UNITED
STATES


SECURITIES AND EXCHANGE
COMMISSION


WASHINGTON,
D.C. 20549


____________________





FORM
10-Q





[X]
Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934.





For
the quarterly period ended: September 30, 2009


or


[  ]
Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934.





For the
transition period from ________________ to _____________





Commission
File Number: 0-16667




DNB
Financial Corporation


(Exact
name of registrant as specified in its charter)




Pennsylvania
              23-2222567(State
      or other jurisdiction of
              (I.R.S.
      Employer Identification No.)incorporation
      or organization)




4
Brandywine Avenue - Downingtown, PA 19335


(Address
of principal executive offices and Zip Code)





(610)
269-1040


(Registrant's
telephone number, including area code)





Not
Applicable


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





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





Yes
      x
            
            No
      o





Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (232.405 of
this chapter) during the preceding 12 months (or for such shorter period that
the registrant was required to submit and post such files).








Yes
      x
            
            No
      o





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




Large
      accelerated filer    o
              Accelerated
      filer                  oNon-accelerated
      filer     o
              Smaller
      reporting company x




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


Yeso
            
            No
      x





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


Common
      Stock ($1.00 Par Value)
              (Class)
            2,609,963
              (Shares
      Outstanding as of November 10,
2009)














DNB
FINANCIAL CORPORATION AND SUBSIDIARY








INDEX








PART  I
      - FINANCIAL INFORMATION
            PAGE
      NO.ITEM
      1.
            
            FINANCIAL
      STATEMENTS (Unaudited):CONSOLIDATED
      STATEMENTS OF FINANCIAL CONDITIONSeptember
      30, 2009 and December 31, 2008
            3CONSOLIDATED
      STATEMENTS OF OPERATIONSThree
      and Nine Months Ended September 30, 2009 and 2008
            4CONSOLIDATED
      STATEMENTS OF STOCKHOLDERS’ EQUITY AND COMPREHENSIVE INCOME
      (LOSS)
            5Nine
      Months Ended September 30, 2009 and 2008CONSOLIDATED
      STATEMENTS OF CASH FLOWSNine
      Months Ended September 30, 2009 and 2008
            6NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS
            7ITEM
      2.
            
            MANAGEMENT'S
      DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
      OPERATIONS
            19ITEM
      3.
            
            QUANTITATIVE
      AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
            30ITEM
      4T.
            
            CONTROLS
      AND PROCEDURES
            30PART
      II - OTHER INFORMATIONITEM
      1.
            
            LEGAL
      PROCEEDINGS
            31ITEM
      1A.
            
            RISK
      FACTORS
            31ITEM
      2.
            
            UNREGISTERED
      SALES OF EQUITY  SECURITIES AND USE OF PROCEEDS
            31ITEM
      3.
            
            DEFAULTS
      UPON SENIOR SECURITIES
            31ITEM
      4.
            
            SUBMISSION
      OF MATTERS TO A VOTE OF SECURITY HOLDERS
            31ITEM
      5.
            
            OTHER
      INFORMATION
            31ITEM
      6.
            
            EXHIBITS
            31SIGNATURES
            32EXHIBIT
      INDEX





2














PART
I – FINANCIAL INFORMATION


ITEM 1 – FINANCIAL
STATEMENTS




DNB
Financial Corporation and Subsidiary


Consolidated
Statements of Financial Condition (Unaudited)





September
      30
            
            
            December
      31(Dollars
      in thousands except share data)
            
            2009
            
            
            2008AssetsCash
      and due from banks
            
            $
            8,936
            
            
            $
            9,780Federal
      funds sold
            
            
            25,264
            
            
            
            38,338Cash
      and cash equivalents
            
            
            34,200
            
            
            
            48,118AFS
      investment securities, at fair value (amortized cost of $179,626 and
      $61,265)
            
            
            180,134
            
            
            
            60,666HTM
      investment securities (fair value of $48,550 and $58,525)
            
            
            48,604
            
            
            
            59,395Other
      investment securities
            
            
            4,068
            
            
            
            4,065Total
      investment securities
            
            
            232,806
            
            
            
            124,126Loans
      and leases
            
            
            350,626
            
            
            
            336,454Allowance
      for credit losses
            
            
            (5,158
            )
            
            
            (4,586
            )Net
      loans and leases
            
            
            345,468
            
            
            
            331,868Office
      property and equipment, net
            
            
            9,048
            
            
            
            9,665Accrued
      interest receivable
            
            
            2,963
            
            
            
            2,127Other
      real estate owned
            
            
            4,610
            
            
            
            4,997Bank
      owned life insurance
            
            
            7,772
            
            
            
            7,580Core
      deposit intangible
            
            
            222
            
            
            
            259Net
      deferred taxes
            
            
            2,961
            
            
            
            3,496Other
      assets
            
            
            1,271
            
            
            
            1,211Total
    assets
            
            $
            641,321
            
            
            $
            533,447Liabilities
      and Stockholders’ EquityLiabilitiesNon-interest-bearing
      deposits
            
            $
            44,855
            
            
            $
            45,503Interest-bearing
      deposits:NOW
            
            
            129,565
            
            
            
            106,623Money market
            
            
            105,652
            
            
            
            81,742Savings
            
            
            34,272
            
            
            
            32,895Time
            
            
            189,612
            
            
            
            141,707Total
      deposits
            
            
            503,956
            
            
            
            408,470FHLB
      advances
            
            
            58,000
            
            
            
            60,000Repurchase
      agreements
            
            
            22,440
            
            
            
            20,185Junior
      subordinated debentures
            
            
            9,279
            
            
            
            9,279Other
      borrowings
            
            
            646
            
            
            
            659Total
      borrowings
            
            
            90,365
            
            
            
            90,123Accrued
      interest payable
            
            
            734
            
            
            
            1,154Other
      liabilities
            
            
            3,512
            
            
            
            3,642Total
      liabilities
            
            
            598,567
            
            
            
            503,389Stockholders’
      EquityPreferred
      stock, $10.00 par value;1,000,000
      shares authorized; $1,000 liquidation preference per share;
              11,750
      issued at September 30, 2009 and none issued at December 31,
      2008
            
            
            11,504
            
            
            
            —Common
      stock, $1.00 par value;10,000,000
      shares authorized; 2,861,619 and 2,863,024 issued
    respectively
            
            
            2,873
            
            
            
            2,867Stock
      warrants
            
            
            151
            
            
            
            —Treasury
      stock, at cost; 251,657 and 256,420 shares, respectively
            
            
            (4,780
            )
            
            
            (4,811
            )Surplus
            
            
            35,155
            
            
            
            35,082Accumulated
      deficit
            
            
            (908
            )
            
            
            (1,062
            )Accumulated
      other comprehensive loss, net
            
            
            (1,241
            )
            
            
            (2,018
            )Total stockholders’
      equity
            
            
            42,754
            
            
            
            30,058Total liabilities and
      stockholders’ equity
            
            $
            641,321
            
            
            $
            533,447See accompanying notes to
      unaudited consolidated financial statements.








3





DNB
Financial Corporation and Subsidiary


Consolidated
Statements of Operations (Unaudited)





Three
      Months Ended
              September
      30,
            
            
            Nine
      Months Ended
              September
      30,(Dollars
      in thousands except share data)
            
            2009
            
            
            2008
            
            
            2009
            
            
            2008Interest
      Income:Interest
      and fees on loans and leases
            
            $
            4,926
            
            
            $
            5,051
            
            
            $
            14,340
            
            
            $
            14,604Interest
      and dividends on investment securities:Taxable
            
            
            1,735
            
            
            
            1,938
            
            
            
            4,656
            
            
            
            6,199Exempt
      from federal taxes
            
            
            47
            
            
            
            44
            
            
            
            142
            
            
            
            131Interest
      on cash and cash equivalents
            
            
            17
            
            
            
            161
            
            
            
            51
            
            
            
            415Total
      interest income
            
            
            6,725
            
            
            
            7,194
            
            
            
            19,189
            
            
            
            21,349Interest
      Expense:Interest
      on NOW, money market and savings
            
            
            747
            
            
            
            1,203
            
            
            
            1,949
            
            
            
            3,233Interest
      on time deposits
            
            
            1,067
            
            
            
            956
            
            
            
            3,171
            
            
            
            3,622Interest
      on FHLB advances
            
            
            732
            
            
            
            744
            
            
            
            2,196
            
            
            
            2,157Interest
      on Federal Reserve borrowing
            
            
            2
            
            
            
            —
            
            
            
            12
            
            
            
            —Interest
      on repurchase agreements
            
            
            73
            
            
            
            123
            
            
            
            217
            
            
            
            410Interest
      on junior subordinated debentures
            
            
            129
            
            
            
            156
            
            
            
            403
            
            
            
            472Interest
      on other borrowings
            
            
            22
            
            
            
            23
            
            
            
            67
            
            
            
            68Total
      interest expense
            
            
            2,772
            
            
            
            3,205
            
            
            
            8,015
            
            
            
            9,962Net
      interest income
            
            
            3,953
            
            
            
            3,989
            
            
            
            11,174
            
            
            
            11,387Provision
      for credit losses
            
            
            300
            
            
            
            727
            
            
            
            700
            
            
            
            1,241Net
      interest income after provision for credit losses
            
            
            3,653
            
            
            
            3,262
            
            
            
            10,474
            
            
            
            10,146Non-interest
      Income:Service
      charges on deposits
            
            
            356
            
            
            
            406
            
            
            
            1,102
            
            
            
            1,184Wealth
      management fees
            
            
            165
            
            
            
            182
            
            
            
            496
            
            
            
            703Increase
      in cash surrender value of BOLI
            
            
            65
            
            
            
            63
            
            
            
            192
            
            
            
            192Gain
      on sale of securities
            
            
            273
            
            
            
            27
            
            
            
            824
            
            
            
            764Other
      fees
            
            
            201
            
            
            
            225
            
            
            
            588
            
            
            
            646Total
      non-interest income
            
            
            1,060
            
            
            
            903
            
            
            
            3,202
            
            
            
            3,489Non-interest
      Expense:Salaries
      and employee benefits
            
            
            1,948
            
            
            
            2,151
            
            
            
            6,036
            
            
            
            6,756Furniture
      and equipment
            
            
            394
            
            
            
            426
            
            
            
            1,202
            
            
            
            1,308Occupancy
            
            
            384
            
            
            
            400
            
            
            
            1,209
            
            
            
            1,166Professional
      and consulting
            
            
            295
            
            
            
            263
            
            
            
            1,002
            
            
            
            904Advertising
      and marketing
            
            
            91
            
            
            
            122
            
            
            
            268
            
            
            
            395Printing
      and supplies
            
            
            34
            
            
            
            44
            
            
            
            133
            
            
            
            188FDIC
      insurance
            
            
            202
            
            
            
            83
            
            
            
            823
            
            
            
            219Other
      expenses
            
            
            547
            
            
            
            542
            
            
            
            1,706
            
            
            
            1,520Total
      non-interest expense
            
            
            3,895
            
            
            
            4,031
            
            
            
            12,379
            
            
            
            12,456Income
      before income taxes (benefit)
            
            
            818
            
            
            
            134
            
            
            
            1,297
            
            
            
            1,179Income
      tax (benefit) expense
            
            
            184
            
            
            
            (65
            )
            
            
            222
            
            
            
            140Net
    Income
            
            $
            634
            
            
            $
            199
            
            
            $
            1,075
            
            
            $
            1,039Preferred
      stock dividends and accretion of discount
            
            
            154
            
            
            
            —
            
            
            
            412
            
            
            
            —Net
      Income available to Common Shareholders
            
            $
            480
            
            
            $
            199
            
            
            $
            663
            
            
            $
            1,039Earnings
      per common share:Basic
            
            $
            0.18
            
            
            $
            0.08
            
            
            $
            0.25
            
            
            $
            0.40Diluted
            
            $
            0.18
            
            
            $
            0.08
            
            
            $
            0.25
            
            
            $
            0.40Cash
      dividends per common share
            
            $
            0.07
            
            
            $
            0.13
            
            
            $
            0.21
            
            
            $
            0.39Weighted
      average common shares outstanding:Basic
            
            
            2,606,427
            
            
            
            2,608,051
            
            
            
            2,604,242
            
            
            
            2,601,638Diluted
            
            
            2,606,427
            
            
            
            2,610,515
            
            
            
            2,604,242
            
            
            
            2,604,993See
      accompanying notes to unaudited consolidated financial
      statements.








4




DNB
FINANCIAL CORPORATION AND Subsidiary





Consolidated
Statements of Stockholders’ Equity and Comprehensive Income (Loss)
(Unaudited)


(Dollars
in thousands)




Preferred
      Stock
            Common
              Stock
            Stock
              Warrants
            Treasury
              Stock
            Surplus
            Accumulated
              Deficit
            Accumulated
              Other
              Compre-
              hensive
              Loss
            TotalBalance
      at January 1, 2009
            
            —
            $2,867
            —
            $(4,811)
            $35,082
            $(1,062)
            $(2,018)
            $30,058Comprehensive
      income:Net
      income for nine months
              ended
      Sept. 30, 2009
            
            —
            —
            —
            —
            —
            1,075
            —
            1,075Other
      comprehensive
              income,
      net of tax:Unrealized
      gains on AFS
              securities,
      net
            
            —
            —
            —
            —
            —
            —
            777
            777Total
      comprehensive income
            
            —
            —
            —
            —
            —
            —
            —
            1,852Issuance
      of preferred stock
            
            11,483
            —
            —
            —
            —
            —
            —
            11,483Preferred
      stock discount
              amortization
            
            21
            —
            —
            —
            —
            (21)
            —
            —Stock
      warrants issued
            
            —
            —
            151
            —
            —
            —
            —
            151Release
      of unvested stock
              (6,025
      shares)
            
            —
            6
            —
            —
            73
            —
            —
            79Cash
      dividends-Common
              ($.21
      per share)
            
            —
            —
            —
            —
            —
            (508)
            —
            (508)Cash
      dividends-Preferred
            
            —
            —
            —
            —
            —
            (318)
            —
            (318)Purchase
      of treasury shares
              (2,454
      shares)
            
            —
            —
            —
            (17)
            —
            —
            —
            (17)Sale
      of treasury shares to
              401-K
      plan (7,217 shares)
            
            —
            —
            —
            48
            —
            —
            —
            48Preferred
      stock dividends
              accrued
            
            —
            —
            —
            —
            —
            (74)
            —
            (74)Balance
      at Sept. 30, 2009
            
            $11,504
            $2,873
            $151
            $(4,780)
            $35,155
            $(908)
            $(1,241)
            $42,754Common
              Stock
            Treasury
              Stock
            Surplus
            Accumulated
              Deficit
            Accumulated
              Other
              Compre-
              hensive
              Income
              (Loss)
            TotalBalance
      at January 1, 2008
            
            $2,860
            $(4,757)
            $34,888
            $(771)
            $415
            $32,635Comprehensive
      loss:Net
      income for nine months ended Sept. 30, 2008
            
            —
            —
            —
            1,039
            —
            1,039Other
      comprehensive loss, net of tax:Unrealized
      losses on AFS securities, net
            
            —
            —
            —
            —
            (1,639)
            (1,639)Unrealized
      actuarial losses — pension, net
            
            —
            —
            —
            —
            (169)
            (169)Total
      comprehensive loss
            
            —
            —
            —
            —
            —
            (769)Release
      of unvested stock (5,343 shares)
            
            6
            —
            93
            —
            —
            99Cash
      dividends ($.39 per share)
            
            —
            —
            —
            (1,011)
            —
            (1,011)Purchase
      of treasury shares (19,962 shares)
            
            —
            (283)
            —
            —
            —
            (283)Sale
      of treasury shares to 401-K plan
            
            —
            230
            (54)
            —
            —
            176Deferred
      Compensation Plan
            
            —
            —
            80
            —
            —
            80Stock
      compensation tax benefit
            
            —
            —
            22
            —
            —
            22Balance
      at Sept. 30, 2008
            
            $2,866
            $(4,810)
            $35,029
            $(743)
            $(1,393)
            $30,949




See
accompanying notes to unaudited consolidated financial statements.









5




DNB Financial Corporation and Subsidiary


Consolidated
Statements of Cash Flows (Unaudited)





Nine
      Months Ended
              September
      30,(Dollars
      in thousands)
            
            2009
            
            
            2008Cash
      Flows From Operating Activities:Net
      income
            
            $
            1,075
            
            
            $
            1,039Adjustments
      to reconcile net income to net cashprovided
      by operating activities:Depreciation, amortization and
      accretion
            
            
            1,931
            
            
            
            1,004Provision for credit
      losses
            
            
            700
            
            
            
            1,241Unvested
      stock amortization
            
            
            79
            
            
            
            99Net gain on sale of
      securities
            
            
            (824
            )
            
            
            (764
            )Net loss on sale of OREO and
      other repossessed property
            
            
            116
            
            
            
            —(Increase) decrease in interest
      receivable
            
            
            (836
            )
            
            
            145(Increase) decrease in other
      assets
            
            
            (60
            )
            
            
            38Earnings from investment in
      BOLI
            
            
            (192
            )
            
            
            (192
            )Decrease in interest
      payable
            
            
            (420
            )
            
            
            (650
            )Increase in deferred tax benefit
      (expense)
            
            
            159
            
            
            
            (186
            )Decrease in other
      liabilities
            
            
            (204
            )
            
            
            (960
            )Net
      Cash Provided By Operating Activities
            
            
            1,524
            
            
            
            814Cash
      Flows From Investing Activities:Activity
      in available-for-sale securities:Sales
            
            
            81,867
            
            
            
            108,486Maturities,
      repayments and calls
            
            
            17,643
            
            
            
            18,386Purchases
            
            
            (217,939
            )
            
            
            (106,806
            )Activity
      in held-to-maturity securities:Maturities,
      repayments and calls
            
            
            12,844
            
            
            
            5,945Purchases
            
            
            (2,023
            )
            
            
            (30,661
            )Net
      increase in other investments
            
            
            (3
            )
            
            
            (614
            )Net
      increase in loans and leases
            
            
            (14,588
            )
            
            
            (34,424
            )Proceeds
      from sale of OREO and other repossessed property
            
            
            559
            
            
            
            —Purchase
      of bank property and equipment
            
            
            (369
            )
            
            
            (628
            )Net
      Cash Used By Investing Activities
            
            
            (122,009
            )
            
            
            (40,316
            )Cash
      Flows From Financing Activities:Net
      increase in deposits
            
            
            95,486
            
            
            
            9,524(Decrease)
      increase in FHLB advances
            
            
            (2,000
            )
            
            
            10,000Increase
      (decrease) in short term repurchase agreements
            
            
            2,255
            
            
            
            (11,006
            )Decrease
      in lease obligations
            
            
            (13
            )
            
            
            (11
            )Dividends
      paid
            
            
            (826
            )
            
            
            (1,011
            )Issuance
      of preferred stock and warrants
            
            
            11,634
            
            
            
            —Net
      sale of treasury stock
            
            
            31
            
            
            
            (107
            )Net
      Cash Provided By Financing Activities
            
            
            106,567
            
            
            
            7,389Net
      Change in Cash and Cash Equivalents
            
            
            (13,918
            )
            
            
            (32,113
            )Cash
      and Cash Equivalents at Beginning of Period
            
            
            48,118
            
            
            
            45,331Cash and Cash Equivalents at
      End of Period
            
            $
            34,200
            
            
            $
            13,218Supplemental
      Disclosure of Cash Flow Information:Cash
      paid during the period for:Interest
            
            $
            8,435
            
            
            $
            10,613Income
      taxes
            
            
            402
            
            
            
            678Supplemental
      Disclosure of Non-cash Flow Information:Change
      in unrealized losses on investment securities
            
            $
            1,107
            
            
            $
            (2,484
            )Change
      in deferred taxes due to change in unrealizedlosses
      on investment securities
            
            
            (376
            )
            
            
            845Transfer
      securities from AFS to HTM, at fair value (amortized cost of
      $22,670)
            
            
            —
            
            
            
            21,987Change
      in unsettled securities purchased  included in other
      liabilities
            
            
            —
            
            
            
            6,000Transfers
      from loans and leases to real estate owned
            
            
            288
            
            
            
            527See
      accompanying notes to unaudited consolidated financial
      statements.








6





DNB
FINANCIAL CORPORATION AND SUBSIDIARY


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS


(Unaudited)





NOTE
1: BASIS OF PRESENTATION





The
accompanying unaudited consolidated financial statements of DNB Financial
Corporation (referred to herein as the "Corporation" or "DNB") and its
subsidiary, DNB First, National Association (the "Bank") have been prepared in
accordance with the instructions for Form 10-Q and therefore do not include
certain information or footnotes necessary for the presentation of financial
condition, statement of operations and statement of cash flows required by
generally accepted accounting principles. However, in the opinion of management,
the consolidated financial statements reflect all adjustments (which consist of
normal recurring adjustments) necessary for a fair presentation of the results
for the unaudited periods. Prior amounts not affecting net income are
reclassified when necessary to conform to current period classifications. The
results of operations for the nine-month period ended September 30, 2009, are
not necessarily indicative of the results, which may be expected for the entire
year.  The consolidated financial statements should be read in
conjunction with the Annual Report and report on Form 10-K for the year ended
December 31, 2008.





Subsequent
Events--Management has considered subsequent events through November 13,
2009 in preparing the September 30, 2009 Consolidated Financial Statements
(Unaudited).





NOTE
2: INVESTMENT SECURITIES





The
amortized cost and estimated fair values of investment securities, as of the
dates indicated, are summarized as follows:




September 30,
      2009(Dollars
      in thousands)
            Amortized
              Cost
            Unrealized
              Gains
            Unrealized
              Losses
            Estimated
              Fair
      ValueHeld
      To MaturityUS
      agency mortgage-backed securities
            $17,040
            $447
            $—
            $17,487Collateralized
      mortgage obligations
            3,915
            24
            (18)
            3,921State
      and municipal tax-exempt bonds
            5,464
            195
            —
            5,659State
      and municipal taxable bonds
            22,185
            434
            (1,136)
            21,483Total
            $48,604
            $1,100
            $(1,154)
            $48,550Available
      For SaleUS
      Government agency obligations
            $58,177
            $143
            $(10)
            $58,310US
      agency mortgage-backed securities
            87,921
            1,318
            —
            89,239Collateralized
      mortgage obligations
            10,160
            40
            (31)
            10,169Corporate
      bonds
            23,336
            9
            (942)
            22,403Equity
      securities
            32
            —
            (19)
            13Total
            $179,626
            $1,510
            $(1,002)
            $180,134





December 31,
      2008(Dollars
      in thousands)
            Amortized
              Cost
            Unrealized
              Gains
            Unrealized
              Losses
            Estimated
              Fair
      ValueHeld
      To MaturityUS
      agency mortgage-backed securities
            $27,884
            $447
            $(2)
            $28,329Collateralized
      mortgage obligations
            4,962
            1
            (111)
            4,852State
      and municipal tax-exempt bonds
            4,513
            50
            (1)
            4,562State
      and municipal taxable bonds
            22,036
            78
            (1,332)
            20,782Total
            $59,395
            $576
            $(1,446)
            $58,525Available
      For SaleUS
      Government agency obligations
            $6,075
            $51
            $—
            $6,126US
      agency mortgage-backed securities
            32,063
            410
            (94)
            32,379Collateralized
      mortgage obligations
            5,011
            94
            —
            5,105Corporate
      bonds
            18,084
            300
            (1,349)
            17,035Equity
      securities
            32
            —
            (11)
            21Total
            $61,265
            $855
            $(1,454)
            $60,666








7





DNB
FINANCIAL CORPORATION AND SUBSIDIARY


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


(Unaudited)





Although
the fair value will fluctuate as market interest rates move, management believes
that these fair values will recover as the underlying portfolios mature and are
reinvested in market rate yielding investments. As of September 30, 2009, there
were 6 municipal obligations, 14 corporate bonds, 3 agency notes, and 5
collateralized mortgage obligations which were in an unrealized loss
position.  DNB does not intend to sell these securities and management
of the Corporation does not expect to be required to sell any of these
securities prior to a recovery of its cost basis. Management does not believe
any individual unrealized loss as of September 30, 2009 represents an
other-than-temporary impairment.





Included
in unrealized losses are market losses on securities that have been in a
continuous unrealized loss position for twelve months or more and those
securities that have been in a continuous unrealized loss position for less than
twelve months. The table below details the aggregate unrealized losses and
aggregate fair value of the underlying securities whose fair values are below
their amortized cost at September 30, 2009 and December 31,
2008.




September
      30, 2009(Dollars
      in thousands)
            Total
              Fair
      Value
            Total
              Unrealized
              Loss
            Fair
      Value
              Impaired
              Less
      Than
              12
      Months
            Unrealized
              Loss
              Less
      Than
              12
      Months
            Fair
      Value
              Impaired
              More
      Than
              12
      Months
            Unrealized
              Loss
              More
      Than
              12
      MonthsHeld
      To MaturityCollateralized
      mortgage obligations
            $1,734
            $(18)
            —
            —
            $1,734
            $(18)State
      and municipal tax-exempt
            —
            —
            —
            —
            —
            —State
      and municipal taxable
            8,776
            (1,136)
            —
            —
            8,776
            (1,136)US
      agency mortgage-backed securities
            —
            —
            —
            —
            —
            —Total
            $10,510
            $(1,154)
            —
            —
            $10,510
            $(1,154)Available
      For SaleUS
      Government agency obligations
            $19,201
            $(10)
            $19,201
            $(10)
            $—
            $—Corporate
      Bonds
            19,164
            (942)
            11,601
            (360)
            7,563
            (582)US
      agency mortgage-backed securities
            —
            —
            —
            —
            —
            —Collateralized
      mortgage obligations
            5,406
            (31)
            5,406
            (31)
            —
            —Equity
      securities
            13
            (19)
            —
            —
            13
            (19)Total
            $43,784
            $(1,002)
            $36,208
            $(401)
            $7,576
            $(601)





December 31,
      2008(Dollars
      in thousands)
            Total
              Fair
      Value
            Total
              Unrealized
              Loss
            Fair
      Value
              Impaired
              Less
      Than
              12
      Months
            Unrealized
              Loss
              Less
      Than
              12
      Months
            Fair
      Value
              Impaired
              More
      Than
              12
      Months
            Unrealized
              Loss
              More
      Than
              12
      MonthsHeld
      To MaturityCollateralized
      mortgage obligations
            $4,246
            $(111)
            $—
            $—
            $4,246
            $(111)State
      and municipal tax-exempt
            527
            (1)
            527
            (1)
            —
            —State
      and municipal taxable
            13,018
            (1,332)
            13,018
            (1,332)
            —
            —US
      agency mortgage-backed securities
            118
            (2)
            118
            (2)
            —
            —Total
            $17,909
            $(1,446)
            $13,663
            $(1,335)
            $4,246
            $(111)Available
      For SaleCorporate
      Bonds
            $12,329
            $(1,349)
            $12,329
            $(1,349)
            $—
            $—US
      agency mortgage-backed securities
            7,161
            (94)
            5,482
            (61)
            1,679
            (33)Equity
      securities
            21
            (11)
            —
            —
            21
            (11)Total
            $19,511
            $(1,454)
            $17,811
            $(1,410)
            $1,700
            $(44)











8





DNB
FINANCIAL CORPORATION AND SUBSIDIARY


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


(Unaudited)








DNB has
$7.6 million in AFS securities and $10.5 million in HTM securities,
which have had fair values below amortized cost for at least twelve continuous
months at September 30, 2009. The total unrealized loss of these securities was
$601,000 and $1.2 million, respectively. The impaired securities consist of
corporate, municipal and equity securities as well as agency collateralized
mortgage backed securities. On a quarterly basis, management reviews all
securities in its investment portfolio to identify any securities that might
have an other-than-temporary impairment. Management has concluded that, as of
September 30, 2009, the unrealized losses were temporary in nature. The
unrealized losses on our debt securities are not related to the underlying
credit quality of the issuers, and they are on securities that have contractual
maturity dates (with the exception of equity securities). The principal and
interest payments on our debt securities have been made as scheduled, and there
is no evidence that the issuer will not continue to do so. In management’s
opinion, the future principal payments will be sufficient to recover the current
amortized cost of the securities.





The
unrealized losses as noted above are primarily related to market interest rates
and the current investment environment. The current declines in market value are
not significant, and management of the Corporation believes that these values
will recover as market interest rates move and the current market environment
improves. The unrealized losses on equity securities, which do not have maturity
dates or principal payments, are also primarily related to market interest rates
and the current investment environment. DNB does not intend to sell these
securities and management of the Corporation does not expect to be required to
sell any of these securities prior to a recovery of its cost basis.





The
amortized cost and estimated fair value of investment securities as of September
30, 2009, by contractual maturity, are shown below. Actual maturities may differ
from contractual maturities because certain securities may be called or prepaid
without penalties.




Held
      to Maturity
            Available
      for Sale(Dollars
      in thousands)
            Amortized
              Cost
            Estimated
              Fair
      Value
            Amortized
              Cost
            Estimated
              Fair
      ValueDue
      in one year or less
            $6,418
            $6,453
            $9,243
            $9,293Due
      after one year through five years
            8,073
            8,262
            51,087
            50,477Due
      after five years through ten years
            20,836
            21,424
            51,990
            52,335Due
      after ten years
            13,277
            12,411
            67,274
            68,016No
      stated maturity
            —
            —
            32
            13Total
      investment securities
            $48,604
            $48,550
            $179,626
            $180,134




DNB sold
$81.9 million and $108.5 million from the AFS portfolio during the
nine-month period ended September 30, 2009 and 2008,
respectively.  Gains and losses resulting from investment sales,
redemptions or calls were as follows:




Nine
      Months Ended September 30(Dollars
      in thousands)
            
            2009
            
            
            2008Gross
      realized gains
            
            $
            872
            
            
            $
            767Gross
      realized losses
            
            
            48
            
            
            
            3Net
      realized gain
            
            $
            824
            
            
            $
            764




At
September 30, 2009 and December 31, 2008, investment securities with a
carrying value of approximately $178.4 million and $100.0 million,
respectively, were pledged to secure public funds, borrowings, repurchase
agreements and for other purposes as required by law.




As of
September 30, 2008, DNB reclassified its taxable municipal securities with
a book value (net carrying amount) of $22.7 million from available-for-sale
(AFS) to held-to-maturity (HTM). Reclassifying the taxable municipal securities
to HTM will reduce the volatility and future negative effect on DNB’s capital
ratios, because HTM securities are not marked-to-market through other
comprehensive income, but carried at their amortized cost basis. The fair value
of our taxable municipal securities was $22.0 million at September 30,
2008, the date of their reclassification. The $683,000 difference between their
book value and their fair value will be treated like a discount and accreted
into interest income over the remaining life of the security. The unrealized
loss on these securities, which is in accumulated other comprehensive loss, will
be amortized as an adjustment of yield in a manner consistent with the discount,
thus offsetting or mitigating the effect on interest income of the amortization
of the discount. As of September 30, 2009 the discount totaled $612,000 and the
average remaining life of these securities was 10.4 years.








9




DNB
FINANCIAL CORPORATION AND SUBSIDIARY


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


(Unaudited)





NOTE
3: EARNINGS PER SHARE





Basic
earnings per share (“EPS”) are computed based on the weighted average number of
common shares outstanding during the period.  Diluted
EPS  is computed using the treasury stock method and reflects the
potential dilution that could occur from the exercise of stock options and the
amortized portion of unvested stock awards.   Stock options and
unvested stock awards for which the exercise or the grant price exceeds the
average market price over the period have an anti-dilutive effect on EPS and,
accordingly, are excluded from the calculation.  There were 186,311
anti-dilutive stock warrants, 169,503 anti-dilutive stock options outstanding
and 24,101 anti-dilutive stock awards at September 30, 2009. There were
187,590 anti-dilutive stock options outstanding and 14,674 anti-dilutive stock
awards at September 30, 2008. See Note 11 for a discussion of stock warrants
issued in conjunction with Preferred shares issued to the U.S. Treasury
Department as part of the CPP. The following table sets forth the computation of
basic and diluted earnings per share:








Three
      Months Ended
            
            Nine
      Months EndedSeptember
      30, 2009
            
            September
      30, 2009(In
      thousands, except per-share data)
            Income
            
            Shares
            
            Amount
            
            Income
            
            Shares
            
            AmountBasic
      EPSIncome
      available to common stockholders
            $   480
            
            2,606
            
            $0.18
            
            $   663
            
            2,604
            
            $0.25Effect
      of potential dilutive common stock equivalents– stock options, restricted
      shares and warrants
            —
            
            —
            
            —
            
            —
            
            —
            
            —Diluted
      EPSIncome
      available to common stockholders after assumed conversions
            $   480
            
            2,606
            
            $0.18
            
            $   663
            
            2,604
            
            $0.25








Three
      Months Ended
            
            Nine
      Months EndedSeptember
      30, 2008
            
            September
      30, 2008(In
      thousands, except per-share data)
            Income
            
            Shares
            
            Amount
            
            Income
            
            Shares
            
            AmountBasic
      EPSIncome
      available to common stockholders
            $   199
            
            2,608
            
            $0.08
            
            $   1,039
            
            2,602
            
            $0.40Effect
      of potential dilutive common stock equivalents– stock options, restricted
      shares and warrants
            —
            
            3
            
            —
            
            —
            
            3
            
            —Diluted
      EPSIncome
      available to common stockholders after assumed conversions
            $   199
            
            2,611
            
            $0.08
            
            $   1,039
            
            2,605
            
            $0.40








NOTE
4: COMPREHENSIVE INCOME (LOSS)





Comprehensive
income (loss) includes all changes in stockholders' equity during the period,
except those resulting from investments by owners and distributions to
owners.  Comprehensive income (loss) for all periods consisted of net
income and other comprehensive income (loss) relating to the change in
unrealized gains (losses) on investment securities available for
sale.  Comprehensive income (loss), net of tax, is disclosed in the
following table. The effect of pension adjustments will be made during the last
quarter of each fiscal year.







Three
      Months Ended
            Three
      Months EndedSeptember
      30, 2009
            September
      30, 2008(Dollars
      in thousands)
            
            Net-of-Tax
      Amount
            Net-of-Tax
      AmountNet
      income
            
            $        634
            
            $         199Other
      Comprehensive Income:Unrealized
      holding gains arising during the period
            
            1,838
            
            507Accretion
      of discount on AFS to HTM reclassification
            
            12
            
            —Reclassification
      for gains included in net income, net of tax
            
            (180)
            
            (18)Total
      Comprehensive Income
            
            $       2,304
            
            $    688    10
    Nine
      Months Ended
            Nine
      Months EndedSeptember
      30, 2009
            September
      30, 2008(Dollars
      in thousands)
            
            Net-of-Tax
      Amount
            Net-of-Tax
      AmountNet
      Income
            
            $        1,075
            
            $        1,039Other
      Comprehensive Income (Loss):Unrealized
      holding gains (losses) arising during the period
            
            1,274
            
            (1,134)Accretion
      of discount on AFS to HTM reclassification
            
            47
            
            —Reclassification
      for gains included in net income, net of tax
            
            (544)
            
            (505)Unrealized
      actuarial losses- pension
            
            —
            
            (169)Total
      Comprehensive Income (Loss)
            
            $   1,852
            
            $  (769)











The
components of accumulated other comprehensive income included in stockholders’
equity, are as follows:





September
      30,
            
            December
      31,(Dollars
      in thousands)
            2009
            
            2008Net
      unrealized gain (loss) on AFS securities
            $     508
            
            $
      (599)Tax
      effect
            (173)
            
            204Net
      of tax amount
            335
            
            (395)Discount
      on AFS to HTM reclassification
            (612
            )
            (683)Tax
      effect
            208
            
            232Net
      of tax amount
            (404
            )
            (451)Unrealized
      actuarial losses-pension
            (1,776
            )
            (1,776)
            )Tax
      effect
            604
            
            604Net
      of tax amount
            (1,172
            )
            (1,172)
            )Total
      of all items above-Gross
            $
      (1,880)
            
            $(3,058)Tax
      effect
            639
            
            1,040Net
      of tax amount
            $
      (1,241)
            
            $(2,018)








NOTE
5: COMPOSITION OF LOAN AND LEASE PORTFOLIO





The
following table sets forth information concerning the composition of total loans
and leases outstanding, as of the dates indicated.








September
      30,
            
            December
      31,(Dollars
      in thousands)
            2009
            
            2008Commercial
      mortgage
            $
      157,481
            
            $138,897Commercial
      term and lines of credit
            89,901
            
            83,186Consumer
            55,934
            
            63,400Residential
      mortgage
            43,411
            
            44,052Commercial
      leases
            3,899
            
            6,919Gross
      loans and leases
            $
      350,626
            
            $336,454Allowance
      for credit losses
            (5,158)
            
            (4,586)Net
      loans and leases
            $
      345,468
            
            $331,868





The
following table summarizes the changes in the allowance for credit losses for
the periods indicated.





Nine
      Months Ended
              September
      30,
              2009
            
            Year
      Ended
              December
      31,
              2008(Dollars
      in thousands)Beginning
      balance
            $4,586
            
            $3,891Provisions
            700
            
            2,018Charge-offs
            (163
            )
            (1,401
            )Recoveries
            35
            
            78Ending
      balance
            $5,158
            
            $4,586








11





DNB
FINANCIAL CORPORATION AND SUBSIDIARY


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


(Unaudited)








NOTE
6: JUNIOR SUBORDINATED DEBENTURES





DNB has
two issuances of junior subordinated debentures (the "debentures") as
follows:





DNB Capital Trust
I





DNB’s
first issuance of junior subordinated debentures was on July 20, 2001. This
issuance of debentures are floating rate and were issued to DNB Capital Trust I,
a Delaware business trust in which DNB owns all of the common equity. DNB
Capital Trust I issued $5.0 million of floating rate (6 month Libor plus 3.75%,
with a cap of 12%) capital preferred securities to a qualified institutional
buyer. The proceeds of these securities were used by the Trust, along with DNB's
capital contribution, to purchase $5.2 million principal amount of DNB's
floating rate junior subordinated debentures.  The preferred
securities have been redeemable since July 25, 2006 and must be redeemed upon
maturity of the debentures on July 25, 2031.





DNB Capital Trust
II





DNB’s
second issuance of junior subordinated debentures was on March 30, 2005. This
issuance of debentures are floating rate and were issued to DNB Capital Trust
II, a Delaware business trust in which DNB owns all of the common equity. DNB
Capital Trust II issued $4.0 million of floating rate (the rate is fixed at
6.56% for the first 5 years and will adjust at a rate of 3-month LIBOR plus
1.77% thereafter) capital preferred securities. The proceeds of these securities
were used by the Trust, along with DNB's capital contribution, to purchase $4.1
million principal amount of DNB's floating rate junior subordinated debentures.
The preferred securities are redeemable by DNB on or after May 23, 2010, or
earlier in the event of certain adverse tax or bank regulatory developments. The
preferred securities must be redeemed upon maturity of the debentures on May 23,
2035.





The
majority of the proceeds of each issuance were invested in DNB’s subsidiary, DNB
First, National Association, to increase the Bank's capital levels. The junior
subordinated debentures issued in each case qualify as a component of capital
for regulatory purposes.





NOTE
7: RECENT ACCOUNTING PRONOUNCEMENTS





In June
2009, the Financial Accounting Standards Board (“FASB”) issued an update to
Accounting Standard Codification 105-10, “Generally Accepted Accounting
Principles”. This standard establishes the FASB Accounting Standard Codification
(“Codification” or “ASC”) as the source of authoritative U.S. GAAP recognized by
the FASB for nongovernmental entities. The Codification is effective for interim
and annual periods ending after September 15, 2009. The Codification is a
reorganization of existing U.S. GAAP and does not change existing U.S. GAAP. The
Corporation adopted this standard during the third quarter of 2009. The adoption
had no impact on the Corporation’s consolidated financial
statements.





In June
2009, the FASB issued SFAS No. 166, “Accounting for Transfers of Financial
Assets”, and SFAS No. 167, “Amendments to FASB Interpretation
No. 46(R)”. These standards are effective for the first interim reporting
period of 2010. SFAS No. 166 amends the guidance in ASC 860 to eliminate
the concept of a qualifying special-purpose entity (“QSPE”) and changes some of
the requirements for derecognizing financial assets. SFAS No. 167 amends
the consolidation guidance in ASC 810-10. Specifically, the amendments will
(a) eliminate the exemption for QSPEs from the new guidance, (b) shift
the determination of which enterprise should consolidate a variable interest
entity (“VIE”) to a current control approach, such that an entity that has both
the power to make decisions and right to receive benefits or absorb losses that
could potentially be significant, will consolidate a VIE, and (c) change
when it is necessary to reassess who should consolidate a VIE The adoption will
have no impact on the Corporation’s consolidated financial
statements.





In August
2009, the FASB issued Accounting Standards Update (“ASU”) 2009-05, “Measuring
Liabilities at Fair Value”, which updates ASC 820-10, “Fair Value Measurements
and Disclosures”. The updated guidance clarifies that the fair value of a
liability can be measured in relation to the quoted price of the liability when
it trades as an asset in an active market, without adjusting the price for
restrictions that prevent the sale of the liability. This guidance is effective
beginning October 1, 2009. The Corporation does not expect that the guidance
will change its valuation techniques for measuring liabilities at fair
value.








12





DNB
FINANCIAL CORPORATION AND SUBSIDIARY


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


(Unaudited)





In May
2009, the FASB updated ASC 855, “Subsequent Events”. ASC 855 establishes general
standards of accounting for and disclosure of events that occur after the
balance sheet date but before financial statements are issued or are available
to be issued. The Corporation adopted this guidance during the second quarter of
2009. In accordance with the update, the Corporation evaluates subsequent events
through the date its financial statements are filed. The Corporation adopted
this guidance on June 30, 2009. The adoption of this guidance did not have an
impact on the Corporation’s consolidated financial statements.





In April
2009, the FASB issued new guidance impacting ASC 320-10, “Investments – Debt and
Equity Securities.” The guidance amends the other-than-temporary impairment
(“OTTI”) guidance for debt securities. If the fair value of a debt security is
less than its amortized cost basis at the measurement date, the updated guidance
requires the Corporation to determine whether it has the intent to sell the debt
security or whether it is more likely than not it will be required to sell the
debt security before the recovery of its amortized cost basis. If either
condition is met, an entity must recognize full impairment. For all other debt
securities that are considered other-than-temporarily impaired and do not meet
either condition, the guidance requires that the credit loss portion of
impairment be recognized in earnings and the temporary impairment related to all
other factors be recorded in other comprehensive income. In addition, the
guidance requires additional disclosures regarding impairments on debt and
equity securities. The adoption of this guidance did not have an impact on the
Corporation’s consolidated financial statements.





In April
2009, the FASB issued new guidance impacting ASC 820-10, “Fair Value
Measurements and Disclosures” to provide guidance on determining fair value when
the volume and level of activity for the asset or liability have significantly
decreased and identifying transactions that are not orderly. This issuance
provides guidance on estimating fair value when there has been a significant
decrease in the volume and level of activity for the asset or liability and for
identifying transactions that may not be orderly. The guidance requires entities
to disclose the inputs and valuation techniques used to measure fair value and
to discuss changes in valuation techniques and related inputs, if any, in both
interim and annual periods. The Corporation adopted this standard on June 30,
2009. The adoption had no impact on the Corporation’s consolidated financial
statements.





In April
2009, the FASB issued new guidance impacting ASC 825-10 “Financial Instruments”.
This guidance amends the fair value disclosure guidance in ASC 825-10-50 and
requires an entity to disclose the fair value of its financial instruments in
interim reporting periods as well as in annual financial statements. The methods
and significant assumptions used to estimate the fair value of financial
instruments and any changes in methods and assumptions used during the reporting
period are also required to be disclosed both on an interim and annual basis.
The Corporation adopted this guidance during the second quarter of
2009.





In June
2008, the FASB issued new guidance impacting ASC 260-10, “Earnings Per Share.”
The guidance concludes that unvested share-based payment awards that contain
non-forfeitable rights to dividends or dividend equivalents are participating
securities that should be included in the earnings allocation in computing
earnings per share under the two-class method. The guidance is effective for
financial statements issued for fiscal years beginning after December 15,
2008, and interim periods within those years. All prior period earnings per
share data presented must be adjusted retrospectively. The adoption had no
impact on the Corporation’s consolidated financial statements.





ASU
2009-12, “Fair Value Measurements and Disclosures (Topic 820) - Investments in
Certain Entities That Calculate Net Asset Value per Share (or Its Equivalent),”
issued in September, 2009, allows a company to measure the fair value of an
investment that has no readily determinable fair market value on the basis of
the investee’s net asset value per share as provided by the investee. This
allowance assumes that the investee has calculated net asset value in accordance
with the GAAP measurement principles of Topic 946 as of the reporting entity’s
measurement date.   Examples of such investments include investments
in hedge funds, private equity funds, real estate funds and venture capital
funds. The update also provides guidance on how the investment should be
classified within the fair value hierarchy based on the value for which the
investment can be redeemed.  The amendment is effective for interim and
annual periods ending after December 15, 2009 with early adoption
permitted.  The Corporation does not have investments in such entities and,
therefore, there will be no impact to our financial statements.





Issued
October, 2009, ASU 2009-15, “Accounting for Own-Share Lending Arrangements in
Contemplation of Convertible Debt Issuance or Other Financing” amends ASC Topic
470 and provides guidance for accounting and reporting for own-share lending
arrangements issued in contemplation of a convertible debt issuance.  At
the date of issuance, a share-lending arrangement entered into on an entity’s
own shares should be measured at fair value in accordance with Topic 820 and
recognized as an issuance cost, with an offset to additional paid-in
capital.  Loaned shares are excluded from basic and diluted earnings per
share unless default of the share-lending arrangement occurs.  The
amendments also require several disclosures including a description and the
terms of the arrangement and the reason for entering into the arrangement. 
The effective dates of the amendments are dependent upon the date the
share-lending arrangement was entered into and include retrospective application
for arrangements outstanding as of the beginning of fiscal years beginning on or
after December 15, 2009.   The Corporation has no plans to issue
convertible debt and, therefore, does not expect the guidance to have an impact
on its financial statements.








13





NOTE
8: STOCK-BASED COMPENSATION





Stock Option
Plan


DNB has a
Stock Option Plan for employees and directors.  Under the plan,
options (both qualified and non-qualified) to purchase a maximum of 643,368
shares of DNB’s common stock could be issued to employees and
directors.





Under the
plan, option exercise prices must equal the fair market value of the shares on
the date of option grant and the option exercise period may not exceed ten
years.  The Plan Committee determines vesting of options under the
plan.  There were 223,079 and 201,335 options available for grant
at September 30, 2009 and December 31, 2008, respectively.  All
options outstanding are immediately exercisable. Stock option activity for the
nine-month period ended September 30, 2009 is indicated below.





Weighted
              AverageNumber
                Outstanding
            
            
            Exercise
              PriceOutstanding
      January 1, 2009
            
            
            191,247
            
            
            $
            19.03Granted
            
            
            –
            
            
            
            –Exercised
            
            
            –
            
            
            
            –Expired
            
            
            (19,229
            )
            
            
            (17.40
            )Forfeited
            
            
            (2,515
            )
            
            
            (20.24
            )Outstanding
      September 30, 2009
            
            
            169,503
            
            
            $
            19.19








Stock
option activity for the nine-month period ended September 30, 2008 is indicated
below.


Weighted
              AverageNumberOutstanding
            
            
            Exercise
              PriceOutstanding
      January 1, 2008
            
            
            243,320
            
            
            $
            19.36Granted
            
            
            –
            
            
            
            –Exercised
            
            
            –
            
            
            
            –Expired
            
            
            (29,221
            )
            
            
            (21.64
            )Forfeited
            
            
            (7,676
            )
            
            
            (20.95
            )Outstanding
      September 30, 2008
            
            
            206,423
            
            
            $
            18.98





The
weighted-average price and weighted average remaining contractual life for the
outstanding options are listed below for the dates indicated.  All
outstanding options are exercisable.





September
      30, 2009Range
      of
            Number
            Weighted
      AverageExercise
      Prices
            Outstanding
            Exercise
      Price
            Remaining
      Contractual Life$
      9.23-10.99
            9,419
            $9.23
            0.75
      years11.00-13.99
            9,414
            11.16
            1.75
      years14.00-19.99
            82,805
            17.44
            5.23
      years20.00-22.99
            19,824
            22.78
            5.23
      years23.00-24.27
            48,041
            24.27
            5.55
      yearsTotal
            169,503
            $19.19
            4.88
      yearsIntrinsic
      value
            $—





September
      30, 2008Range
      of
            Number
            Weighted
      AverageExercise
      Prices
            Outstanding
            Exercise
      Price
            Remaining
      Contractual Life$
      9.23-10.99
            9,419
            $  9.23
            1.75
      years11.00-13.99
            9,414
            11.16
            2.75
      years14.00-16.99
            22,985
            16.83
            3.75
      years17.00-19.99
            92,543
            17.56
            5.45
      years20.00-22.99
            24,021
            22.78
            6.23
      years23.00-24.27
            48,041
            24.27
            6.55
      yearsTotal
            206,423
            $18.98
            5.31
      yearsIntrinsic
      value
            $11,399









14




DNB
FINANCIAL CORPORATION AND SUBSIDIARY


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


(Unaudited)




Restricted Stock
Awards





DNB
maintains an Incentive Equity and Deferred Compensation Plan. The plan provides
that up to 243,101 (as adjusted for subsequent stock dividends) shares of common
stock may be granted, at the discretion of the Board, to individuals of the
Corporation.  DNB did not grant any shares of restricted stock during
the three and nine-month periods ended September 30, 2009. Shares already
granted are issuable on the earlier of three years after the date of the grant
or a change in control of DNB if the recipients are then employed by DNB (“Vest
Date”).  Upon issuance of the shares, resale of the shares is
restricted for an additional one year, during which the shares may not be sold,
pledged or otherwise disposed of. Prior to the Vest Date and in the event the
recipient terminates association with DNB for reasons other than death,
disability or change in control, the recipient forfeits all rights to the shares
that would otherwise be issued under the grant.





Share
awards granted by the plan were recorded at the date of award based on the
market value of shares.  Awards are being amortized to expense over
the three-year cliff-vesting period. DNB records compensation expense equal to
the value of the shares being amortized.  For the three and nine-month
periods ended September 30, 2009, $28,000 and $79,000 was amortized to expense.
For the three and nine-month periods ended September 30, 2008, $16,000 and
$99,000 was amortized to expense.   At September 30,
2009, 205,913 shares were reserved for future grants under the
plan.   Stock grant activity is indicated below.





SharesOutstanding
      - January 1, 2009
            24,574Granted
            –Forfeited
            (473)Outstanding
      – September 30, 2009
            24,101








SharesOutstanding
      - January 1, 2008
            30,103Granted
            –Vested
      shares
            (13,087)Forfeited
            (2,342)Outstanding
      – September 30, 2008
            14,674








NOTE  9:  INCOME
TAXES





As of
September 30, 2009, the Corporation had no material unrecognized tax benefits or
accrued interest and penalties. It is the Corporation’s policy to account for
interest and penalties accrued relative to unrecognized tax benefits as a
component of income tax expense.  Federal and state tax years 2005
through 2008 were open for examination as of September 30, 2009. Income tax
expense (benefit) for the three and nine-month periods ended September 30, 2009
was $184,000 and $222,000 compared to ($65,000) and $140,000 for the same
periods in 2008. The effective tax rate for the three and nine-month periods
ended September 30, 2009 was 22.5% and 17.1% respectively, compared to (48.2%)
and 11.9% for the same periods in 2008. Income tax expense for each period
differs from the amount determined at the statutory rate of 34% due to
tax-exempt income on loans and investment securities, DNB's ownership of BOLI
policies, and tax credits recognized on a low-income housing limited
partnership.







NOTE
10:  FAIR VALUE MEASUREMENTS AND DISCLOSURES





FASB ASC
820 establishes a fair value hierarchy based on the nature of data inputs for
fair value determinations, under which DNB is required to value each asset
within its scope using assumptions that market participations would utilize to
value that asset. When DNB uses its own assumptions, it is required to disclose
additional information about the assumptions used and the effect of the
measurement on earnings or the net change in assets for the period.






15






DNB
FINANCIAL CORPORATION AND SUBSIDIARY


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


(Unaudited)








The three
levels of the fair value hierarchy under FASB ACS 820 are as
follows:





Level 1
— Quoted prices in active markets for identical securities.





Level 2
— Quoted prices for similar instruments in active markets; quoted prices for
identical or similar instruments in markets that are not active and model
derived valuations whose inputs are observable or whose significant value
drivers are observable.




Level 3
— Instruments whose significant value drivers are unobservable.





A
description of the valuation methodologies used for assets measured at fair
value is set forth below:





DNB’s
available-for-sale investment securities, which generally include U.S.
government agencies and mortgage backed securities, collateralized mortgage
obligations, corporate bonds and equity securities are reported at fair value.
These securities are valued by an independent third party (“preparer”). The
preparer’s evaluations are based on market data. They utilize evaluated pricing
models that vary by asset and incorporate available trade, bid and other market
information. For securities that do not trade on a daily basis, their evaluated
pricing applications apply available information such as benchmarking and matrix
pricing. The market inputs normally sought in the evaluation of securities
include benchmark yields, reported trades, broker/dealer quotes (only obtained
from market makers or broker/dealers recognized as market participants), issuer
spreads, two-sided markets, benchmark securities, bid, offers and reference
data. For certain securities additional inputs may be used or some market inputs
may not be applicable. Inputs are prioritized differently on any given day based
on market conditions.




U.S.
Government agencies are evaluated and priced using multi-dimensional relational
models and option adjusted spreads. State and municipal securities are evaluated
on a series of matrices including reported trades and material event notices.
Mortgage backed securities are evaluated using matrix correlation to treasury or
floating index benchmarks, prepayment speeds, monthly payment information and
other benchmarks. Other investments are evaluated using a broker-quote based
application, including quotes from issuers.





Impaired
loans are those loans that the Bank has measured impairment generally based on
the fair value of the loan’s collateral.  Fair value is generally
determined based upon independent third-party appraisals of the properties, or
discounted cash flows based upon the expected proceeds.  These assets are
included as Level 3 fair values, based upon the lowest level of input that is
significant to the fair value measurements.





OREO
assets are adjusted to fair value less estimated selling costs upon transfer of
the loans to OREO.  Subsequently, OREO assets are carried at the lower of
carrying value or fair value. Fair value is based upon independent market
prices, appraised values of the collateral or management’s estimation of the
value of the collateral.  There assets are included as level 3 fair
values.





The
following table summarizes the assets at September 30, 2009 and December 31,
2008 that are recognized on DNB’s balance sheet using fair value measurement
determined based on the differing levels of input.




September
      30, 2009(Dollars
      in thousands)
            Level 1
            Level 2
            Level 3
            Assets
      at
              Fair
      ValueAssets
      Measured at Fair Value on a Recurring BasisSecurities
      available for sale
            $13
            $180,121
            $—
            $180,134Total
      assets measured at fair value on a recurring basis
            $13
            $180,121
            $—
            $180,134Assets
      Measured at Fair Value on a Nonrecurring BasisImpaired
      loans
            $—
            $—
            $3,160
            $3,160OREO &
      other repossessed property
            —
            —
            4,610
            4,610Total
      assets measured at fair value on a nonrecurring basis
            $—
            $—
            $7,770
            $7,770











16







DNB
FINANCIAL CORPORATION AND SUBSIDIARY


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


(Unaudited)








December 31,
      2008(Dollars
      in thousands)
            Level 1
            Level 2
            Level 3
            Assets
      at
              Fair
      ValueAssets
      Measured at Fair Value on a Recurring BasisSecurities
      available for sale
            $21
            $60,645
            $—
            $60,666Total
      assets measured at fair value on a recurring basis
            $21
            $60,645
            $—
            $60,666Assets
      Measured at Fair Value on a Nonrecurring BasisImpaired
      loans
            $—
            $—
            $1,043
            $1,043OREO &
      other repossessed property
            —
            —
            4,997
            4,997Total
      assets measured at fair value on a nonrecurring basis
            $—
            $—
            $6,040
            $6,040




Impaired
loans.  Impaired
loans, which are measured for impairment using the fair value of the collateral
for collateral dependent loans, had a carrying amount of $9.2 million at
September 30, 2009. Of this, $3.6 million had a valuation allowance of $448,000
and $5.6 million had no allowance as of September 30, 2009. During the nine
months ended September 30, 2009, we did not recognize any impairment charges
related to loans. Impaired loans had a carrying amount of $1.2 million at
December 31, 2008. The valuation allowance on impaired loans was $120,000
as of December 31, 2008.






Other
Real Estate Owned & other repossessed property.Other
real estate owned ("OREO") consists of properties acquired as a result of, or
in-lieu-of, foreclosure. Properties or other assets (primarily repossessed
assets formerly leased) are classified as OREO and other repossessed property
and are reported at the lower of carrying value or fair value, less estimated
costs to sell. Costs relating to the development or improvement of the assets
are capitalized and costs relating to holding the assets are charged to expense.
DNB had $4.6 million of such assets at September 30, 2009, which
consisted of $4.5 million in OREO and $132,000 in other repossessed
property. DNB had $5.0 million of such assets at December 31, 2008,
which consisted of $4.9 million in OREO and $93,000 in other repossessed
property. Subsequent to the repossession of these assets, DNB did not write down
their carrying values during the three and nine month periods ending September
30, 2009, based on appraisals.







The
carrying amounts and estimated fair values of financial instruments at September
30, 2009 and December 31, 2008 are as follows:





September
      30, 2009
            December
      31, 2008(Dollars
      in thousands)
            Carrying
              Amount
            Estimated
              Fair
              Value
            Carrying
              Amount
            Estimated
              Fair
              ValueFinancial
      assetsCash
      and cash equivalents
            $34,200
            $34,200
            $48,118
            $48,118AFS
      Investment securities
            180,134
            180,134
            60,666
            60,666HTM
      Investment securities
            48,604
            48,550
            59,395
            58,525Loans
      and leases
            345,468
            340,744
            336,454
            334,550Accrued
      interest receivable
            2,963
            2,963
            2,127
            2,127Financial
      liabilitiesDeposits
            503,956
            498,427
            408,470
            405,414Borrowings
            81,086
            85,125
            80,844
            86,108Junior
      subordinated debentures
            9,279
            7,182
            9,279
            5,158Accrued
      interest payable
            734
            734
            1,154
            1,154Off-balance
      sheet instruments
            –
            –
            –
            –


The specific estimation methods and
assumptions used can have a substantial impact on the resulting fair values of
financial instruments. Following is a brief summary of the significant
assumptions, methods, and estimates used in estimating fair value.




Limitations
Fair value estimates are made at a specific point in time, based on relevant
market information about the financial instrument. These estimates do not
reflect any premium or discount that could result from offering for sale at one
time DNB’s entire holdings of a particular financial instrument. Because no
market exists for a significant portion of DNB’s financial







17




DNB
FINANCIAL CORPORATION AND SUBSIDIARY


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


(Unaudited)





instruments,
fair value estimates are based on judgments regarding future expected loss
experience, current economic conditions, risk characteristics of various
financial instruments, and other factors. These estimates are subjective in
nature and involve uncertainties and matters of significant judgment and
therefore cannot be determined with precision. Changes in assumptions could
significantly affect the estimates.





The
following methods and assumptions were used to estimate the fair value of each
class of financial instruments.





Cash and Cash
Equivalents, Investment Securities, Accrued Interest Receivable and Accrued
Interest Payable The carrying amounts for short-term investments (cash
and cash equivalents) and accrued interest receivable and payable approximate
fair value. The fair value of investment securities are determined by an
independent third party (“preparer”). The preparer’s evaluations are based on
market data. They utilize evaluated pricing models that vary by asset and
incorporate available trade, bid and other market information. For securities
that do not trade on a daily basis, their evaluated pricing applications apply
available information such as benchmarking and matrix pricing. The market inputs
normally sought in the evaluation of securities include benchmark yields,
reported trades, broker/dealer quotes (only obtained from market makers or
broker/dealers recognized as market participants), issuer spreads, two-sided
markets, benchmark securities, bid, offers and reference data. For certain
securities additional inputs may be used or some market inputs may not be
applicable. Inputs are prioritized differently on any given day based on market
conditions.




U.S.
Government agencies are evaluated and priced using multi-dimensional relational
models and option adjusted spreads. State and municipal securities are evaluated
on a series of matrices including reported trades and material event notices.
Mortgage backed securities are evaluated using matrix correlation to treasury or
floating index benchmarks, prepayment speeds, monthly payment information and
other benchmarks. Other investments are evaluated using a broker- quote based
application, including quotes from issuers. The carrying amount of non-readily
marketable equity securities approximates liquidation value.




Loans Fair
values are estimated for portfolios of loans with similar financial
characteristics. Loans are segregated by type such as commercial, commercial
mortgages, residential mortgages, consumer and student loans, and non-accrual
loans. The fair value of performing loans is calculated by discounting expected
cash flows using an estimated market discount rate. Expected cash flows include
both contractual cash flows and prepayments of loan balances. Prepayments on
consumer loans were determined using the median of estimates of securities
dealers for mortgage-backed investment pools.




The
estimated discount rate considers credit and interest rate risk inherent in the
loan portfolios and other factors such as liquidity premiums and incremental
servicing costs to an investor. Management has made estimates of fair value
discount rates that it believes to be reasonable. However, because there is no
market for many of these financial instruments, management has no basis to
determine whether the fair value presented below would be indicative of the
value negotiated in an actual sale.




The fair
value for non-accrual loans was derived through a discounted cash flow analysis,
which includes the opportunity costs of carrying a non-performing asset. An
estimated discount rate was used for all non-accrual loans, based on the
probability of loss and the expected time to recovery.




Deposits and
Borrowings  The fair value of deposits with no stated maturity,
such as non-interest- bearing deposits, savings, NOW and money market accounts,
is equal to the amount payable on demand. The fair values of time deposits and
borrowings are based on the present value of contractual cash flows. The
discount rates used to compute present values are estimated using the rates
currently offered for deposits of similar maturities in DNB’s marketplace and
rates currently being offered for borrowings of similar maturities.




Off-balance-sheet
Instruments (Disclosed at Cost) Off-balance-sheet instruments are
primarily comprised of loan commitments, which are generally priced at market at
the time of funding. Fees on commitments to extend credit and stand-by letters
of credit are deemed to be immaterial and these instruments are expected to be
settled at face value or expire unused. It is impractical to assign any fair
value to these instruments. At September 30, 2009, un-funded loan commitments
totaled $50.4 million. Stand-by letters of credit totaled $2.9 million
at September 30, 2009. At December 31, 2008, un-funded loan commitments
totaled $55.3 million. Stand-by letters of credit totaled $3.0 million
at December 31, 2008.









18







DNB
FINANCIAL CORPORATION AND SUBSIDIARY


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


(Unaudited)








NOTE
11:  STOCKHOLDERS’ EQUITY





Stockholders'
equity was $42.8 million at September 30, 2009 compared to $30.1 million at
December 31, 2008.  The increase in stockholders’ equity was primarily
a result of participation in the U.S. Treasury Capital Purchase program as
described below, coupled with year-to-date earnings of $1.1 million and a
$777,000 change in unrealized gains, net-of-tax, on the securities portfolio.
These additions to stockholders equity were partially offset
by $508,000 of dividends paid on DNB’s common stock, $74,000 of
dividends accrued and $318,000 of dividends paid on DNB’s Fixed Rate
Cumulative Perpetual Preferred Stock.





On
January 30, 2009, as part of the CPP administered by the United States
Department of the Treasury, DNB Financial Corporation entered into a Letter
Agreement and a Securities Purchase Agreement with the U.S. Treasury, pursuant
to which the DNB issued and sold on January 30, 2009, and the U.S. Treasury
purchased for cash on that date (i) 11,750 shares of the Corporation’s
Fixed Rate Cumulative Perpetual Preferred Stock, Series 2008A, par value
$10.00 per share, having a liquidation preference of $1,000 per share, and
(ii) a ten-year warrant to purchase up to 186,311 shares of the DNB’s
common stock, $1.00 par value, at an exercise price of $9.46 per share, for an
aggregate purchase price of $11,750,000 in cash. This transaction closed on
January 30, 2009. The issuance and sale of these securities was a private
placement exempt from registration pursuant to Section 4(2) of the
Securities Act of 1933. During 2009 the Bank will need to provide dividends to
the Corporation in connection with the $11,750,000 of Fixed Rate Cumulative
Perpetual Preferred Stock sold on January 30, 2009 as part of the CPP
administered by the United States Department of the Treasury.







ITEM 2 - MANAGEMENT'S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS





DESCRIPTION
OF DNB'S BUSINESS AND BUSINESS STRATEGY





DNB
Financial Corporation is a bank holding company whose bank subsidiary, DNB
First, National Association (the “Bank”) is a nationally chartered commercial
bank with trust powers, and a member of the Federal Reserve System. The FDIC
insures DNB’s deposits. DNB provides a broad range of banking services to
individual and corporate customers through its thirteen community offices
located throughout Chester and Delaware Counties, Pennsylvania. DNB is a
community banking organization that focuses its lending and other services on
businesses and consumers in the local market area. DNB funds all these
activities with retail and business deposits and borrowings.  Through
its DNB Advisors division, the Bank provides wealth management and trust
services to individuals and businesses.  The Bank and its subsidiary,
DNB Financial Services, Inc., make available certain non-depository products and
services, such as securities brokerage, mutual funds, life insurance and
annuities.





DNB earns
revenues and generates cash flows by lending funds to commercial and consumer
customers in its marketplace. DNB generates its largest source of interest
income through its lending function.  Another source of interest
income is derived from DNB’s investment portfolio, which provides liquidity and
cash flows for future lending needs.





In
addition to interest earned on loans and investments, DNB earns revenues from
fees it charges customers for non-lending services. These services include
wealth management and trust services; brokerage and investment services; cash
management services; banking and ATM services; as well as safekeeping and other
depository services.





To
implement the culture changes necessary at DNB First to become an innovative
community bank capable of meeting challenges of the 21st century, we embarked on
a strategy called "Loyalty, Bank On It."  In recognizing the
importance of loyalty in our everyday lives, we have embraced this concept as
the cornerstone of DNB First's new culture.  To that end, DNB
continues to make appropriate investments in all areas of our business,
including people, technology, facilities and marketing.





Comprehensive
5-Year Plan.During
the third quarter of 2008, management updated the 5-year strategic plan that was
designed to reposition its balance sheet and improve core earnings. Through the
plan, which covers years 2008 through 2012, management will endeavor to expand
its loan portfolio through new originations, increased loan participations, as
well as strategic loan and lease receivable purchases. Management also plans to
reduce the absolute level of borrowings with cash flows from existing loans and
investments as well as from new deposit growth. A discussion of DNB's Key
Strategies follows below:





·
            Focus
      on penetrating markets and allowing existing locations to maximize
      profitability








19





·
            Improve
      earnings by allowing revenues to catch up to the investments made over the
      past five years in people, infrastructure and branch
    expansion





·
            Implement
      a formal training program that will emphasize product knowledge, sales
      skills, people skills and technical knowledge to promote customer
      satisfaction





·
            Grow
      loans and diversify the mix





·
            Reduce
      long-term borrowings





·
            Focus
      on profitable customer segments





·
            Grow
      and diversify non-interest income





·
            Focus
      on reducing DNB’s cost of funds by changing DNB’s mix of
      deposits





·
            Focus
      on cost containment and improving operational
  efficiencies




Strategic
Plan Update.During the quarter ended September 30, 2009, management focused on
expense control as well as growing its loan portfolio and deposit base. Gross
loans at September 30, 2009 grew $14.2 million or 4.21% compared to December 31,
2008, with most of this growth coming in the third quarter. Non–interest expense
for the three months ended September 30, 2009 declined 3.37% or $136,000
compared to the same period in 2008. The composite cost of funds for the third
quarter was 1.87% compared to 2.45% for the same period in 2008. Deposits rose
by $95.5 million, to $504.0 million at September 30, 2009 compared to $408.5
million at December 31, 2008. Stockholder’s equity increased $12.7 million, to
$42.8 million at September 30, 2009 compared to $30.1 million at December 31,
2008 and increased $1.9 million when compared to June 30, 2009.




Management
has made a concerted effort to improve the measurement and tracking of business
lines and overall corporate performance levels. Improved information systems
have increased DNB's ability to track key indicators and enhance corporate
performance levels. Better measurement against goals and objectives and
increased accountability will be integral in attaining desired loan, deposit and
fee income production.




MATERIAL
CHALLENGES, RISKS AND OPPORTUNITIES





The
following is a summary of material challenges, risks and opportunities DNB has
faced during the nine-month period ended September 30, 2009.





Interest Rate
Risk Management. Interest rate risk is the exposure to adverse changes in
net interest income due to changes in interest rates. DNB considers interest
rate risk the predominant risk in terms of its potential impact on
earnings.  Interest rate risk can occur for any one or more of the
following reasons: (a) assets and liabilities may mature or re-price at
different times; (b) short-term or long-term market rates may change by
different amounts; or (c) the remaining maturity of various assets or
liabilities may shorten or lengthen as interest rates change.





The
principal objective of the Bank’s interest rate risk management is to evaluate
the interest rate risk included in certain on and off-balance sheet accounts,
determine the level of risk appropriate given the Bank’s business strategy,
operating environment, capital and liquidity requirements and performance
objectives, and manage the risk consistent with approved guidelines. Through
such management, DNB seeks to reduce the vulnerability of its operations to
changes in interest rates. The Bank’s Asset Liability Committee (the “ALCO”) is
responsible for reviewing the Bank’s asset/liability policies and interest rate
risk position and making decisions involving asset liability considerations. The
ALCO meets on a monthly basis and reports trends and the Bank’s interest rate
risk position to the Board of Directors.  The extent of the movement
of interest rates is an uncertainty that could have a negative impact on the
earnings of the Bank.





The
largest component of DNB’s total income is net interest income, and the majority
of DNB’s financial instruments are comprised of interest rate-sensitive assets
and liabilities with various terms and maturities.  The primary
objective of management is to maximize net interest income while minimizing
interest rate risk.  Interest rate risk is derived from timing
differences in the re-pricing of assets and liabilities, loan prepayments,
deposit withdrawals, and differences in lending and funding
rates.  The ALCO actively seeks to monitor and control the mix of
in­terest rate-sensitive assets and interest rate-sensitive
­liabilities. One measure of interest rate risk is net interest income
simulation analysis.  The ALCO utilizes simulation analysis, whereby
the model estimates the variance in net interest income with a change in
interest rates of plus or minus 200 basis points in addition to four yield curve
twists over a twelve-month period.






20





Liquidity and
Market Risk Management.Liquidity is the ability to meet current and
future financial obligations. The Bank further defines liquidity as the ability
to respond to deposit outflows as well as maintain flexibility to take advantage
of lending and investment opportunities.  The Bank’s primary sources
of funds are operating earnings, deposits, repurchase agreements, principal and
interest payments on loans, proceeds from loan sales, sales and maturities of
mortgage-backed and investment securities, and FHLB advances.  The
Bank uses the funds generated to support its lending and investment activities
as well as any other demands for liquidity such as deposit
outflows.  While maturities and scheduled amortization of loans and
securities are predictable sources of funds, deposit flows, mortgage
prepayments, loan and security sales and the exercise of call features are
greatly influenced by general interest rates, economic conditions and
competition.





The
objective of DNB’s asset/liability management function is to maintain consistent
growth in net interest income within DNB’s policy limits.  This
objective is accomplished through the management of liquidity and interest rate
risk, as well as customer offerings of various loan and deposit
products.  DNB maintains adequate liquidity to meet daily funding
requirements, anticipated deposit withdrawals, or asset opportunities in a
timely manner.  Liquidity is also necessary to meet obligations during
unusual, extraordinary or adverse operating circumstances, while avoiding a
significant loss or cost.  DNB’s foundation for liquidity is its
deposit base as well as a marketable investment portfolio that provides cash
flow through regular maturities or that can be used for collateral to secure
funding in an emergency.  As of September 30, 2009, DNB had $34.2
million in cash and cash equivalents to meet its funding
requirements.  This declined from $48.1 million at December 31, 2008,
primarily due to the purchase of additional investment
securities.  During the nine month period, total investment securities
increased $108.7 million to $232.8 million at September 30,
2009.  Funding for the increase in investments came from an increase
in deposits of $95.5 million and a decline in cash and cash equivalents of $13.9
million.





Credit Risk
Management.DNB defines credit risk as the risk of default by a customer
or counter-party.  The objective of DNB’s credit risk management
strategy is to quantify and manage credit risk on an aggregate portfolio basis
as well as to limit the risk of loss resulting from an individual customer
default.  Credit risk is managed through a combination of
underwriting, documentation and collection standards.  DNB’s credit
risk management strategy calls for regular credit examinations and quarterly
management reviews of large credit exposures and credits that are experiencing
credit quality deterioration.  DNB’s loan review procedures provide
assessments of the quality of underwriting, documentation, risk grading and
charge-off procedures, as well as an assessment of the allowance for credit loss
reserve analysis process.





Competition.In addition to the challenges related to the interest rate environment,
community banks in Chester and Delaware Counties have been experiencing
increased competition from large regional and international banks entering DNB’s
marketplace through mergers and acquisitions.  Competition for loans
and deposits has negatively affected DNB’s net interest margin.  To
compensate for the increased competition, DNB, along with other area community
banks, has aggressively sought and marketed customers who have been
disenfranchised by these mergers.  To attract these customers, DNB has
introduced new deposit products and services, such as Rewards Checking and
Executive and employee packages. In addition, DNB has introduced Remote Capture
to our commercial customers to expedite their collection of funds.




Deposit Insurance
Assessments; FICO Assessments.DNB
pays deposit insurance premiums to the FDIC based on an assessment rate
established by the FDIC. In 2006, the FDIC enacted various rules to implement
the provisions of the Federal Deposit Insurance Reform Act of 2005 (the "FDI
Reform Act"). Pursuant to the FDI Reform Act, in 2006 the FDIC merged the Bank
Insurance Fund with the Savings Association Insurance Fund to create a newly
named Deposit Insurance Fund (the "DIF") that covers both banks and savings
associations. For most banks and savings associations, including DNB, FDIC rates
will depend upon a combination of CAMELS component ratings and financial ratios.
CAMELS ratings reflect the applicable bank regulatory agency's evaluation of the
financial institution's capital, asset quality, management, earnings, liquidity
and sensitivity to risk. For large banks and savings associations that have
long-term debt issuer ratings, assessment rates will depend upon such ratings
and CAMELS component ratings.




Effective
April 1, 2009, a bank’s annual assessment base rates will be as follows,
depending on the bank’s risk category:




Risk
      CategoryIMinimum
            
            Maximum
            
            II
            
            III
            
            IVAnnual
      rates (in basis points)
            
            
            12
            
            
            16
            
            
            22
            
            
            32
            
            
            45




The base
assessment rate can be adjusted downward based on a bank's unsecured debt and
level of excess capital above the well capitalized threshold, or upward based on
a bank's secured liabilities including Federal Home Loan Bank advances and
repurchase agreements, so that the total risk-based assessment rates will range
as follows depending on a bank's risk category:








21




Risk
      CategoryI
            
            II
            
            III
            
            IVInitial
      base assessment rate
            
            12
      to 16
            
            22
            
            32
            
            45Unsecured
      debt adjustment
            
            –5
      to 0
            
            –5
      to 0
            
            –5
      to 0
            
            –5
      to 0Secured
      liability adjustment
            
            0
      to 8
            
            0
      to 11
            
            0
      to 16
            
            0
      to 22.5Brokered
      deposit adjustment
            
            —
            
            0
      to 10
            
            0
      to 10
            
            0
      to 10Total
      base assessment rate
            
            7
      to 24
            
            17
      to 43
            
            27
      to 58
            
            40
      to 77.5




On May 22, 2009, the FDIC adopted a final rule imposing a
5 basis point special assessment on each insured depository institution's assets
minus Tier 1 capital as of June 30, 2009. The amount of the special assessment
for any institution will not exceed 10 basis points times the institution's
assessment base for the second quarter 2009. The special assessment was
collected on September 30, 2009.




On
September 29, 2009, the FDIC proposed to require insured depository institutions
such as the Bank to prepay their estimated quarterly risk-based assessments for
the fourth quarter of 2009 and for all of 2010, 2011 and 2012. It also adopted a
uniform three-basis point increase in assessment rates effective on January 1,
2011. In announcing these initiatives, the FDIC stated that, while the prepaid
assessment would not immediately affect bank earnings, each institution would
record the entire amount of its prepaid assessment as a prepaid expense as of
December 30, 2009, the date the payment would be made and, as of December 31,
2009 and each quarter thereafter, record an expense or charge to earnings for
its regular quarterly assessment and an offsetting credit to the prepaid
assessment until the asset is exhausted. Once the asset is exhausted,
institutions would resume paying and accounting for quarterly deposit insurance
assessments as they currently do.




On
November 12, 2009, the FDIC adopted a final rule to require insured institutions
to prepay their estimated quarterly risk-based assessments for the fourth
quarter of 2009, and for all of 2010, 2011, and 2012. The prepaid assessment
will be collected on December 30, 2009, along with each institution’s regular
quarterly risk-based deposit insurance assessment for the third quarter of
2009.  For purposes of calculating the prepaid assessment, each
institution’s assessment rate will be its total base assessment rate in effect
on September 30, 2009.  On September 29, 2009, the FDIC increased annual
assessment rates uniformly by 3 basis points beginning in 2011. As a result, an
institution’s total base assessment rate for purposes of calculating the
prepayment will be increased by an annualized 3 basis points beginning in 2011.
For purposes of calculating the amount that an institution will prepay on
December 30, 2009, an institution’s third quarter 2009 assessment base will be
increased quarterly at a 5 percent annual growth rate through the end of 2012.
The FDIC will begin to draw down an institution’s prepaid assessments on March
30, 2010, representing payment for the regular quarterly risk-based assessment
for the fourth quarter of 2009.




The
Bank’s current regular annual assessment rate is 15.55 basis
points.




The FDIA,
as amended by the FDI Reform Act, requires the FDIC to set a ratio of deposit
insurance reserves to estimated insured deposits, the designated reserve ratio
(the "DRR"), for a particular year within a range of 1.15% to 1.50%. For 2009,
the FDIC has set the DRR at 1.25%, which is unchanged from 2008 levels. Under
the FDI Reform Act and the FDIC's revised premium assessment program, every
FDIC-insured institution will pay some level of deposit insurance assessments
regardless of the level of the DRR. We cannot predict whether, as a result of an
adverse change in economic conditions or other reasons, the FDIC will be
required in the future to increase deposit insurance assessments above current
levels. The FDIC also adopted rules providing for a one-time credit assessment
to each eligible insured depository institution based on the assessment base of
the institution on December 31, 1996. The credit may be applied against the
institution's 2007 assessment, and for the three years thereafter the
institution may apply the credit against up to 90% of its assessment. DNB
qualified for a credit of approximately $245,000, of which $170,000 was applied
in 2007 and the remaining balance of $75,000 was applied in 2008, thereby
exhausting the credit.




In
addition, the Deposit Insurance Funds Act of 1996 authorized the Financing
Corporation ("FICO") to impose assessments on DIF applicable deposits in order
to service the interest on FICO's bond obligations from deposit insurance fund
assessments. The amount assessed on individual institutions by FICO will be in
addition to the amount, if any, paid for deposit insurance according to the
FDIC's risk-related assessment rate schedules. FICO assessment rates may be
adjusted quarterly to reflect a change in assessment base. The FICO assessment
rate is adjusted quarterly to reflect changes in the assessment bases of the
fund based on quarterly Call Report and Thrift Financial Report submissions. The
FICO rate for the third quarter of 2009 was at an annual rate of 1.02 basis
points (1.02 cents per $100 of assessable deposits).  Under the FDIA,
insurance of deposits may be terminated by the FDIC upon a finding that the
institution has engaged in unsafe and unsound practices, is in an unsafe or
unsound condition to continue operations, or has violated any applicable law,
regulation, rule, order or condition imposed by the FDIC.








22




Material Trends
and Uncertainties.The global and U.S. economies are experiencing
significantly reduced business activity as a result of disruptions in the
financial system. Dramatic declines in the housing market, with falling home
prices and increasing foreclosures and unemployment, have resulted in
significant write-downs of asset values by financial institutions, including
government-sponsored entities and major commercial and investment banks. As a
result of the recession, retail customers may delay borrowing from DNB as
unemployment increases and the value of existing homes decline and the
availability to borrow against equity diminishes. As the U.S. economy moves
through a period of recession, delinquencies will rise as the value of homes
decline and DNB’s borrowers experience financial difficulty due to corporate
downsizing, reduced sales, or other negative events which may impact their
ability to meet their contractual loan payments. As a result of these negative
trends in the economy and their impact on our borrowers’ ability to repay their
loans, DNB made a $300,000 and a $700,000 provision during the three and
nine month periods ending September 30, 2009 in response to DNB’s increased
level of non-performing assets which grew to $13.8 million from
$7.7 million at December 31, 2008 along with other changes in our loan
and lease portfolio. In addition, during the first nine months of 2009,
management strengthened DNB's capital and liquidity positions.  Total
Risk Based Capital stood at 14.24% at September 30, 2009. Cash and cash
equivalents decreased to $34.2 million, from $48.1 million at December 31,
2008.





Other Material
Challenges, Risks and Opportunities. As a financial institution, DNB's
earnings are significantly affected by general business and economic
conditions.  These conditions include short-term and long-term
interest rates, inflation, monetary supply, fluctuations in both debt and equity
capital markets, and the strength of the United States economy and local
economics in which we operate.  As mentioned above in Material Trends
and Uncertainties, the economic downturn, increased unemployment, and other
events  negatively impact household and/or corporate incomes and could
decrease the demand for DNB's loan and non-loan products and services and
increase the number of customers who fail to pay interest or principal on their
loans.  Geopolitical conditions can also affect DNB's
earnings.  Acts or threats of terrorism, actions taken by the United
States or other governments in response to acts or threats of terrorism and our
military conflicts including the war in Afghanistan and Iraq, could impact
business conditions in the United States.





CRITICAL
ACCOUNTING POLICIES





The
following discussion and analysis of financial condition and results of
operations is based upon our consolidated financial statements, which have been
prepared in accordance with United States generally accepted accounting
principles. Generally accepted accounting principles are complex and require
management to apply significant judgment to various accounting, reporting and
disclosure matters. Management must use assumptions and estimates to apply these
principles where actual measurement is not possible or practical. Actual results
may differ from these estimates under different assumptions or
conditions.





In
management's opinion, the most critical accounting policies and estimates
impacting DNB's consolidated financial statements are listed
below.  These policies are critical because they are highly dependent
upon subjective or complex judgments, assumptions and
estimates.  Changes in such estimates may have a significant impact on
the financial statements.  For a complete discussion of DNB's
significant accounting policies, see the footnotes to the Consolidated Financial
Statements included in DNB's 10-K for the year ended December 31,
2008.





Determination of
the allowance for credit losses. Credit loss allowance
policies involve significant judgments, estimates and assumptions by management
which may have a material impact on the carrying value of net loans and leases
and, potentially, on the net income recognized by DNB from period to
period.  The allowance for credit losses is based on management’s
ongoing evaluation of the loan and lease portfolio and reflects an amount
considered by management to be its best estimate of the amount necessary to
absorb known and inherent losses in the portfolio.  Management
considers a variety of factors when establishing the allowance, such as the
impact of current economic conditions, diversification of the portfolios,
delinquency statistics, results of loan review and related classifications, and
historic loss rates.  In addition, certain individual loans which
management has identified as problematic are specifically provided for, based
upon an evaluation of the borrower’s perceived ability to pay, the estimated
adequacy of the underlying collateral and other relevant factors.  In
addition, regulatory authorities, as an integral part of their examinations,
periodically review the allowance for credit losses.  They may require
additions to the allowance based upon their judgments about information
available to them at the time of examination.  Although provisions
have been established and segmented by type of loan, based upon management’s
assessment of their differing inherent loss characteristics, the entire
allowance for credit losses is available to absorb further losses in any
category.





Management
uses significant estimates to determine the allowance for credit
losses.  Because the allowance for credit losses is dependent, to a
great extent, on conditions that may be beyond DNB’s control, management’s
estimate of the amount necessary to absorb credit losses and actual credit
losses could differ.  DNB’s current judgment is that the valuation of
the allowance for credit losses remains adequate at September 30,
2009.  For a description of DNB’s accounting policies in connection
with its allowance for credit losses, see, “Allowance for Credit Losses”, in
Management’s Discussion and Analysis.






23





Realization of
deferred income tax items.Estimates of deferred
tax assets and deferred tax liabilities make up the asset category titled “net
deferred taxes”.  These estimates involve significant judgments and
assumptions by management, which may have a material impact on the carrying
value of net deferred tax assets for financial reporting
purposes.  Deferred tax assets and liabilities are recognized for the
future tax consequences attributable to differences between the financial
statement carrying amounts of existing assets and liabilities and their
respective tax basis (such as recognition of provisions for loan and lease
losses expense in one period for financial reporting purposes, but not deducted
for tax purposes until the loans are actually charged off in a subsequent
period), as well as operating loss carry forwards.  Deferred tax
assets and liabilities are measured using enacted tax rates expected to apply to
taxable income in the years in which those temporary differences are expected to
be recovered or settled.  The effect on deferred tax assets and
liabilities of a change in tax rates is recognized in income in the period that
includes the enactment date.  A valuation allowance would be
established against deferred tax assets when in the judgment of management, it
is more likely than not that such deferred tax assets will not become available.
The future realization of deferred tax assets depends on sufficient taxable
income. If expectations of future taxable income change (for example if future
income is higher or lower than originally expected), the valuation allowance may
increase or decrease and the benefit of deferred tax assets van be reduced or
increased correspondingly from prior years’ estimates.  For a more
detailed description of these items, refer to Footnote 11 (Federal Income Taxes)
to DNB’s consolidated financial statements for the year ended December 31,
2008.





The
Footnotes to DNB's most recent Consolidated Financial Statements as set forth in
DNB's Annual Report 10-K identify other 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 DNB and its results of operations.





FINANCIAL
CONDITION


DNB's
total assets were $641.3 million at September 30, 2009 compared to $533.4
million at December 31, 2008.  The increase in total assets was
primarily attributable to a $108.7 million increase in total investment
securities as described below.





Investment
Securities. Investment securities at September 30, 2009 were $232.8
million compared to $124.1 million at December 31, 2008.  The
significant increase in investment securities was primarily due to the purchase
of $220.0 million in investment securities, offset by $112.4 million in
sales, principal pay-downs and maturities.





Gross Loans and
Leases. DNB’s
loans and leases increased $14.2 million to $350.6 million at September 30, 2009
compared to $336.5 million at December 31, 2008.  Total commercial
loans increased $25.3 million, while consumer loans, commercial leases, and
residential loans declined $7.5 million, $3.0 million and $641,000,
respectively.  Commercial loans increased as a result new lending
relationships cultivated by our loan officers as well as the purchase of
Government guaranteed SBA and USDA loans.  Consumer loans have
declined as a result of the fall in housing prices during the past 12-18
months.





Deposits.
Deposits were $504.0 million at September 30, 2009 compared to $408.5 million at
December 31, 2008.  Deposits increased $95.5 million or 23.4% during
the nine-month period ended September 30, 2009.  Core deposits, which
are comprised of demand, NOW, money markets and savings accounts, increased
$47.6 million and time deposits increased by $47.9
million.  Management believes that the increase in deposits was
primarily attributable to consumers seeking more stable investments, such as
FDIC insured deposits, as a result of the uncertain economic
environment.





Borrowings.Borrowings were $90.4
million at September 30, 2009 compared to $90.1 million at December 31,
2008.





Stockholders’
Equity.Stockholders'
equity was $42.8 million at September 30, 2009 compared to $30.1 million at
December 31, 2008.  The increase in stockholders’ equity was primarily
a result of participation in the U.S. Treasury Capital Purchase program as
described below, coupled with year-to-date earnings of $1.1 million and
a $777,000 change in unrealized gains, net-of-tax, on the securities
portfolio. These additions to stockholders’ equity were partially offset
by $508,000 of dividends paid on DNB’s common stock, $74,000 of dividends
accrued and $318,000 of dividends paid on DNB’s Fixed Rate Cumulative Perpetual
Preferred Stock.




On
January 30, 2009, as part of the CPP administered by the United States
Department of the Treasury, DNB Financial Corporation entered into a Letter
Agreement and a Securities Purchase Agreement with the U.S. Treasury, pursuant
to which the DNB issued and sold on January 30, 2009, and the U.S. Treasury
purchased for cash on that date (i) 11,750 shares of the Corporation’s
Fixed Rate Cumulative Perpetual Preferred Stock, Series 2008A, par value
$10.00 per share, having a liquidation preference of $1,000 per share, and
(ii) a ten-year warrant to purchase up to 186,311 shares of the DNB’s
common stock, $1.00 par value, at an exercise price of $9.46 per share, for an
aggregate purchase price of $11,750,000 in cash. This transaction closed on
January 30, 2009. The issuance and sale of these securities was a private
placement exempt from registration pursuant to Section 4(2) of the
Securities Act of 1933. During 2009 the Bank will need to provide dividends to
the Corporation in connection with the $11,750,000 of Fixed Rate Cumulative
Perpetual Preferred Stock sold on January 30, 2009 as part of the CPP
administered by the United States Department of the Treasury.






24







RESULTS
OF OPERATIONS


SUMMARY





Net
income for the three and nine-month periods ended September 30, 2009 was
$634,000 and $1.1 million compared to $199,000 and $1.0 million for the same
periods in 2008.  Diluted earnings per common share for the three and
nine-month periods ended September 30, 2009 were $0.18 and $0.25 compared to
$0.08 and $0.40 for the same periods in 2008. The $435,000 increase in net
income during the most recent three-month period was attributable to a $391,000
increase in net interest income after provision for credit losses, a $157,000
increase in non-interest income and a $136,000 decrease in non-interest expense,
offset by a $249,000 increase in income tax expense. The increase in net
interest income after provision for credit losses, the increase in non-interest
income, as well as the decrease in non-interest expense are discussed in detail
below.





NET
INTEREST INCOME





DNB's
earnings performance is primarily dependent upon its level of net interest
income, which is the excess of interest income over interest
expense.  Interest income includes interest earned on loans,
investments and federal funds sold and interest-earning cash, as well as loan
fees and dividend income earned on investment securities.  Interest
expense includes interest on deposits, FHLB advances, repurchase agreements,
Federal funds purchased and other borrowings.





Net
interest income after provision for credit losses for the three and nine-month
periods ended September 30, 2009 was $3.7 million and $10.5 million, compared to
$3.3 million and $10.1 million for the same periods in 2008.  Interest
income for the three and nine-month periods ended September 30, 2009 was $6.7
million and $19.2 million compared to $7.2 million and $21.3 million for the
same periods in 2008.  The decrease in interest income was primarily
attributable to a decrease in interest and dividends on investment securities
due to lower yields.  In addition, interest on loans declined due to
higher levels of non-performing loans and lower yields due to lower market
rates. The yield on interest-earning assets for the three and nine-month periods
ended September 30, 2009 was 4.39% and 4.58%, compared to 5.37% and 5.56% for
the same periods in 2008.  Interest expense for the three and
nine-month periods ended September 30, 2009 was $2.8 million and $8.0 million
compared to $3.2 million and $10.0 million for the same periods in 2008. The
decrease in interest expense during both periods was primarily attributable to
lower rates on interest-bearing liabilities. The composite cost of funds for the
three and nine-month periods ended September 30, 2009 was 1.87% and 1.98%,
compared to 2.45% and 2.66% for the same periods in 2008.   The
net interest margin for the three and nine-month periods ended September 30,
2009 was 2.58% and 2.67%, compared 2.99% and 2.98%, for the same periods in
2008.





Interest
on loans and leases was $4.9 million and $14.3 million for the three and
nine-month periods ended September 30, 2009, compared to $5.1 million and $14.6
million for the same periods in 2008. The average balance of loans and leases
was $343.6 million with an average yield of 5.68% for the current quarter
compared to $330.4 million with an average yield of 6.06% for the same period in
2008.  The average balance of loans and leases was $335.8 million with
an average yield of 5.69% for the current nine months compared to $314.8 million
with an average yield of 6.18% for the same period in 2008.  The
decrease in yield during both periods was primarily the result of a declining
interest rate environment, coupled with an increase in non-performing loans as
discussed below.





Interest
and dividends on investment securities was $1.8 million and $4.8 million for the
three and nine-month periods ended September 30, 2009, compared to $2.0 million
and $6.3 million for the same periods in 2008.  The average balance of
investment securities was $221.7 million with an average yield of 3.26% for the
current quarter compared to $166.0 million with an average yield of 4.83% for
the same period in 2008.  The average balance of investment securities
was $182.1 million with an average yield of 3.57% for the current nine months
compared to $169.7 million with an average yield of 5.03% for the same period in
2008. The decrease in the yield during both periods was primarily the result of
a declining interest rate environment, coupled with the sales of certain higher
yielding securities.





Interest
on deposits was $1.8 million and $5.1 million for the three and nine-month
periods ended September 30, 2009, compared to $2.2 million and $6.9 million for
the same periods in 2008.   The average balance of deposits was
$495.5 million with an average rate of 1.45% for the current quarter compared to
$429.8 million with an average rate of 1.99% for the same period in
2008.    The average balance of deposits was $444.7 million
with an average rate of 1.54% for the nine months ended September 30, 2009
compared to $411.2 million with an average rate of 2.22% for the same period in
2008. The increase in the average balance during both periods was primarily the
result of year-over-year increased deposit relationships through aggressive
marketing and cross-selling efforts.  The decrease in rate during both
periods was primarily attributable to lower rates being paid on maturing time
deposits and certain money market accounts, stimulated by a lower interest rate
environment.





Interest
on borrowings was $958,000 and $2.9 million for the three and nine-month periods
ended September 30, 2009, compared to $1.0 million and $3.1 million for the same
periods in 2008. The average balance of borrowings was $94.1 million with an
average rate of 4.04% for the current quarter compared to $89.9 million with an
average rate of 4.62% for the same period in 2008.  The average
balance of borrowings was $97.6 million with an average rate of 3.96% for the
nine months ended September 30, 2009 compared to $87.2 million with an average
rate of 4.75% for the same period in 2008. The increase in the average balance
during the nine-months ended September 30, 2009 compared to the same period in
2008 was primarily attributable to a $6.3 million average increase in borrowings
from the Federal Reserve under their Term Auction Facility program as well as a
$2.9 million average increase in FHLB advances.  The decrease in rate
was attributable to a decrease in market rates.






25





PROVISION
FOR CREDIT LOSSES





To
provide for known and inherent losses in the loan and lease portfolios, DNB
maintains an allowance for credit losses. Provisions for credit losses are
charged against income to increase the allowance when necessary. Loan and lease
losses are charged directly against the allowance and recoveries on previously
charged-off loans and leases are added to the allowance. In establishing its
allowance for credit losses, management considers the size and risk exposure of
each segment of the loan and lease portfolio, past loss experience, present
indicators of risk such as delinquency rates, levels of non-accruals, the
potential for losses in future periods, and other relevant factors. Management’s
evaluation of the loan and lease portfolio generally includes reviews of problem
borrowers of $100,000 or greater. Consideration is also given to examinations
performed by regulatory agencies, primarily the Office of the Comptroller of the
Currency (“OCC”).





In
establishing and reviewing the allowance for adequacy, management establishes
the allowance for credit losses in accordance with generally accepted accounting
principles in the United States and the guidance provided in the Securities and
Exchange Commission’s Staff Accounting Bulletin 102 (SAB 102).  Its
methodology for assessing the appropriateness of the allowance consists of
several key elements which include: specific allowances for identified problem
loans; formula based allowances for commercial and commercial real estate loans;
and allowances for pooled, homogenous loans.  As a result, management
has taken into consideration factors and variables which may influence the risk
of loss within the loan portfolio, including: (i) trends in delinquency and
non-accrual loans; (ii) changes in the nature and volume of the loan portfolio;
(iii) effects of any changes in lending policies; (iv) experience, ability, and
depth of management; (v) quality of loan review; (vi) national and local
economic trends and conditions; (vii) concentrations of credit; and (viii)
effect of external factors on estimated credit losses.  In addition,
DNB reviews historical loss experience for the commercial real estate,
commercial, residential real estate, home equity and consumer installment loan
pools to determine a historical loss factor. The historical loss factors are
then applied to the current portfolio balances to determine the required reserve
percentage for each loan pool based on risk rating.





DNB’s
percentage of allowance for credit losses to total loans and leases was 1.47% at
September 30, 2009 compared to 1.36% at December 31, 2008.  Management
believes that the allowance for credit losses was adequate and reflects known
and inherent credit losses. During the nine months ended September 30, 2009, DNB
made a $700,000 provision for credit losses in conjunction with a $14.2
million  increase in loans and a $6.5 million increase in
non-performing loans.





The
following table summarizes the changes in the allowance for credit losses for
the periods indicated.





Nine
      Months Ended
              September
      30,
              2009
            
            Year
      Ended
              December
      31,
              2008
            
            Nine
      Months Ended
              September
      30,
              2008(Dollars
      in thousands)Beginning
      balance
            $4,586
            
            $3,891
            
            3,891Provisions
            700
            
            2,018
            
            1,241Charge-offs
            (163
            )
            (1,401
            )
            (405
            )Recoveries
            35
            
            78
            
            64Ending
      balance
            $5,158
            
            $4,586
            
            $4,791





NON-INTEREST INCOME





Total
non-interest income includes service charges on deposit products; fees received
in connection with the sale of non-depository products and services, including
fiduciary and investment advisory services offered through DNB Advisors;
securities brokerage products and services and insurance brokerage products and
services offered through DNB Financial Services; and other sources of income
such as increases in the cash surrender value of bank owned life insurance
("BOLI"), net gains on sales of investment securities and other real estate
owned ("OREO") properties. In addition, DNB receives fees for cash management,
merchant services, debit cards, safe deposit box rentals, lockbox services and
similar activities.





Non-interest
income for the three and nine-month periods ended September 30, 2009 was $1.1
million and $3.2 million, compared to $903,000 and $3.5 million for the same
periods in 2008.  The $157,000 increase during the three months ended
September 30, 2009 was mainly attributable to a $246,000 increase in gains on
sales of securities. Gains on sales of securities were $273,000 for the three
month period ended September 30, 2009 compared to $27,000 for the same period in
2008. The $287,000 decrease during the nine months ended September 30, 2009 was
mainly attributable to a $207,000 decrease in wealth management income and an
$82,000 decrease in service charges on deposits.






26





NON-INTEREST
EXPENSE





Non-interest
expense includes salaries and employee benefits, furniture and equipment,
occupancy, professional and consulting fees as well as printing and supplies,
marketing, FDIC insurance and other less significant expense
items.  Non-interest expense for the three and nine-month periods
ended September 30, 2009 was $3.9 million and $12.4 million compared to $4.0
million and $12.5 million for the same periods in 2008.  During the
three months ended September 30, 2009, salary and employee benefits decreased
$203,000 due to a lower level of full time equivalent employees, coupled with
lower benefit costs, furniture and equipment decreased $32,000 and advertising
and marketing decreased $31,000. This was offset by an increase in other
non-interest expense due mainly to an $119,000 increase in FDIC insurance
expense due to increased FDIC insurance premiums. During the nine months ended
September 30, 2009 non-interest expense decreased $77,000 or .62%. This decrease
was attributable to decreases of $720,000 in salary and employee benefits due to
a lower level of full time equivalent employees, coupled with lower benefit
costs, $127,000 in advertising and marketing, $106,000 in furniture and
equipment and $55,000 in printing and supplies. This was offset by increases of
$604,000 in FDIC insurance due mainly to a FDIC special assessment and increased
FDIC insurance premiums, $186,000 in other non-interest expense, $98,000 in
professional and consulting as well as $43,000 in occupancy. For the nine-months
ended September 30, 2009 and 2008, DNB’s non-interest expense to average assets
ratio was 2.82% and 3.10%, respectively.





INCOME
TAXES





Income
tax expense (benefit) for the three and nine-month periods ended September 30,
2009 was $184,000 and $222,000 compared to ($65,000) and $140,000 for the same
periods in 2008. The effective tax rate for the three and nine-month periods
ended September 30, 2009 was 22.5% and 17.1% respectively, compared to (48.5%)
and 11.9% for the same periods in 2008. Income tax expense for each period
differs from the amount determined at the statutory rate of 34% due to
tax-exempt income on loans and investment securities, DNB's ownership of BOLI
policies, and tax credits recognized on a low-income housing limited
partnership.





ASSET
QUALITY





Non-performing
assets are comprised of non-accrual loans and leases, loans and leases
delinquent over ninety days and still accruing, troubled debt
restructurings ("TDRs")and Other Real Estate Owned
("OREO").  Non-accrual loans and leases are loans and leases for which
the accrual of interest ceases when the collection of principal or interest
payments is determined to be doubtful by management.  It is the policy
of DNB to discontinue the accrual of interest when principal or interest
payments are delinquent 90 days or more (unless the loan principal and interest
are determined by management to be fully secured and in the process of
collection), or earlier if considered prudent. Interest received on such loans
is applied to the principal balance, or may, in some instances, be recognized as
income on a cash basis.  A non-accrual loan or lease may be restored
to accrual status when management expects to collect all contractual principal
and interest due and the borrower has demonstrated a sustained period of
repayment performance in accordance with the contractual terms.  OREO
consists of real estate acquired by foreclosure.  OREO is carried at
the lower of cost or estimated fair value, less estimated disposition
costs.  Any significant change in the level of non-performing assets
is dependent, to a large extent, on the economic climate within DNB's market
area.





The
following table sets forth those assets that are: (i) placed on non-accrual
status, (ii) contractually delinquent by 90 days or more and still
accruing, (iii) troubled debt restructurings other than those included in
items (i) and (ii), and (iv) OREO as a result of foreclosure or
voluntary transfer to DNB as well as other repossessed assets.





Non-Performing
      Assets(Dollars
      in thousands)
            
            September
      30,
              2009
            
            December
      31,
              2008
            
            September
      30,
              2008Loans
      and leases:Non-accrual
            
            $     9,183
            
            $   1,825
            
            $     6,96390
      days past due and still accruing
            
            40
            
            900
            
            391Troubled
      debt restructurings
            
            —
            
            —
            
            —Total
      non-performing loans and leases
            
            9,223
            
            2,725
            
            7,354OREO
      and other repossessed property
            
            4,610
            
            4,997
            
            527Total
      non-performing assets
            
            $  13,833
            
            $    7,722
            
            $  7,881





Non-performing
assets, which totaled $13.8 million at September 30, 2009, increased $6.1
million when compared to December 31, 2008. The increase in non-performing
assets is attributed largely to two commercial credits secured by land, totaling
$3.4 million and nine residential mortgages amounting to $3.5
million. The following table sets forth DNB's asset quality and allowance
coverage ratios at the dates indicated:








27





September
      30,
              2009
            December
      31,
              2008
            September
      30,
              2008Asset
      quality ratios:Non-performing loans to total
      loans
            
            2.63
            %
            0.81
            %
            2.14
            %Non-performing assets to total
      assets
            
            2.16
            
            1.45
            
            1.43Allowance
      for credit losses to:Total loans and
      leases
            
            1.47
            
            1.36
            
            1.40Non-performing loans and
      leases
            
            55.93
            
            168.29
            
            65.14





Included in the loan and lease portfolio are loans
for which DNB has ceased the accrual of interest.  If contractual
interest income had been recorded on non-accrual loans, interest would have been
increased as shown in the following table:





Nine
      Months Ended
            Year
      Ended
            Three
      Months Ended(Dollars
      in thousands)
            September
      30,
              2009
            December
      31,
              2008
            September
      30,
              2008Interest
      income which would have beenrecorded under original
      terms
            $   390
            
            $  121
            
            $   354Interest
      income recorded during the period
            (72)
            
            (58)
            
            (31
            )Net
      impact on interest income
            $   318
            
            $   63
            
            $   323





Impaired loans are
measured for impairment using the fair value of the collateral for collateral
dependent loans.At December 31, 2008 the average recorded investment is
higher than the total recorded investment in the table below due primarily to
the transfer of loans to OREO totaling approximately $5.0 million during
2008, the majority being moved during the fourth quarter. Information regarding
impaired loans is presented as follows:





Nine
      Months Ended
            Year
      Ended
            Nine
      Months Ended(Dollars
      in thousands)
            September
      30,
              2009
            December
      31,
              2008
            September
      30,
              2008Total
      recorded investment
            $  9,183
            
            $1,163
            
            $  5,821Average
      recorded investment
            7,538
            
            6,236
            
            7,926Specific
      allowance allocation
            448
            
            120
            
            485Total
      cash collected
            489
            
            313
            
            313Interest
      income recorded
            41
            
            108
            
            108





LIQUIDITY
AND CAPITAL RESOURCES





Management maintains liquidity to meet
depositors’ needs for funds, to satisfy or fund loan commitments, and for other
operating purposes.  DNB’s foundation for liquidity is a stable and
loyal customer deposit base, cash and cash equivalents, and a marketable
investment portfolio that provides periodic cash flow through regular maturities
and amortization, or that can be used as collateral to secure
funding.  As part of its liquidity management, DNB maintains assets
that comprise its primary liquidity, which totaled $79.3 million at
September 30, 2009.  Primary liquidity includes investments, Federal
funds sold, and interest-bearing cash balances, less pledged
securities.  DNB also anticipates scheduled payments and prepayments
on its loan and mortgage-backed securities portfolios.  In addition,
DNB maintains borrowing arrangements with various correspondent banks, the
Federal Home Loan Bank of Pittsburgh and the Federal Reserve Bank of
Philadelphia to meet short-term liquidity needs.  Through these
relationships, DNB has available credit of approximately $108.1
million.  Management believes that DNB has adequate resources to meet
its short-term and long-term funding requirements.





At
September 30, 2009, DNB had $50.4 million in un-funded loan
commitments.  Management anticipates these commitments will be funded
by means of normal cash flows.  Certificates of deposit greater than
or equal to $100,000 scheduled to mature in one year or less from September 30,
2009 totaled $78.4 million. Management believes that the majority of such
deposits will be reinvested with DNB and that certificates that are not renewed
will be funded by a reduction in Federal funds sold or by pay-downs and
maturities of loans and investments.





The
Corporation and the Bank have each met the definition of “well capitalized” for
regulatory purposes on September 30, 2009.  The Bank’s capital
category is determined for the purposes of applying the bank regulators’ “prompt
corrective action” regulations and for determining levels of deposit insurance
assessments and may not constitute an accurate representation of the
Corporation’s or the Bank’s overall financial condition or prospects. The
Corporation’s capital exceeds the FRB’s minimum lever­age ratio requirements
for bank holding companies (see additional discussion included in Footnote
17 of DNB’s 10-K).






28





Under
federal banking laws and regulations, DNB and the Bank are required to maintain
minimum capital as determined by certain regulatory ratios. Capital adequacy for
regulatory purposes, and the capital category assigned to an institution by its
regulators, may be determinative of an institution’s overall financial
condition.





The
following table summarizes data and ratios pertaining to the Corporation and the
Bank's capital structure.


For
      Capital
            To
      Be Well Capitalized Under Prompt CorrectiveActual
            Adequacy
      Purposes
            Action
      Provisions(Dollars
      in thousands)
            Amount
            
            Ratio
            
            Amount
            
            Ratio
            
            Amount
            
            RatioDNB
      Financial CorporationSeptember
      30, 2009:Total risk-based
      capital
            $57,817
            
            14.24
            %
            $32,480
            
            8.00
            %
            N/A
            
            N/ATier 1 capital
            52,747
            
            12.99
            
            16,240
            
            4.00
            
            N/A
            
            N/ATier 1 (leverage)
      capital
            52,747
            
            8.30
            
            25,412
            
            4.00
            
            N/A
            
            N/ADecember
      31, 2008:Total risk-based
      capital
            $45,516
            
            12.02
            %
            $30,306
            
            8.00
            %
            N/A
            
            N/ATier 1 capital
            40,802
            
            10.77
            
            15,153
            
            4.00
            
            N/A
            
            N/ATier 1 (leverage)
      capital
            40,802
            
            7.46
            
            21,882
            
            4.00
            
            N/A
            
            N/ADNB
      First, N.A.September
      30, 2009:Total risk-based
      capital
            $56,749
            
            14.00
            %
            $32,433
            
            8.00
            %
            $40,542
            
            10.00
            %Tier 1 capital
            51,679
            
            12.75
            
            16,217
            
            4.00
            
            24,325
            
            6.00Tier 1 (leverage)
      capital
            51,679
            
            8.14
            
            25,385
            
            4.00
            
            31,731
            
            5.00December
      31, 2008:Total risk-based
      capital
            $45,378
            
            12.00
            %
            $30,257
            
            8.00
            %
            $37,822
            
            10.00
            %Tier 1 capital
            40,654
            
            10.75
            
            15,129
            
            4.00
            
            22,693
            
            6.00Tier 1 (leverage)
      capital
            40,654
            
            7.44
            
            21,862
            
            4.00
            
            27,328
            
            5.00





In
addition, the Federal Reserve Bank (the "FRB") leverage ratio rules require bank
holding companies to maintain a minimum level of "primary capital" to total
assets of 5.5% and a minimum level of "total capital" to total assets of
6%.  For this purpose, (i) "primary capital" includes, among other
items, common stock, certain perpetual debt instruments such as eligible Trust
preferred securities, contingency and other capital reserves, and the allowance
for loan losses, (ii) "total capital" includes, among other things, certain
subordinated debt, and "total assets" is increased by the allowance for loan
losses.  DNB's primary capital ratio and its total capital ratio are
both well in excess of FRB requirements.





REGULATORY
MATTERS





Dividends
payable to the Corporation by the Bank are subject to certain regulatory
limitations. Under normal circumstances, the payment of dividends in any year
without regulatory permission is limited to the net profits (as defined for
regulatory purposes) for that year, plus the retained net profits for the
preceding two calendar years.





FORWARD-LOOKING
STATEMENTS





DNB
Financial Corp. (the “Corporation”), may from time to time make written or oral
“forward-looking statements,” including statements contained in the
Corporation’s filings with the Securities and Exchange Commission (including
this Quarterly Report on Form 10-Q and the exhibits hereto and thereto), in
its reports to shareholders and in other communications by the Corporation,
which are made in good faith by the Corporation pursuant to the “safe harbor”
provisions of the Private Securities Litigation Reform Act of 1995.





These
forward-looking statements include statements with respect to the Corporation’s
beliefs, plans, objectives, goals, expectations, anticipations, estimates and
intentions, that are subject to significant risks and uncertainties, and are
subject to change based on various factors (some of which are beyond the
Corporation’s control).  The words “may,” “could,” “should,” “would,”
“believe,” “anticipate,” “estimate,” “expect,” “intend,” “plan” and similar
expressions are intended to identify forward-looking statements.  The
following factors, among others, could cause the Corporation’s financial
performance to differ materially from the plans, objectives, expectations,
estimates and intentions expressed in such forward-looking statements: the
strength of the United States economy in general and the strength of the local
economies in which the Corporation conducts operations; the effects of, and
changes in, trade, monetary and fiscal policies and laws, including interest
rate policies of the Board of Governors of the Federal Reserve System;
inflation, interest rate, market and monetary fluctuations; the timely
development of and acceptance of new products and services of the Corporation
and the perceived overall value of these products and services by users,
including the features, pricing and quality compared to competitors’ products
and services; the willingness of users to substitute competitors’ products and
services for the Corporation’s products and services; the success of the
Corporation in gaining regulatory approval of its products and services, when
required; the impact of changes in laws and regulations applicable to financial
institutions (including laws concerning taxes, banking, securities and
insurance); technological changes; acquisitions; changes in consumer spending
and saving habits; the nature, extent, and timing of governmental actions and
reforms, including the rules of participation for the Trouble Asset Relief
Program voluntary Capital Purchase Program under the Emergency Economic
Stabilization Act of 2008, which may be changed unilaterally and retroactively
by legislative or regulatory actions; and the success of the Corporation at
managing the risks involved in the foregoing.









29




The
Corporation cautions that the foregoing list of important factors is not
exclusive.  Readers are also cautioned not to place undue reliance on these
forward-looking statements, which reflect management’s analysis only as of the
date of this report, even if subsequently made available by the Corporation on
its website or otherwise.  The Corporation does not undertake to update any
forward-looking statement, whether written or oral, that may be made from time
to time by or on behalf of the Corporation to reflect events or circumstances
occurring after the date of this report.





For a
complete discussion of the assumptions, risks and uncertainties related to our
business, you are encouraged to review our filings with the Securities and
Exchange Commission, including this Form 10-Q, as well as any changes in
risk factors that we may identify in our quarterly or other reports filed with
the SEC.





ITEM 3 - QUANTITATIVE AND
QUALITATIVE DISCLOSURES ABOUT MARKET RISK





To
measure the impacts of longer-term asset and liability mismatches beyond two
years, DNB utilizes an Economic Value of Equity ("EVE") model.  The
EVE model measures the potential price risk of equity to changes in interest
rates and factors in the optionality included on the balance
sheet.  EVE analysis is used to dynamically model the present value of
asset and liability cash flows, with rates ranging up or down 200 basis
points.  The EVE is likely to be different if rates
change.  Results falling outside prescribed policy ranges require
action by management. At September 30, 2009 and December 31, 2008, DNB's
variance in the EVE as a percentage of assets with an instantaneous and
sustained parallel shift of 200 basis points was within its negative 3%
guideline, as shown in the table below.  The change as a percentage of
the present value of equity with a 200 basis point increase or decrease at
September 30, 2009 and December 31, 2008, was within DNB's negative 25%
guideline.







(Dollars in thousands)
            September
      30, 2009
            
            December
      31, 2008Change
      in rates
            Flat
            
            -200bp
            
            +200bp
            
            Flat
            
            -200bp
            
            +200bpEVE
            41,341
            
            $43,730
            
            $33,007
            
            $29,196
            
            $30,554
            
            $25,831Change
            
            
            2,389
            
            (8,334
            )
            
            
            1,358
            
            (3,365
            )Change
      as a percent of assets
            
            
            .4%
            
            (1.3%
            )
            
            
            0.3%
            
            (0.6%
            )Change
      as a percent of PV equity
            
            
            5.8%
            
            (20.2%
            )
            
            
            4.7%
            
            (11.5%
            )





ITEM 4T- CONTROLS AND
PROCEDURES





DNB’s
Chief Executive Officer and Chief Financial Officer have reviewed and evaluated
the effectiveness of our disclosure controls and procedures (as defined in
Exchange Act Rule 13a-15(e)) as of September 30, 2009, the end of the period
covered by this report, in accordance with the requirements of Exchange Act Rule
240.13a-15(b). Based on that evaluation, the Chief Executive Officer and the
Chief Financial Officer have concluded that DNB’s current disclosure controls
and procedures are effective and timely, providing them with material
information relating to DNB and its subsidiaries required to be disclosed in the
report DNB files under the Exchange Act.





Management
of DNB is responsible for establishing and maintaining adequate internal control
over financial reporting for DNB, as such term is defined in Rule 13a-15(f)
under the Securities Exchange Act of 1934.  There was no change in the
DNB’s “internal control over financial reporting” (as such term is defined in
Rule 13a-15(f) under the Exchange Act) that occurred during the fiscal quarter
ended September 30, 2009, that has materially affected, or is reasonably likely
to materially affect, DNB’s internal control over financial
reporting.








30








PART II - OTHER INFORMATION





ITEM 1. LEGAL
PROCEEDINGS





Not
Applicable





ITEM 1A. RISK
FACTORS





There
have been no material changes to the Risk Factors previously disclosed in
Registrant's Annual Report on Form 10-K for its fiscal year ended December 31,
2008, filed with the Commission on March 31, 2009 (File No.
000-16667).





ITEM 2. UNREGISTERED SALES
OF EQUITY SECURITIES AND USE OF PROCEEDS





There
were no Unregistered Sales of Equity Securities during the quarter ended
September 30, 2009.  The following table provides information on
repurchases by DNB of its common stock in each month of the quarter ended
September 30, 2009:





Period
            
            Total Number
              Of
      Shares Purchased
            
            Average
              Price
      Paid
              Per
      Share
            
            Total Number of
              Shares Purchased
              as Part of Publicly
              Announced Plans
              or Programs
            
            Maximum Number
              of Shares that May
              Yet Be Purchased
              Under the Plans or
              Programs (a)July
      1, 2009 – July 31, 2009
            
            —
            
            $   —
            
            —
            
            63,116August
      1, 2009 – August 31, 2009
            
            —
            
            $   —
            
            —
            
            63,116September
      1, 2009 – September 30, 2009
            
            —
            
            $   —
            
            —
            
            63,116Total
            
            —
            
            $—
            
            —







On July 25, 2001, DNB authorized the
buyback of up to 175,000 shares of its common stock over an indefinite period.
On August 27, 2004, DNB increased the buyback from 175,000 to 325,000 shares of
its common stock over an indefinite period.







ITEM 3. DEFAULTS UPON SENIOR
SECURITIES





Not
Applicable





ITEM 4. SUBMISSION OF
MATTERS TO A VOTE OF SECURITY HOLDERS





Not
Applicable





ITEM 5. OTHER
INFORMATION





Not
Applicable





ITEM 6.
EXHIBITS





Exhibits
required by Item 601 of Regulation S-K.





The
exhibits listed on the Index to Exhibits on pages 33-35 of this report are
incorporated by reference or filed or furnished herewith in response to this
Item.








31






Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized.





DNB
      FINANCIAL CORPORATIONNovember
      13, 2009
            BY:
            /s/
      William S. LatoffWilliam
      S. Latoff, Chairman of the
              Board
      and Chief Executive OfficerNovember
      13, 2009
            BY:
            /s/
      Gerald F. SoppGerald
      F. Sopp, Chief Financial Officer and Executive Vice
    President



















32





Index to
Exhibits




Exhibit
      No.
                Under
      Item 601
                of
      Regulation S-K
            Description of Exhibit and Filing
      Information3
            (i)
            Amended
      and Restated Articles of Incorporation, as amended effective
      December 8, 2008, filed March 31, 2009 as item 3(i) to
      Form 10-K for the fiscal year-ended December 31, 2008
      (No. 0-16667) and incorporated herein by
reference.(ii)
            Bylaws
      of the Registrant as amended December 8, 2008, filed March 31,
      2009 as item 3(ii) to Form 10-K for the fiscal year-ended
      December 31, 2008 (No. 0-16667) and incorporated herein by
      reference.(iii)
            Certificate
      of Designations of Fixed Rate Cumulative Preferred Stock, Series 2008A of
      DNB Financial Corporation, filed as Exhibit 4.3 to Form 8-K (No. 016667)
      on January 26, 2009 and incorporated herein by
  reference.4
            (a)
            Registrant
      has certain debt obligations outstanding, for none of which do the
      instruments defining holders rights authorize an amount of securities in
      excess of 10% of the total assets of the Registrant and its subsidiaries
      on a consolidated basis. Registrant agrees to furnish copies of such
      agreements to the Commission on request.(b)
            Form
      of Preferred Stock Certificate to the United States Department of the
      Treasury, filed as Exhibit 4.4 to Form 8-K (No. 016667) on January 30,
      2009 and incorporated herein by reference.(c)
            Form
      of Warrant to Purchase Common Stock to the United States Department of the
      Treasury, filed as Exhibit 4.5 to Form 8-K (No. 016667) on January 30,
      2009 and incorporated herein by reference.10
            (a)*
            Amended
      and Restated Change of Control Agreements dated December 20, 2006
      between DNB Financial Corporation and DNB First, N.A. and the following
      executive officers, each in the form filed March 26, 2007 as
      item 10(a) to Form 10-K for the fiscal year-ended
      December 31, 2006 (No. 0-16667) and incorporated herein by
      reference: Bruce E. Moroney, C. Tomlinson Kline III, and Richard J.
      Hartmann.(b)**
            1995
      Stock Option Plan of DNB Financial Corporation (as amended and restated,
      effective as of April 27, 2004), filed on March 29, 2004 as
      Appendix A to Registrant’s Proxy Statement for its Annual Meeting of
      Stockholders held April 27, 2004, and incorporated herein by
      reference.(c)*
            Form
      of waiver signed by William S. Latoff, William J. Hieb, Gerald F. Sopp,
      Bruce E. Moroney and Albert J. Melfi, Jr., each dated January 30, 2009,
      with respect to U.S. Treasury TARP Capital Purchase Program, filed as
      Exhibit 4.6 to Form 8-K (No. 016667) on January 30, 2009 and incorporated
      herein by reference.(d)**
            DNB
      Financial Corporation Incentive Equity and Deferred Compensation Plan
      filed March 10, 2005 as item 10(i) to Form 10-K for the
      fiscal year-ended December 31, 2004 (No. 0-16667) and
      incorporated herein by reference.(e)*
            Amended
      and Restated Change of Control Agreement among DNB Financial Corporation,
      DNB First, N.A. and William S. Latoff, dated December 20, 2006, filed
      March 26, 2007 as item 10(e) to Form 10-K for the fiscal
      year-ended December 31, 2006 (No. 0-16667) and incorporated
      herein by reference.(f)*
            Agreement
      of Lease dated February 10, 2005 between Headwaters Associates, a
      Pennsylvania general partnership, as Lessor, and DNB First, National
      Association as Lessee for a portion of premises at 2 North Church Street,
      West Chester, Pennsylvania, filed March 10, 2005 as Item 10(l)
      to Form 10-K for the fiscal year ended December 31, 2004
      (No. 0-16667) and incorporated herein by reference, as amended by
      Addendum to Agreement of Lease dated as of November 15, 2005, filed
      March 23, 2006 as Item 10(l) to Form 10-K for the fiscal
      year ended December 31, 2005 (No. 0-16667) and incorporated
      herein by reference, and as further amended by Second Addendum to
      Agreement of Lease dated as of May 25, 2006, filed August 14,
      2006 as Item 10(l) to Form 10-Q for the fiscal quarter ended
      June 30, 2006 (No. 0-16667) and incorporated herein by
      reference.(g)
            Marketing
      Services Agreement between TSG, Inc., a Pennsylvania business
      corporation (the “Service Provider”) for which Eli Silberman, a Director
      of Registrant, is the President and owner dated December 17, 2008,
      filed March 31, 2009 as item 10(g) to Form 10-K for the
      fiscal year-ended December 31, 2008 (No. 0-16667) and
      incorporated herein by reference.   33
   (h)**
            Form
      of Stock Option Agreement for grants prior to 2005 under the Registrant’s
      Stock Option Plan, filed May 11, 2005 as Item 10(n) to
      Form 10-Q for the fiscal quarter ended March 31, 2005
      (No. 0-16667) and incorporated herein by
reference.(i)**
            Form
      of Nonqualified Stock Option Agreement for April 18, 2005 and
      subsequent grants under the Stock Option Plan, filed May 11, 2005 as
      Item 10(o) to Form 10-Q for the fiscal quarter ended
      March 31, 2005 (No. 0-16667) and incorporated herein by
      reference.(j)
            Agreement
      of Sale dated June 1, 2005 between DNB First, National Association
      (the “Bank”), as seller, and Papermill Brandywine Company, LLC, a
      Pennsylvania limited liability company, as buyer (“Buyer”) with respect to
      the sale of the Bank’s operations center and an adjunct administrative
      office (the “Property”) and accompanying (i) Agreement of Lease
      between the Buyer as landlord and the Bank as tenant, pursuant to which
      the Property will be leased back to the Bank, and (ii) Parking
      Easement Agreement to provide cross easements with respect to the
      Property, the Buyer’s other adjoining property and the Bank’s other
      adjoining property, filed August 15, 2005 as Item 10(p) to
      Form 10-Q for the fiscal quarter ended June 30, 2005
      (No. 0-16667) and incorporated herein by
reference.(k)
            Agreement
      of Lease dated November 18, 2005 between Papermill Brandywine
      Company, LLC, a Pennsylvania limited liability company (“Papermill”),
      as Lessor, and DNB First, National Association as Lessee for the banks
      operations center and adjunct administrative office, filed March 23,
      2006 as Item 10(q) to Form 10-K for the fiscal year ended
      December 31, 2005 (No. 0-16667) and incorporated herein by
      reference.(l)*
            Amended
      and Restated Change of Control Agreement among DNB Financial Corporation,
      DNB First, N.A. and William J. Hieb, filed May 15, 2007 as
      Item 10(l) to Form 10-Q for the fiscal quarter ended
      March 31, 2007 (No. 0-16667) and incorporated herein by
      reference.(m)**
            Form
      of Nonqualified Stock Option Agreement for grants on and after
      December 22, 2005 under the Stock Option Plan, filed March 23,
      2006 as Item 10(s) to Form 10-K for the fiscal year ended
      December 31, 2005 (No. 0-16667) and incorporated herein by
      reference.(n)*
            Deferred
      Compensation Plan For Directors of DNB Financial Corporation (adopted
      effective October 1, 2006), filed November 14, 2006 as
      Item 10(s) to Form 10-Q for the fiscal quarter ended
      September 30, 2006 (No. 0-16667) and incorporated herein by
      reference.(o)*
            DNB
      Financial Corporation Deferred Compensation Plan (adopted effective
      October 1, 2006), filed November 14, 2006 as Item 10(t) to
      Form 10-Q for the fiscal quarter ended September 30, 2006
      (No. 0-16667) and incorporated herein by
reference.(p)*
            Trust
      Agreement, effective as of October 1, 2006, between DNB Financial
      Corporation and DNB First, National Association (Deferred Compensation
      Plan), filed November 14, 2006 as Item 10(u) to Form 10-Q
      for the fiscal quarter ended September 30, 2006 (No. 0-16667)
      and incorporated herein by reference.(q)*
            Change
      of Control Agreements among DNB Financial Corporation, DNB First, N.A. and
      each of the following executive officers, each in the form filed
      March 26, 2007 as item 10(q) to Form 10-K for the fiscal
      year-ended December 31, 2006 (No. 0-16667) and incorporated
      herein by reference: Albert J. Melfi, Jr. and Gerald F.
    Sopp.(r)*
            DNB
      Financial Corporation Supplemental Executive Retirement Plan for William
      S. Latoff as amended and restated effective April 1, 2007, filed
      May 15, 2007 as Item 10(r) to Form 10-Q for the fiscal
      quarter ended March 31, 2007 (No. 0-16667) and incorporated
      herein by reference, as further amended by Amendment dated
      December 8, 2008, filed March 31, 2009 as item 3(r) to
      Form 10-K for the fiscal year-ended December 31, 2008
      (No. 0-16667) and incorporated herein by
reference.(s)*
            Trust
      Agreement effective as of December 20, 2006 between DNB Financial
      Corporation and DNB First, N.A. (William S. Latoff SERP), filed
      March 26, 2007 as item 10(s) to Form 10-K for the fiscal
      year-ended December 31, 2006 (No. 0-16667) and incorporated
      herein by reference, as modified by Agreement to Terminate Trust dated as
      of April 1, 2007, filed May 15, 2007 as Item 10(s) to
      Form 10-Q for the fiscal quarter ended March 31, 2007
      (No. 0-16667) and incorporated herein by
reference.(t)*
            DNB
      Offer Letter to Albert J. Melfi, Jr., dated November 10, 2006, filed
      March 26, 2005 as item 10(t) to Form 10-K for the fiscal
      year-ended December 31, 2006 (No. 0-16667) and incorporated
      herein by reference.(u)*
            DNB
      Offer Letter to Gerald F. Sopp, dated December 20, 2006, filed
      March 26, 2007 as item 10(u) to Form 10-K for the fiscal
      year-ended December 31, 2006 (No. 0-16667) and incorporated
      herein by reference.   34
   (v)**
            Form
      of Restricted Stock Award Agreement dated November, 28, 2007, filed
      March 28, 2008 as item 10(v) to Form 10-K for the fiscal
      year-ended December 31, 2007 (No. 0-16667) and incorporated
      herein by reference.11
            
            Registrant’s
      Statement of Computation of Earnings Per Share is incorporated in footnote
      2.31.1
            
            Rule 13a-14(a)/15d-14
      (a) Certification of Chief Executive Officer, filed
      herewith.31.2
            
            Rule 13a-14(a)/15d-14
      (a) Certification of Chief Financial Officer, filed
      herewith.32.1
            
            Section 1350
      Certification of Chief Executive Officer, filed
  herewith.32.2
            
            Section 1350
      Certification of Chief Financial Officer, filed
  herewith.*
            Management
      contract or compensatory plan arrangement.**
            Shareholder
      approved compensatory plan pursuant to which the Registrant’s Common Stock
      may be issued to employees of the
Corporation.