2,129      1,812      1,812

Financial liabilities:
         Deposits                                                                358,103    357,691    340,603    340,124
         Short-term borrowings                                                    22,736     22,736     18,564     18,564
         Long-term debt                                                           13,000     12,974     23,000     23,194
         Accrued interest payable                                                  2,894      2,894      1,691      1,691

Off-balance sheet financial instruments:
         Commitments to extend credit and outstanding
                  letters of credit                                                 --         --         --         --
</TABLE>

NORWOOD FINANCIAL CORP                 54                     2006 ANNUAL REPORT
<PAGE>
NOTE 16 - NORWOOD FINANCIAL CORP. (PARENT COMPANY ONLY) FINANCIAL INFORMATION

BALANCE SHEETS
                                                                DECEMBER 31,
                                                            --------------------
                                                             2006          2005
                                                            --------------------
                                                               (IN THOUSANDS)
                                   ASSETS
Cash on deposit in bank subsidiary                          $   552      $   989
Securities available for sale                                   808          753
Investment in bank subsidiary                                50,781       46,316
Other assets                                                    731          700
                                                            --------------------
                                                            $52,872      $48,758
                                                            ====================
             LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities                                                 $   641      $   650
Stockholders' equity                                         52,231       48,108
                                                            --------------------
                                                            $52,872      $48,758
                                                            ====================
                              STATEMENTS OF INCOME
<TABLE>
<CAPTION>
                                                           YEARS ENDED DECEMBER 31,
                                                        -----------------------------
                                                           2006     2005      2004
                                                        -----------------------------
                                                               (IN THOUSANDS)
<S>                                                     <C>        <C>        <C>
Income:
   Dividends from bank subsidiary                       $ 2,369    $ 1,997    $ 1,830
   Interest income from bank subsidiary                       5         16         19
   Other interest income                                     28         26         22
   Net realized gain on sales of securities                  15         --         --
                                                        -----------------------------
                                                          2,417      2,039      1,871
Expenses                                                    175        198        147
                                                        -----------------------------
                                                          2,242      1,841      1,724
Income tax expense (benefit)                                (43)       (53)       (36)
                                                        -----------------------------
                                                          2,285      1,894      1,760
Equity in undistributed earnings of subsidiary            3,625      3,603      3,250
                                                        -----------------------------
         Net Income                                     $ 5,910    $ 5,497    $ 5,010
                                                        =============================
</TABLE>
                            STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
                                                                           YEARS ENDED DECEMBER 31,
                                                                        ------------------------------
                                                                           2006     2005      2004
                                                                        ------------------------------
                                                                               (IN THOUSANDS)
<S>                                                                     <C>        <C>        <C>
Cash Flows from Operating Activities
         Net income                                                      $ 5,910    $ 5,497    $ 5,010
         Adjustments to reconcile net income to
                  net cash provided by operating activities:
                           Undistributed earnings of bank subsidiary      (3,625)    (3,603)    (3,250)
                           Release of ESOP shares                            421        565        585
                           Other, net                                       (131)      (615)       (40)
                                                                        ------------------------------
                  Net Cash Provided by Operating Activities                2,575      1,844      2,305
                                                                        ------------------------------

Cash Flows from Investing Activities
         Proceeds from sale of securities                                     30       --         --
         Purchase of securities available for sale                           (43)       (52)      (125)
                                                                        ------------------------------
                  Net Cash Used in Investing Activities                      (13)       (52)      (125)
                                                                        ------------------------------

Cash Flows from Financing Activities
         Stock options exercised                                              60        150        206
         ESOP purchase of shares from treasury stock                         120        114         77
         Acquisition of treasury stock                                      (890)      (819)      (118)
         Cash dividends paid                                              (2,289)    (1,916)    (1,795)
                                                                        ------------------------------
                  Net Cash Used in Financing Activities                   (2,999)    (2,471)    (1,630)
                                                                        ------------------------------
                  Net Increase (Decrease) in Cash and Cash Equivalents      (437)      (679)       550
                                                                        ------------------------------
Cash and Cash Equivalents - Beginning                                        989      1,668      1,118
                                                                        ------------------------------
Cash and Cash Equivalents - Ending                                       $   552    $   989    $ 1,668
                                                                        ==============================
</TABLE>
NORWOOD FINANCIAL CORP                 55                     2006 ANNUAL REPORT
<PAGE>

INVESTOR INFORMATION

STOCK LISTING

     Norwood  Financial  Corp.  stock is traded on the Nasdaq  Market  under the
symbol NWFL.  The  following  firms are known to make a market in the  Company's
stock:

FERRIS BAKER WATTS                             F.J. MORRISSEY & CO, INC.
Baltimore, MD                                  West Conshohocken, PA
410-659-4616                                   800-842-8928

LEGG MASON WOOD WALKER, INC.                   JANNEY MONTGOMERY SCOTT, LLC
Scranton, PA  18507                            Scranton, PA  18503
570-346-9300                                   800-638-4417

RYAN BECK & CO.                                BOENNING & SCATTERGOOD, INC.
Livingston, NJ                                 West Conshohoken, PA
800-395-7926                                   800-496-1170

TRANSFER AGENT
     Illinois  Stock  Transfer  Company,  209 West  Jackson  Blvd.,  Suite  903,
Chicago,  IL 60606.  Stockholders  who may have questions  regarding their stock
ownership should contact the Transfer Agent at 312-427-2953.

DIVIDEND CALENDAR
     Dividends on Norwood Financial Corp. common stock, if approved by the Board
of Directors are  customarily  paid on or about  February 1, May 1, August 1 and
November 1.

AUTOMATIC DIVIDEND REINVESTMENT PLAN
     The  Plan,  open to all  shareholders,  provides  the  opportunity  to have
dividends automatically reinvested into Norwood stock.  Participants in the Plan
may also  elect to make cash  contributions  to  purchase  additional  shares of
common  stock.   Shareholders  do  not  incur  brokerage   commissions  for  the
transactions.  Please  contact  the  transfer  agent or Lewis  J.  Critelli  for
additional information.

SEC REPORTS AND ADDITIONAL INFORMATION
     A copy of the  Company's  report on Form  10-K for its  fiscal  year  ended
December 31, 2006 including financial statements and schedules thereto, required
to be filed with the  Securities  and Exchange  Commission  may be obtained upon
written request of any  stockholder,  investor or analyst by contacting Lewis J.
Critelli,   Executive  Vice  President  and  Chief  Financial  Officer,  Norwood
Financial Corp., 717 Main Street, PO Box 269, Honesdale, PA 18431, 570-253-1455.

NORWOOD FINANCIAL CORP                 56                     2006 ANNUAL REPORT
<PAGE>


<TABLE>
<CAPTION>
                               [GRAPHIC OMITTED]
                            Main Street Parade - 1899

     Lower Main Street during a Flag Day Parade, 1899. Note Wayne County Savings
Bank across the street.

--------------------------------------------------------------------------------

                              DIRECTORY OF OFFICERS

NORWOOD FINANCIAL CORP.
-----------------------
<S>                     <C>                             <C>                     <C>
Russell L. Ridd         Chairman of the Board           Kelly J. Lalley         Assistant Vice President & Assistant
                                                                                Secretary

William W. Davis, Jr.   President & Chief Executive     Laurie J. Bishop        Assistant Community Office Manager
                        Officer

Lewis J. Critelli       Executive Vice President &      Renee M. Gilbert        Community Office Manager
                        Chief Financial Officer

Edward C. Kasper        Senior Vice President           Marianne M. Glamann     Community Office Manager

John H. Sanders         Senior Vice President           Teresa Melucci          Community Office Manager

Joseph A. Kneller       Senior Vice President           Sandra Mruczkewycz      Community Office Manager

John E. Marshall        Secretary                       Sandra Halas            Wealth Management Invetment Manager

WAYNE BANK                                              Gary D. Henry           Consumer Lending Officer
----------
Russell L. Ridd         Chairman of the Board           Annette A. Jurkowski    Wealth Management Operations Manager

William W. Davis, Jr.   President & Chief Executive     Thomas Kowalski         Resource Recovery Manager
                        Officer

Lewis J. Critelli       Executive Vice President &      Jill Melody             Assistant Community Office Manager
                        Chief Financial Officer
                                                        Linda M. Moran          Marketing Officer

Edward C. Kasper        Senior Vice President &         William E. Murray       Mortgage Originator
                        Senior Loan Officer/
                        Corporate Bank                  Sarah J. Rapp           Human Resources Officer

                                                        Diane L. Richter        Assistant Community Office Manager
John H. Sanders         Senior Vice President/Retail
                        Bank                            Toni M. Stenger         Assistant Community Office Manager

Joseph A. Kneller       Senior Vice President           Doreen A. Swingle       Residential Mortgage Lending Officer

Wayne D. Wilcha         Senior Vice President &         Karen Vashlishan        Compliance Officer
                        Trust Officer
John E. Marshall        Secretary                       Karen Verbeke           Community Office Manager

Robert J. Behrens, Jr.  Vice President                  Nancy M. Worobey        Community Office Manager

John F. Carmody         Vice President

JoAnn Fuller            Vice President

Carolyn K. Gwozdziewycz Vice President                  NORWOOD INVESTMENT CORP
                                                        -----------------------
Nancy A. Hart           Vice President, Controller &    William W. Davis, Jr.   President & Chief Executive Officer
                        Assistant Secretary
                                                        Lewis J. Critelli       Executive Vice President
Raymond C. Hebden       Vice President
                                                        Scott C. Rickard        Investment Representative,
William J. Henigan, Jr. Vice President                                          Invest Financial Corp.

William R. Kerstetter   Vice President                  Amy E. Kasper           Investment Representative,
                                                                                Invest Financial Corp.
Mary Alice Petzinger    Vice President
                                                        MONROE COUNTY ASSOCIATE BOARD
Barabara A. Ridd        Vice President & Assistant      -----------------------------
                        Secretary                       Michael J. Baxter       James H. Ott
Jeffrey R. Shrader      Vice President
                                                        Sara Cramer             Ron Sarajian
Eli T. Tomlinson        Vice President
                                                        Andrew Forte            Ray Price
Jennifer M. Witowic     Vice President
                                                        Ralph A. Matergia, Esq. Marvin Papillon
Karen R. Gasper         Internal Auditor &
                        Assistant Vice President        Randy R. Motts

Norma J. Kuta           Assistant Vice President
</TABLE>
<PAGE>


                               [GRAPHIC OMITTED]



--------------------------------------------------------------------------------



     We would like to thank Gloria  McCullough  and the Wayne County  Historical
Society for providing these  photographs and their  provenance.  Wayne Bank very
much appreciates this kindness and generosity.





                          visit us: www.waynebank.com