**Exhibit
      13.1**














**Sterling
      Bank**





Financial
      Report


December
      31, 2006






















McGladrey
              & Pullen, LLP is a member firm of RSM International -
 an
              affiliation of separate and independent legal entities.





**Contents**








Management’s
                Discussion and Analysis
            3Report
                of Independent Registered Public Accounting Firm
            17Financial
                StatementsBalance
                Sheets
            18Statements
                of Operations
            20Statements
                of Shareholders’ Equity
            21Statements
                of Cash Flows
            22Notes
                to Financial Statements
            23
















**MANAGEMENT** **’** **S
      DISCUSSION AND ANALYSIS OF**


**FINANCIAL
      CONDITION AND RESULTS OF OPERATIONS**







The
      following discussion focuses on the major components of the Bank’s operations.
      This discussion should be read in conjunction with the financial statements
      and
      accompanying notes included in this Annual Report.




We
      are a
      community bank headquartered in Burlington County, New Jersey, with assets
      of
      $337.2 million as of December 31, 2006. Our main office is located in Mount
      Laurel, New Jersey and its six other Community Banking Centers are located
      in
      Burlington and Camden Counties, New Jersey. We believe that this geographic
      area
      represents a stable and attractive banking market with a diversified and
      expanding economy. We began operations in December 1990 with the purpose of
      serving consumers and small to medium-sized businesses in our market area.
      We
      have chosen to focus on the higher growth areas of western Burlington County
      and
      eastern Camden County. We believe that understanding the character and nature
      of
      the local communities that it serves, and having first-hand knowledge of
      customers and their needs for financial services enable it to compete
      effectively and efficiently.




Our
      principal source of revenue is net interest income, which is the difference
      between the interest income from our earning assets and the interest expense
      of
      our deposits and borrowings. Interest-earning assets consist principally of
      loans, investment securities and federal funds sold, while our interest-bearing
      liabilities consist primarily of deposits. Our net income is also affected
      by
      our provision for loan losses, noninterest income and noninterest expenses,
      which include salaries, benefits, occupancy costs and charges relating to
      non-performing and other classified assets.




Sterling
      Banks, Inc. (the “Holding Company”) is the successor to the Bank pursuant to the
      Plan of Reorganization by and between the Holding Company and the Bank that
      was
      completed on March 16, 2007, whereby the Bank became a wholly-owned subsidiary
      of the Holding Company. Additionally, on March 16, 2007, the Bank, the Holding
      Company and Farnsworth Bancorp, Inc. (“Farnsworth”) completed the merger (the
“Merger”) in which Farnsworth merged with and into the Holding Company, with the
      Holding Company as the surviving corporation. Subsequent to the Merger, Peoples
      Savings Bank, a wholly-owned subsidiary of Farnsworth, was merged with and
      into
      the Bank, with the Bank as the surviving Bank. All information contained herein
      represents solely the financial information of the Bank. All references to
“we,”
"us," "our," and “ours” and similar terms in this report refer to the
      Bank.




**Critical
      Accounting Policies**





*Allowance
      for Losses on Loans*





The
      allowance for losses on loans is based on management’s ongoing evaluation of the
      loan portfolio and reflects an amount considered by management to be its best
      estimate of probable losses inherent in the portfolio. Management considers
      a
      variety of factors when establishing the allowance, such as the impact of
      current market conditions, diversification of the loan portfolio, delinquency
      statistics, results of loan review and related classifications, and historic
      loss rates. In addition, certain individual loans that management has identified
      as problematic are specifically provided for in the allowance, based upon an
      evaluation of the borrower’s perceived ability to pay, the estimated adequacy of
      the underlying collateral and other relevant factors. Consideration is also
      given to examinations performed by regulatory agencies. Although provisions
      have
      been established and segmented by type of loan based upon management’s
      assessment of the loss characteristics inherent in each type, the entire
      allowance for losses on loans is available to absorb loan losses in any
      category.






3





Management
      performs a detailed analysis to determine the allowance for loan losses. Since
      the allowance for loan losses is dependent, to a great extent, on conditions
      that may be beyond our control, it is possible that management’s estimate of the
      allowance for loan losses and actual results could differ materially in the
      near
      future.





In
      addition, regulatory authorities, as an integral part of their examinations,
      periodically review the allowance for loan losses. They may require additions
      to
      the allowance based upon their judgments about information available to them
      at
      the time of the examination.




**Results
      of Operations for the Years Ended December 31, 200** **6
      and 2005**





*Net
      Income*





Net
      income decreased $893,000, or 54.8%, to $738,000 for the year ended December
      31,
      2006 compared to $1,631,000 for the year ended December 31, 2005. The decrease
      in earnings was mainly the result of increased expenses related to the expansion
      of the Bank’s retail system, a decline in loans held for sale associated with
      the national student loan program, and an increase in the provision for loan
      losses. Earnings per share (basic) decreased $0.24 per share, or 61.5%, to
      $0.15
      per share for the year ended December 31, 2006 compared to $0.39 per share
      for
      the year ended December 31, 2005. Earnings per share (diluted) decreased $0.23
      per share, or 60.5%, to $0.15 per share for the year ended December 31, 2006
      compared to $0.38 per share for the year ended December 31, 2005.




*Net
      Interest Income and Average Balances*





Net
      interest income after the provision for loan losses decreased $106,000, or
      0.9%,
      to $11.6 million for the year ended December 31, 2006 from $11.7 million for
      the
      year ended December 31, 2005. The provision for loan losses increased $321,000
      to $605,000 for the year ended December 31, 2006 from $284,000 for the year
      ended December 31, 2005. The net interest margin decreased to 3.71% for the
      year
      ended December 31, 2006 from 3.86% for the year ended December 31, 2005. The
      decrease in the net interest margin reflects the Federal Reserve continued
      tightening of monetary policy and a decline in the Bank’s loan portfolio,
      specifically in loans held for sale. Yield on interest-earning assets increased
      to 6.87% for the year ended December 31, 2006 from 6.16% for the year ended
      December 31, 2005. The average cost of interest-bearing liabilities increased
      to
      3.73% for the year ended December 31, 2006 compared to 2.71% for the year ended
      December 31, 2005.









4




The
      following table presents a summary of the principal components of average
      balances, yields and rates for the periods indicated:


Year
                  Ended December 31,2006
              
              2005Average
              
              
              
              Average
              
              Average
              
              
              
              AverageBalance
              
              Interest
              
              Rate
              
              Balance
              
              Interest
              
              RateAssets**Loans,
                  net (1)
              
              $
              254,008,000
              
              $
              19,430,000
              
              
              7.65
              %
              $
              240,060,000
              
              $
              16,505,000
              
              
              6.88
              %Investment
                  securities (2)
              
              
              60,436,000
              
              
              2,410,000
              
              
              3.99
              
              
              64,233,000
              
              
              2,427,000
              
              
              3.78Federal
                  funds sold
              
              
              8,222,000
              
              
              *417,000*
              
              
              5.07
              
              
              4,029,000
              
              
              *127,000*
              
              
              3.15Due
                  from banks
              
              
              5,633,000
              
              
              289,000
              
              
              5.13
              
              
              2,188,000
              
              
              73,000
              
              
              3.34Total
                  interest-earning assets
              
              
              328,299,000
              
              
              22,546,000
              
              
              6.87
              
              
              310,510,000
              
              
              19,132,000
              
              
              6.16Allowance
                  for loan losses
              
              
              (1,265,000
              )
              
              
              
              
              
              
              
              (1,033,000
              )Other
                  assets
              
              
              20,072,000
              
              
              
              
              
              
              
              
              17,635,000Total
                  Assets
              
              $
              347,106,000
              
              
              
              
              
              
              
              $
              327,112,000Liabilities
                  and shareholders’ equityTime
                  deposits
              
              $
              185,903,000
              
              
              8,012,000
              
              
              4.31
              
              $
              152,263,000
              
              
              5,096,000
              
              
              3.35NOW/MMDA/savings
                  accounts
              
              
              79,511,000
              
              
              1,923,000
              
              
              2.42
              
              
              89,513,000
              
              
              1,446,000
              
              
              1.62Borrowings
              
              
              12,247,000
              
              
              417,000
              
              
              3.41
              
              
              21,824,000
              
              
              611,000
              
              
              2.8Total
                  interest-bearing liabilities
              
              
              277,661,000
              
              
              10,352,000
              
              
              3.73
              
              
              263,600,000
              
              
              7,153,000
              
              
              2.71Noninterest-bearing
                  demand depositsOther
                  liabilities
              
              
              33,928,000
              
              
              
              
              
              
              
              
              33,409,000Shareholders’
                  equity
              
              
              1,034,000
              
              
              
              
              
              
              
              
              883,000Total
                  liabilities and shareholders’ equity
              
              
              34,483,000
              
              
              
              
              
              
              
              
              29,220,000Net
                  interest income
              
              $
              347,106,000
              
              
              
              
              
              
              
              $
              327,112,000Interest
                  rate spread (3)Net
                  interest margin (4)
              
              
              
              
              $
              12,194,000
              
              
              
              
              
              
              
              $
              11,979,0003.14
              
              
              
              
              
              
              
              
              3.453.71
              
              
              
              
              
              
              
              
              3.86




(1)
            Includes loans
                held for sale. Also includes loan fees, which are not
                material.


(2)
            Yields
                are not on a tax-equivalent basis.


(3)
            Interest
                rate spread represents the difference between the average yield on
                interest-earning assets and the average cost of interest-bearing
                liabilities.


(4)
            Net
                interest margin represents net interest income as a percentage of
                average
                interest-earning assets.










5




The
      following table presents a summary of the changes in interest income and expense
      by both rate and volume for the periods indicated and including interest income
      from loans held for sale:




Year
                Ended December 31, 2006
              Compared
                to Year Ended
              December
                31, 2005
            
            Year
                Ended December 31, 2005
              Compared
                to Year Ended
              December
                31, 2004Variance
                Due to
              Changes
                In
            
            
            
            Variance
                Due to
              Changes
                InAverage
              Volume
            
            Average
              Rate
            
            Net
              Increase/
              (Decrease)
            
            Average
              Volume
            
            Average
              Rate
            
            Net
              Increase/
              (Decrease)Interest
                Income:Loans,
                net
            
            $
            1,067,000
            
            $
            1,858,000
            
            $
            2,925,000
            
            $
            3,426,000
            
            $
            2,093,000
            
            $
            5,519,000Investment
                securities
            
            
            (152,000
            )
            
            135,000
            
            
            (17,000
            )
            
            (328,000
            )
            
            40,000
            
            
            (288,000
            )Federal
                funds sold and
              due
                from banks
            
            
            389,000
            
            
            117,000
            
            
            506,000
            
            
            (30,000
            )
            
            124,000
            
            
            94,000Total
                interest income
            
            
            1,304,000
            
            
            2,110,000
            
            
            3,414,000
            
            
            3,068,000
            
            
            2,257,000
            
            
            5,325,000Interest
                Expense:Deposits
            
            
            1,208,000
            
            
            2,185,000
            
            
            3,393,000
            
            
            909,000
            
            
            2,038,000
            
            
            2,947,000Borrowed
                funds
            
            
            (327,000
            )
            
            133,000
            
            
            (194,000
            )
            
            (33,000
            )
            
            117,000
            
            
            84,000Total
                interest expense
            
            
            881,000
            
            
            2,318,000
            
            
            3,199,000
            
            
            876,000
            
            
            2,155,000
            
            
            3,031,000Net
                interest income
            
            $
            423,000
            
            $
            (208,000
            )
            $
            215,000
            
            $
            2,192,000
            
            $
            102,000
            
            $
            2,294,000





The
      increase or decrease due to a change in average volume has been determined
      by
      multiplying the change in average volume by the average rate during the
      preceding period, and the increase or decrease due to a change in average rate
      has been determined by multiplying the current average volume by the change
      in
      average rate. For purposes of this table, changes attributable to both rate
      and
      volume, which cannot be segregated, have been allocated to rate.





*Noninterest
      Income*




Total
      noninterest income decreased $60,000, or 8.4%, to $651,000 for the year ended
      December 31, 2006 from $711,000 for the year ended December 31, 2005, primarily
      from a decrease in gains on sale/disposal of equipment. Service charges on
      deposit accounts increased $2,000, or 0.8%, to $249,000 for the year ended
      December 31, 2006 from $247,000 for the year ended December 31, 2005.
      Miscellaneous fees, including gains on sale/disposal of equipment, decreased
      $62,000, or 13.4%, to $402,000 for the year ended December 31, 2006 from
      $464,000 for the year ended December 31, 2005.






6




*Noninterest
      Expenses*





Total
      noninterest expenses increased $1.2 million, or 12.7%, to $11.0 million for
      the
      year ended December 31, 2006 from $9.8 million for the year ended December
      31,
      2005. The increase was largely attributable to an increase in compensation
      and
      benefits. Compensation and benefits increased $714,000 or 13.0% to $6.2 million
      for the year ended December 31, 2006 from $5.5 million for the year ended
      December 31, 2005. This increase resulted primarily from higher incentive
      compensation realized in our construction lending program and the opening of
      our
      Voorhees branch in November 2005. Occupancy, equipment and data processing
      expense increased $476,000, or 19.9%, to $2.9 million for the year ended
      December 31, 2006 from $2.4 million for the year ended December 31, 2005. This
      increase was primarily from costs associated with our new Voorhees branch.




Marketing
      and business development expense decreased $135,000, or 18.2%, to $605,000
      for
      the year ended December 31, 2006 from $740,000 for the year ended December
      31,
      2005. This decrease was primarily due to a decrease in newspaper and radio
      advertising.




Professional
      services increased $87,000, or 21.8%, to $486,000 for the year ended December
      31, 2006 from $399,000 for the year ended December 31, 2005. This increase
      resulted primarily from higher legal costs associated with our regulatory
      filings.




Other
      operating expenses increased $99,000, or 12.8%, to $874,000 for the year ended
      December 31, 2006 from $775,000 for the year ended December 31, 2005. The
      increase was primarily from an increase in director and shareholder related
      expenses, delivery costs and training and education costs.




*Income
      Taxes*





Income
      tax expense, as a percentage of pre-tax income, increased from 37.2% in 2005
      to
      38.0% in 2006.




**Financial
      Condition**




*General*




Our
      total
      assets decreased $14.1 million, or 4.0%, to $337.2 million at December 31,
      2006
      from $351.3 million at December 31, 2005. This decrease was mainly due to a
      decline in loans held for sale.




*Loan
      Portfolio*




Total
      loans, excluding loans held for sale, increased $18.0 million, or 8.0%, to
      $243.3 million at December 31, 2006 from $225.3 million at December 31, 2005.
      The increase in loans is primarily the result of growth in commercial
      loans.




The
      following table summarizes our loan portfolio by category and amount at December
      31, 2006 and 2005. The loan categories correspond to our general
      classifications. The table does not include loans held for sale.




At
                December 31,2006
            
            2005Commercial
                loans
            
            $
            167,581,000
            
            $
            154,046,000Consumer
                loans
            
            
            48,018,000
            
            
            41,175,000Residential
                mortgage loans
            
            
            27,684,000
            
            
            30,117,000Total
                loans
            
            $
            243,283,000
            
            $
            225,338,000







7




*Loans
      Held for Sale*





Loans
      held for sale decreased $39.1 million, or 96.1%, to $1.6 million as of December
      31, 2006 compared to $40.7 million as of December 31, 2005. This decrease was
      the result of the SLM Corporation (formerly known as Sallie Mae) plan to self
      fund these student loans. We expect to discontinue funding these loans during
      2007.




*Non-Performing
      Loans*




Loans,
      including loans past due 90 days or more and still accruing interest, are
      considered to be non-performing if they are on a non-accrual basis or terms
      have
      been renegotiated to provide a reduction or deferral of interest or principal
      because of a weakening in the financial condition of the borrowers. A loan
      that
      is past due 90 days or more and still accruing interest remains on accrual
      status only where it is both adequately secured as to principal and interest
      and
      is in the process of collection. At December 31, 2006 and December 31, 2005,
      loans past due 90 days or more and still accruing interest were $178,000 and
      $447,000, respectively. Total non-accruing loans were $268,000 at December
      31,
      2006 and $0 at December 31, 2005.




The
      table
      below recaps loans accruing but past due 90 days or more, non-accrual loans,
      OREO (Other Real Estate Owned), and repossessed personal property as of December
      31, 2006 and 2005.




At
                December 31,2006
            
            2005Loans
                accruing, but past due 90 days or more
            
            $
            178,000
            
            $
            447,000Non-accrual
                loans
            
            
            268,000
            
            
            -Total
                non-performing loans
            
            
            446,000
            
            
            447,000OREO
                and repossessed personal property
            
            
            -
            
            
            -Total
                non-performing assets
            
            $
            446,000
            
            $
            447,000Non-performing
                loans/Total loans (1)
            
            
            0.18
            %
            
            0.17
            %Non-performing
                assets/Total assets
            
            
            0.13
            %
            
            0.13
            %





(1)
            Includes
                loans held for sale.




*Potential
      Problem Loans*




In
      addition to non-accrual loans and loans past due 90 days or more and still
      accruing interest, we maintain a “watch list” of loans where management has
      identified problems which potentially could cause such loans to be placed on
      non-accrual status in future periods. Loans on the watch list are subject to
      heightened scrutiny and more frequent review by management. At December 31,
      2006, there were nine such loans totaling $4.8 million. Management believes
      that
      they have provided an adequate allowance for such loans and are aggressively
      pursuing collection from the borrowers.





*Allowance
      for Loan Losses*




We
      determine the level of allowance for loan losses based on a number of
      factors. **** In
      order
      to determine the amount of the provision for loan losses, we conduct a quarterly
      review of the loan portfolio to evaluate overall credit quality. This evaluation
      consists of an analysis of individual loans and overall risk characteristics
      and
      size of the different loan portfolios, and takes into consideration current
      economic and market conditions, changes in non-performing loans, the capability
      of specific borrowers to repay specific loan obligations and current loan
      collateral values. We also consider past estimates of possible loan losses
      and
      actual losses incurred. As adjustments become identified, they are reported
      in
      earnings for the period in which they become known. During the fourth quarter
      of
      2006, the Bank increased the allowance for loan losses due mainly to
      management’s determination that two of its loan customers, although
      contractually current, had deteriorated in financial condition and warranted
      an
      increase in risk to the Bank.






8




The
      following schedule sets forth the allocation of the allowance for loan losses
      among various categories. The allocation is based upon historical experience.
      The entire allowance for loan losses is available to absorb future loan losses
      in any loan category. This schedule includes any provision for loan losses
      associated with loans held for sale.




At
                December 31,2006
            
            2005%
                of Loans in
            
            
            
            %
                of Loans inEach
                Category
            
            
            
            Each
                CategoryAmount
            
            to
                Total Loans
            
            Amount
            
            to
                Total LoansAllocation
                of allowance for
                loan losses:Commercial
                loans
            
            $
            1,570,000
            
            
            69
            %
            $
            927,000
            
            
            68
            %Consumer
                loans
            
            
            120,000
            
            
            20
            
            
            144,000
            
            
            18Residential
                mortgage loans
            
            
            70,000
            
            
            11
            
            
            75,000
            
            
            14General
                allowance
            
            
            -
            
            
            
            
            
            8,000Total
            
            $
            1,760,000
            
            
            100
            %
            $
            1,154,000
            
            
            100
            %







*Summary
      of Charge-Off Experience*




The
      following table summarizes the activity in our allowance for loan losses and
      our
      charge-off experience for 2006 and 2005:




Year
                Ended December 31,2006
            
            2005Balance
                at beginning of period
            
            $
            1,154,000
            
            $
            913,000Charge-offs:Commercial
                loans
            
            
            -
            
            
            19,000Consumer
                loans
            
            
            1,000
            
            
            26,000Residential
                mortgage loans
            
            
            -
            
            
            -1,000
            
            
            45,000Recoveries:Commercial
                loans
            
            
            1,000
            
            
            -Consumer
                loans
            
            
            1,000
            
            
            1,000Residential
                mortgage loans
            
            
            -
            
            
            1,0002,000
            
            
            2,000Net
                recoveries (charge-offs)
            
            
            1,000
            
            
            (43,000
            )Provision
                for loan loss
            
            
            605,000
            
            
            284,000Balance
                at end of period
            
            $
            1,760,000
            
            $
            1,154,000Average
                loans outstanding (1)
            
            $
            254,693,000
            
            $
            240,472,000Net
                charge-offs as a percentage of average loans
            
            
            0.00
            %
            
            0.02
            %___________________(1)
                Includes loans held for sale and non-accruing loans






9





*Investment
      Securities Portfolio*




The
      following table presents the amortized cost and approximate market values at
      December 31, 2006 and 2005, for each major category of our investment
      securities:




At
                December 31,2006
            
            2006
            
            2005
            
            2005Amortized
            
            Estimated
            
            Amortized
            
            EstimatedCost
            
            Fair
                Value
            
            Cost
            
            Fair
                ValueInvestment
                SecuritiesAvailable-for-SaleU.S.
                Government agenciesand
                corporations
            
            $
            30,263,000
            
            $
            29,559,000
            
            $
            27,260,000
            
            $
            26,454,000Municipalities
            
            
            4,507,000
            
            
            4,398,000
            
            
            3,675,000
            
            
            3,510,000Mortgage-backed
                securities
            
            
            13,856,000
            
            
            13,569,000
            
            
            14,937,000
            
            
            14,518,000Total
                investment securitiesAvailable-for-Sale
            
            $
            48,626,000
            
            $
            47,526,000
            
            $
            45,872,000
            
            $
            44,482,000Investment
                Securities Held-to-MaturityU.S.
                Government agencies
              and
                corporations
            
            $
            25,000
            
            $
            25,000
            
            $
            25,000
            
            $
            25,000Municipalities
            
            
            875,000
            
            
            875,000
            
            
            -
            
            
            -Mortgage-backed
                securities
            
            
            8,392,000
            
            
            8,187,000
            
            
            10,787,000
            
            
            10,468,000Total
                investment securitiesHeld-to-Maturity
            
            $
            9,292,000
            
            $
            9,087,000
            
            $
            10,812,000
            
            $
            10,493,000







10


The
      following table presents the maturity distribution and weighted average yield
      of
      the investment securities portfolio of the Bank as of December 31, 2006 and
      2005. Weighted average yields on tax-exempt obligations have been computed
      on a
      taxable equivalent basis.




At
                December 31, 2006Within
                1 Year
            
            After
                1 Year But
              Within
                5 Years
            
            After
                5 Years But
              Within
                10 Years
            
            After
                10 Years
            
            TotalAmount
            
            Yield
            
            Amount
            
            Yield
            
            Amount
            
            Yield
            
            Amount
            
            Yield
            
            Amount
            
            Yield(Dollars
                in thousands)Investment
                SecuritiesAvailable-for-Sale
                at amortized cost:U.S.
                Government agencies and corporations
            $
                1,000
            
            2.74%
            
            $25,513
            
            3.94%
            
            $
                3,750
            
            5.32%
            
            $
                -
            
            -
            
            $30,263
            
            4.07%Municipalities
            -
            
            -
            
            -
            
            -
            
            1,271
            
            4.50%
            
            3,236
            
            5.52%
            
            4,507
            
            5.23%Mortgage
                backed securities
            -
            
            -
            
            3,298
            
            4.17%
            
            1,211
            
            3.97%
            
            9,347
            
            4.51%
            
            13,856
            
            4.38%Total
                securities available-for-sale
            $
                1,000
            
            2.74%
            
            $28,811
            
            3.97%
            
            $
                6,232
            
            4.89%
            
            $12,583
            
            4.77%
            
            $48,626
            
            4.27%Held-to-Maturity
                at amortized cost:U.S.
                Government agencies and corporations
            $
                25
            
            1.00%
            
            $
                -
            
            -
            
            $
                -
            
            -
            
            $
                -
            
            -
            
            $
                25
            
            1.00%Municipalities
            875
            
            2.96%
            
            -
            
            -
            
            -
            
            -
            
            -
            
            -
            
            875
            
            2.96%Mortgage
                backed securities
            -
            
            -
            
            3,668
            
            3.94%
            
            1,115
            
            3.88%
            
            3,609
            
            4.05%
            
            8,392
            
            3.98%Total
                securities held-to-maturity
            $
                900
            
            2.91%
            
            $
                3,668
            
            3.94%
            
            $
                1,115
            
            3.88%
            
            $
                3,609
            
            4.05%
            
            $
                9,292
            
            3.88%At
                December 31, 2005Within
                1 Year
            
            After
                1 Year But
              Within
                5 Years
            
            After
                5 Years But
              Within
                10 Years
            
            After
                10 Years
            
            TotalAmount
            
            Yield
            
            Amount
            
            Yield
            
            Amount
            
            Yield
            
            Amount
            
            Yield
            
            Amount
            
            Yield(Dollars
                in thousands)Investment
                SecuritiesAvailable-for-Sale
                at amortized cost:U.S.
                Government agencies and corporations
            $
                -
            
            -
            
            $25,510
            
            3.81%
            
            $
                1,750
            
            4.46%
            
            $
                -
            
            -
            
            $27,260
            
            3.85%Municipalities
            -
            
            -
            
            -
            
            -
            
            1,270
            
            4.53%
            
            2,405
            
            5.49%
            
            3,675
            
            5.16%Mortgage
                backed securities
            -
            
            -
            
            4,147
            
            4.10%
            
            1,471
            
            3.77%
            
            9,319
            
            4.17%
            
            14,937
            
            4.11%Total
                securities available-for-sale
            $
                -
            
            -
            
            $29,657
            
            3.85%
            
            $
                4,491
            
            4.25%
            
            $11,724
            
            4.44%
            
            $45,872
            
            4.04%Held-to-Maturity
                at amortized cost:U.S.
                Government agencies and corporations
            $
                25
            
            0.75%
            
            $
                -
            
            -
            
            $
                -
            
            -
            
            $
                -
            
            -
            
            $
                25
            
            0.75%Mortgage
                backed securities
            -
            
            -
            
            2,461
            
            3.79%
            
            3,411
            
            3.90%
            
            4,915
            
            3.80%
            
            10,787
            
            3.83%Total
                securities held-to-maturity
            $
                25
            
            0.75%
            
            $
                2,461
            
            3.79%
            
            $
                3,411
            
            3.90%
            
            $
                4,915
            
            3.80%
            
            $10,812
            
            3.82%





Investments
      consist of mortgage-backed securities, U.S. Government agency securities and
      tax-free municipal securities. We use the investment portfolio to provide
      adequate liquidity to the Bank, to assist in managing interest rate risk and
      to
      provide a reasonable rate of return.


11


*Deposits*





Total
      deposits decreased $5.1 million, or 1.7%, to $295.3 million at December 31,
      2006
      from $300.4 million at December 31, 2005. This decrease was a direct result
      of
      management’s goal to systematically match and balance the level of deposit
      balances to be consistent with the previously discussed roll down of student
      loan advances by SLM, Inc., which are classified as held for sale.
      Noninterest-bearing demand deposits increased $6.5 million, or 20.0%, to $39.0
      million at December 31, 2006 from $32.5 million at December 31, 2005. MMDA
      and
      NOW accounts decreased $11.0 million, or 18.5%, to $48.6 million at December
      31,
      2006 from $59.6 million at December 31, 2005. Savings deposits increased $6.9
      million, or 34.0%, to $27.2 million at December 31, 2006 from $20.3 million
      at
      December 31, 2005. Time deposits under $100,000 increased $5.1 million, or
      3.6%,
      to $146.3 million at December 31, 2006 from $141.2 million at December 31,
      2005.
      Jumbo time deposits decreased $12.5 million, or 26.8%, to $34.2 million at
      December 31, 2006 from $46.7 million at December 31, 2005.





The
      following table represents categories of our deposits at December 31, 2006
      and
      2005:





At
                December 31,2006
            
            2005Noninterest-bearing
                demand deposits
            
            $
            39,021,000
            
            $
            32,545,000Interest-bearing
                demand deposits
            
            
            48,593,000
            
            
            59,638,000Savings
                deposits
            
            
            27,195,000
            
            
            20,267,000Time
                deposits, under $100,000
            
            
            146,284,000
            
            
            141,236,000Time
                deposits, $100,000 or more
            
            
            34,197,000
            
            
            46,725,000Total
                Deposits
            
            $
            295,290,000
            
            $
            300,411,000





The
      following table describes the maturity of time deposits of $100,000 or more
      at
      the dates indicated:





At
                December 31,2006
            
            20053
                months or less
            
            $
            26,351,000
            
            $
            37,221,000Over
                3 months through 6 months
            
            
            2,057,000
            
            
            3,809,000Over
                6 months through 12 months
            
            
            4,033,000
            
            
            1,700,000Over
                1 year
            
            
            1,756,000
            
            
            3,995,000Total
            
            $
            34,197,000
            
            $
            46,725,000






12




The
      following tables detail the average amount, the average rate paid and the
      percentage of each category to total deposits for the years ended December
      31,
      2006 and 2005:





Year
                Ended December 31, 2006Daily
                Average
            
            Average
            
            PercentBalance
            
            Rate
            
            Of
                TotalNOW
                & money market savings deposits
            
            $
            52,753,000
            
            
            2.4
            %
            
            17.6
            %Regular
                savings deposits
            
            
            26,758,000
            
            
            2.5
            
            
            9.0Time
                deposits
            
            
            185,903,000
            
            
            4.3
            
            
            62.1Total
                interest-bearing deposits
            
            
            265,414,000
            
            
            
            
            
            88.7Noninterest-bearing
                demand deposits
            
            
            33,928,000
            
            
            
            
            
            11.3Total
                deposits
            
            $
            299,342,000
            
            
            
            
            
            100.0
            %




Year
                Ended December 31, 2005Daily
                Average
            
            Average
            
            PercentBalance
            
            Rate
            
            Of
                TotalNOW
                & money market savings deposits
            
            $
            66,988,000
            
            
            1.8
            %
            
            24.4
            %Regular
                savings deposits
            
            
            22,525,000
            
            
            1.1
            
            
            8.2Time
                deposits
            
            
            152,263,000
            
            
            3.4
            
            
            55.3Total
                interest-bearing deposits
            
            
            241,776,000
            
            
            
            
            
            87.9Noninterest-bearing
                demand deposits
            
            
            33,409,000
            
            
            
            
            
            12.1Total
                deposits
            
            $
            275,185,000
            
            
            
            
            
            100.0
            %





**Borrowings**




At
      December 31, 2006 and 2005, the Bank had advances from the FHLB totaling $5.9
      million and $15.6 million, respectively. This decrease in advances was a result
      of scheduled maturities in 2006. The advances as of December 31, 2006 have
      maturities of less than one year and rates ranging from 2.62% to 5.28%. These
      advances require the Bank to pledge certain securities in our investment
      portfolio to the FHLB and these advances cannot be prepaid without penalty.




**Return
      on Equity and Assets**




At
                December 31,2006
            
            2005Return
                on average assets
            .21%
            
            .50%Return
                on average equity
            2.14%
            
            5.58%Dividend
                payout ratio
            80.00%
            
            30.77%Average
                equity to average assets ratio
            9.93%
            
            8.93%









13


**Liquidity
      and Capital Resources**




Liquidity
      represents an institution’s ability to generate cash or otherwise obtain funds
      at reasonable rates to satisfy commitments to borrowers and demands of
      depositors. Our primary sources of funds are deposits, proceeds from principal
      and interest payments on loans and investments, sales of investment securities
      available-for-sale and borrowings. While maturities and scheduled amortization
      of loans and investments are a predictable source of funds, deposit flows,
      loan
      prepayments and mortgage-backed securities prepayments are influenced by
      interest rates, economic conditions, and competition. Competition for deposits
      may require banks to increase the rates payable on deposits or expand their
      branch networks to adequately grow deposits in the future.




We
      monitor our liquidity position on a daily basis. We use overnight federal funds
      and interest- bearing deposits in other banks to absorb daily excess liquidity.
      Conversely, overnight federal funds may be purchased to satisfy daily liquidity
      needs. Federal funds are sold or purchased overnight through correspondent
      banks, one of which diversifies the holdings to an approved group of banks
      throughout the country. At December 31, 2006, the Bank had an aggregate
      availability of $87.7 million in secured and unsecured overnight lines of credit
      from its correspondent banks for the purchasing of federal funds.




As
      of
      December 31, 2006, we met all capital adequacy requirements to which we were
      subject and the most recent notification from the FDIC categorized us as “well
      capitalized” under the regulatory framework for prompt corrective action. To be
      categorized as “well capitalized,” we must maintain minimum leverage, Tier I and
      total capital ratios as set forth in the following table.




Our
      actual capital ratios are presented in the following table:




“Well
                Capitalized”
            
            Actual
                at
              December
                31, 2006
            
            Actual
                at
              December
                31, 2005Leverage
                ratio
            
            5.00%
            
            10.39%
            
            10.20%Tier
                I capital to risk-weighted assets
            
            6.00%
            
            13.09%
            
            12.25%Total
                capital to risk-weighted assets
            
            10.00%
            
            13.77%
            
            12.67%





The
      Merger will be accounted for by the Holding Company as a purchase, and the
      amount by which the purchase price exceeds the fair value of the net tangible
      and identifiable intangible assets acquired by the Holding Company through
      the
      Merger will be recorded as goodwill. Based on the financial information of
      Farnsworth as of June 30, 2006, the estimated pro forma goodwill of the Holding
      Company will be approximately $9.8 million, but the actual amount of goodwill
      is
      based on many factors and could exceed that amount. Because goodwill reduces
      regulatory capital, the Merger will make it more difficult for the Holding
      Company to meet its regulatory capital requirements.





**Off-Balance
      Sheet Arrangements**





The
      Bank
      is a party to financial instruments with off-balance sheet risk in the normal
      course of business to meet the financing needs of its customers. These financial
      instruments include commitments to extend credit, including unused portions
      of
      lines of credit, and standby letters of credit. As of December 31, 2006 and
      2005, commitments to extend credit and unused lines of credit amounted to
      approximately $56,131,000 and $54,865,000, respectively, and standby letters of
      credit were approximately $5,720,000 and $2,001,000, respectively. These
      instruments involve, to varying degrees, elements of credit risk in excess
      of
      the amount recognized in the statements of financial condition.





14


The
      Bank
      has also entered into long-term lease obligations for some of its premises
      and
      equipment, the terms of which generally include options to renew. These
      instruments involve, to varying degrees, elements of off-balance sheet risk
      in
      excess of the amount recognized in the statements of financial condition. At
      December 31, 2006, the required future minimum rental payments under these
      leases are as follows:





Years
                Ending December 31,2007
            
            $
            568,0002008
            
            
            524,0002009
            
            
            461,0002010
            
            
            470,0002011
            
            
            483,000Thereafter
            
            
            3,836,000$
            6,342,000





The
      off-balance sheet arrangements discussed above did not and are not reasonably
      likely to have a material impact on the Bank's Financial
      Statements.





**Asset
      and Liability Management**




Important
      to the concept of liquidity is the management of interest-earning assets and
      interest-bearing liabilities. An interest rate sensitive asset or liability
      is
      one that, within a defined time period, either matures or experiences an
      interest rate change in line with general market rates. Interest rate
      sensitivity measures the relative volatility of a bank’s interest margin
      resulting from changes in market interest rates. Through asset and liability
      management, we seek to position ourselves to contend with changing interest
      rates.




The
      following table summarizes repricing intervals for interest-earning assets
      and
      interest-bearing liabilities as of December 31, 2006, and the difference or
      “gap” between them on an actual and cumulative basis for the periods indicated.
      A gap is considered positive when the amount of interest rate sensitive assets
      exceeds the amount of interest rate sensitive liabilities. During a period
      of
      falling interest rates, a positive gap would tend to adversely affect net
      interest income, while a negative gap would tend to result in an increase in
      net
      interest income. During a period of rising interest rates, a positive gap would
      tend to result in an increase in net interest income while a negative gap would
      tend to affect net interest income adversely. Items presented in this table
      are
      categorized as to remaining maturity or next repricing date.


At
                  December 31, 20063
                  months
                or
                  less
              
              Over
                  3 months through 1year
              
              Over
                  1
                year
                  through 3years
              
              Over3
                years
                  through 5years
              
              Over
                  5
                years
                  through 15years
              
              Over
                15
                  years
              
              Total(In
                  thousands)Interest-Earning
                  Assets:Loans,
                    net of unearned discount (1)
              
              $
              100,748
              
              $
              26,224
              
              $
              36,578
              
              $
              18,071
              
              $
              24,031
              
              $
              39,249
              
              $
              244,901Investment
                    securities:Held-to-maturity
              
              
              288
              
              
              1,641
              
              
              1,818
              
              
              4,430
              
              
              1,115
              
              
              -
              
              
              9,292Available-for-sale
              
              
              24
              
              
              1,040
              
              
              18,455
              
              
              16,436
              
              
              10,485
              
              
              1,086
              
              
              47,526Restricted
                    stock
              
              
              1,436
              
              
              -
              
              
              -
              
              
              -
              
              
              -
              
              
              -
              
              
              1,436Federal
                    funds sold
              
              
              6,878
              
              
              -
              
              
              -
              
              
              -
              
              
              -
              
              
              -
              
              
              6,878Due
                  from banks
              
              
              7,193
              
              
              -
              
              
              -
              
              
              -
              
              
              -
              
              
              -
              
              
              7,193Total
                  interest-earning assets
              
              $
              116,567
              
              $
              28,905
              
              $
              56,851
              
              $
              38,937
              
              $
              35,631
              
              $
              40,335
              
              $
              317,226Interest-Bearing
                  Liabilities:Savings
                  deposits
              
              $
              27,195
              
              $
              -
              
              $
              -
              
              $
              -
              
              $
              -
              
              $
              -
              
              $
              27,195NOW
                  and MMDAdeposits
              
              
              48,593
              
              
              -
              
              
              -
              
              
              -
              
              
              *-*
              
              
              *-*
              
              
              48,593Time
                  deposits
              
              
              56,249
              
              
              98,588
              
              
              24,946
              
              
              698
              
              
              *-*
              
              
              *-*
              
              
              180,481Borrowings
              
              
              4,835
              
              
              1,050
              
              
              -
              
              
              -
              
              
              -
              
              
              -
              
              
              5,885Total
                  interest-bearing liabilities
              
              $
              136,872
              
              $
              99,638
              
              $
              24,946
              
              $
              698
              
              $
              -
              
              $
              -
              
              $
              262,154Interest
                  rate sensitive gap
              
              $
              (20,305
              )
              $
              (70,733
              )
              $
              31,905
              
              $
              38,239
              
              $
              35,631
              
              $
              40,335
              
              $
              55,072Cumulative
                  interest rate sensitive gap
              
              $
              (20,305
              )
              $
              (91,038
              )
              $
              (59,133
              )
              $
              (20,894
              )
              $
              14,737
              
              $
              55,072


_________________


(1)
      Includes loans held for sale.


15








The
      method used to analyze interest rate sensitivity in the table above has a number
      of limitations. Certain assets and liabilities may react differently to changes
      in interest rates even though they reprice or mature in the same or similar
      time
      periods. The interest rates on certain assets and liabilities may change at
      different times than changes in market interest rates, with some changing in
      advance of changes in market rates and some lagging behind changes in market
      rates. Also, certain assets (e.g., adjustable rate loans) often have provisions
      that limit changes in interest rates each time the interest rate changes and
      on
      a cumulative basis over the life of the loan. Additionally, the actual
      prepayments and withdrawals in the event of a change in interest rates may
      differ significantly from those assumed in the calculations shown in the table.
      Finally, the ability of borrowers to service their debt may decrease in the
      event of an interest rate increase.





***Forward-looking
      Statements***




The
      foregoing discussion and analysis of our financial condition and results of
      operations should be read in conjunction with our financial statements and the related notes and other financial information
      included elsewhere in this Annual Report. The discussion and analysis contains
      forward-looking statements and are made in reliance upon safe harbor provisions
      of the Private Securities Litigation Reform Act of 1995. Our actual results
      may
      differ materially from those anticipated in these forward-looking statements
      as
      a result of specified factors, including those set forth elsewhere in this
      Annual Report and in the Bank's filings with the Federal Reserve Bank, and
      the
      Holding Company's filings with the Securities and Exchange Commission including
      its Annual Report on Form 10-KSB for the year ended December 31, 2006 under
      the
      caption, "Factors That May Affect Future Results."
















16











**Report
      of Independent Registered Public Accounting Firm**











Shareholders
      and Directors


Sterling
      Bank


Mount
      Laurel, New Jersey




We
      have
      audited the balance sheets of Sterling Bank as of December 31, 2006 and 2005,
      and the related statements of operations, shareholders’ equity, and cash flows
      for the years then ended. These financial statements are the responsibility
      of
      the Bank’s management. Our responsibility is to express an opinion on these
      financial statements based on our audits.




We
      conducted our audits in accordance with the standards of the Public Company
      Accounting Oversight Board (United States). Those standards require that we
      plan
      and perform the audit to obtain reasonable assurance about whether the financial
      statements are free of material misstatement. An audit includes examining,
      on a
      test basis, evidence supporting the amounts and disclosures in the financial
      statements. An audit also includes assessing the accounting principles used
      and
      significant estimates made by management, as well as evaluating the overall
      financial statement presentation. We believe that our audits provide a
      reasonable basis for our opinion.





In
      our
      opinion, the financial statements referred to above present fairly, in all
      material respects, the financial position of Sterling Bank as of December 31,
      2006 and 2005, and the results of its operations and its cash flows for the
      years then ended, in conformity with U.S. generally accepted accounting
      principles.





As
      described in Note 1 to the financial statements, the Bank adopted Financial
      Accounting Standards Board No. 123R effective January 1, 2006.














Blue
      Bell, Pennsylvania


March
      27,
      2007








McGladrey
      & Pullen, LLP is a member firm of RSM International -


*an
      affiliation of separate and independent legal entities.*





17





**Sterling
                Bank****Balance
                Sheets****December
                31, 2006 and 2005****Assets**
            
            **2006**
            
            **2005**Cash
                and cash due from banks
            
            $
            16,064,000
            
            $
            17,847,000Federal
                funds sold
            
            
            6,878,000
            
            
            321,000Cash
                and cash equivalents
            
            
            22,942,000
            
            
            18,168,000Investment
                securities held-to-maturity, at cost (fair value of
                $9,087,000and
                $10,493,000 at December 31, 2006 and 2005, respectively)
            
            
            9,292,000
            
            
            10,812,000Investment
                securities available-for-sale, at fair value
            
            
            47,526,000
            
            
            44,482,000Total
                investment securities
            
            
            56,818,000
            
            
            55,294,000Restricted
                stock, at cost
            
            
            1,436,000
            
            
            1,876,000Loans
                held for sale
            
            
            1,618,000
            
            
            40,721,000Loans
            
            
            243,283,000
            
            
            225,338,000Less:
                allowance for loan losses
            
            
            (1,760,000
            )
            
            (1,154,000
            )Net
                loans
            
            
            241,523,000
            
            
            224,184,000Bank
                premises and equipment, net
            
            
            6,922,000
            
            
            6,083,000Accrued
                interest receivable and other assets
            
            
            5,989,000
            
            
            4,990,000**Total
                assets**
            
            $
            337,248,000
            
            $
            351,316,000








18





**Sterling
                Bank****Balance
                Sheets****December
                31, 2006 and 2005****Liabilities
                and Shareholders' Equity**
            
            **2006**
            
            **2005**LiabilitiesDeposits:Noninterest-bearing
            
            $
            39,021,000
            
            $
            32,545,000Interest-bearing
            
            
            256,269,000
            
            
            267,866,000Total
                deposits
            
            
            295,290,000
            
            
            300,411,000Federal
                Home Loan Bank advances
            
            
            5,885,000
            
            
            15,641,000Accrued
                interest payable and other accrued liabilities
            
            
            1,305,000
            
            
            1,016,000**Total
                liabilities**
            
            
            302,480,000
            
            
            317,068,000Commitments
                and Contingencies (Notes 7, 8 and 15)Shareholders'
                EquityCommon
                stock,$2
                par value, 15,000,000 shares authorized; 4,783,568 and 4,536,452
                sharesissued
                and outstanding at December 31, 2006 and 2005,
                respectively
            
            
            9,567,000
            
            
            9,073,000Additional
                paid-in capital
            
            
            22,930,000
            
            
            23,263,000Retained
                earnings
            
            
            2,931,000
            
            
            2,746,000Accumulated
                other comprehensive loss
            
            
            (660,000
            )
            
            (834,000
            )**Total
                shareholders' equity**
            
            
            34,768,000
            
            
            34,248,000**Total
                liabilities and shareholders' equity**
            
            $
            337,248,000
            
            $
            351,316,000See
                Notes to Financial Statements.








19





**Sterling
                Bank****Statements
                of Operations****Years
                Ended December 31, 2006 and 2005****2006**
            
            **2005**Interest
                and dividend incomeInterest
                and fees on loans
            
            $
            19,430,000
            
            $
            16,505,000Interest
                and dividends on securities
            
            
            2,699,000
            
            
            2,500,000Interest
                on Federal funds sold
            
            
            417,000
            
            
            127,000Total
                interest and dividend income
            
            
            22,546,000
            
            
            19,132,000Interest
                expenseInterest
                on deposits
            
            
            9,935,000
            
            
            6,542,000Interest
                on Federal Home Loan Bank advances and overnight
                borrowings
            
            
            417,000
            
            
            611,000Total
                interest expense
            
            
            10,352,000
            
            
            7,153,000Net
                interest income
            
            
            12,194,000
            
            
            11,979,000Provision
                for loan losses
            
            
            605,000
            
            
            284,000Net
                interest income after provision for loan losses
            
            
            11,589,000
            
            
            11,695,000Noninterest
                incomeService
                charges
            
            
            249,000
            
            
            247,000Miscellaneous
                fees and other
            
            
            402,000
            
            
            464,000Total
                noninterest income
            
            
            651,000
            
            
            711,000Noninterest
                expensesCompensation
                and benefits
            
            
            6,212,000
            
            
            5,498,000Occupancy,
                equipment and data processing
            
            
            2,873,000
            
            
            2,397,000Marketing
                and business development
            
            
            605,000
            
            
            740,000Professional
                services
            
            
            486,000
            
            
            399,000Other
                operating expenses
            
            
            874,000
            
            
            775,000Total
                noninterest expenses
            
            
            11,050,000
            
            
            9,809,000Income
                before income tax expense
            
            
            1,190,000
            
            
            2,597,000Income
                tax expense
            
            
            452,000
            
            
            966,000**Net
                income**
            
            $
            738,000
            
            $
            1,631,000Net
                income per common share:Basic
            
            $
            0.15
            
            $
            0.39Diluted
            
            $
            0.15
            
            $
            0.38Weighted
                average shares outstanding:Basic
            
            
            4,773,000
            
            
            4,192,000Diluted
            
            
            4,865,000
            
            
            4,263,000See
                Notes to Financial Statements.




20




**Sterling
                Bank****Statements
                of Shareholders' Equity****Years
                Ended December 31, 2006 and 2005**AccumulatedAdditional
            
            
            
            Other
            
            TotalCommon
                Stock
            
            Paid-In
            
            Retained
            
            Comprehensive
            
            Shareholders'Shares
            
            Amount
            
            Capital
            
            Earnings
            
            Income
                (Loss)
            
            EquityDecember
                31, 2004
            
            
            2,877,412
            
            $
            5,755,000
            
            $
            13,732,000
            
            $
            1,597,000
            
            $
            (327,000
            )
            $
            20,757,000Comprehensive
                income:Net
                income
            
            
            -
            
            
            -
            
            
            -
            
            
            1,631,000
            
            
            -
            
            
            1,631,000Change
                in net unrealized loss onsecurities
                available-for-sale, net ofreclassification
                adjustment and taxeffects
            
            
            -
            
            
            -
            
            
            -
            
            
            -
            
            
            (507,000
            )
            
            (507,000
            )Total
                comprehensive income
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            1,124,000Cash
                dividends paid ($0.12 per share)
            
            
            -
            
            
            -
            
            
            -
            
            
            (482,000
            )
            
            -
            
            
            (482,000
            )5%
                common stock dividend
            
            
            215,771
            
            
            431,000
            
            
            (433,000
            )
            
            -
            
            
            -
            
            
            (2,000
            )Stock
                compensation
            
            
            -
            
            
            -
            
            
            16,000
            
            
            -
            
            
            -
            
            
            16,000Net
                proceeds from issuance of commonstock
            
            
            1,443,269
            
            
            2,887,000
            
            
            9,948,000
            
            
            -
            
            
            -
            
            
            12,835,000December
                31, 2005
            
            
            4,536,452
            
            
            9,073,000
            
            
            23,263,000
            
            
            2,746,000
            
            
            (834,000
            )
            
            34,248,000Comprehensive
                income:Net
                income
            
            
            -
            
            
            -
            
            
            -
            
            
            738,000
            
            
            -
            
            
            738,000Change
                in net unrealized loss onsecurities
                available-for-sale, net ofreclassification
                adjustment and taxeffects
            
            
            -
            
            
            -
            
            
            -
            
            
            -
            
            
            174,000
            
            
            174,000Total
                comprehensive income
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            912,000Cash
                dividends paid ($0.12 per share)
            
            
            -
            
            
            -
            
            
            -
            
            
            (553,000
            )
            
            -
            
            
            (553,000
            )5%
                common stock dividend
            
            
            227,181
            
            
            454,000
            
            
            (454,000
            )
            
            -
            
            
            -
            
            
            -Stock
                compensation
            
            
            -
            
            
            -
            
            
            12,000
            
            
            -
            
            
            -
            
            
            12,000Net
                  proceeds from issuance of commonstock
            
            
            19,935
            
            
            40,000
            
            
            109,000
            
            
            -
            
            
            -
            
            
            149,000December
                31, 2006
            
            
            4,783,568
            
            $
            9,567,000
            
            $
            22,930,000
            
            $
            2,931,000
            
            $
            (660,000
            )
            $
            34,768,000See
                Notes to Financial Statements.





21





**Sterling
                Bank****Statements
                of Cash Flows****Years
                Ended December 31, 2006 and 2005****2006**
            
            **2005**Cash
                Flows From Operating ActivitiesNet
                income
            
            $
            738,000
            
            $
            1,631,000Adjustments
                to reconcile net income to net cash used in operating
                activities:Depreciation
                and amortization of premises and equipment
            
            
            913,000
            
            
            771,000Provision
                for loan losses
            
            
            605,000
            
            
            284,000Net
                amortization of purchase premiums and discounts on
                securities
            
            
            87,000
            
            
            164,000Stock
                compensation
            
            
            12,000
            
            
            16,000Realized
                gain on sales of securities available-for-sale
            
            
            -
            
            
            (1,000
            )Realized
                loss (gain) on sales of equipment
            
            
            30,000
            
            
            (24,000
            )Deferred
                income tax benefit
            
            
            (386,000
            )
            
            (112,000
            )Proceeds
                from sale of loans held for sale
            
            
            204,479,000
            
            
            375,334,000Originations
                of loans held for sale
            
            
            (165,376,000
            )
            
            (390,029,000
            )Changes
                in operating assets and liabilities:Increase
                in accrued interest receivable and other assets
            
            
            (730,000
            )
            
            (875,000
            )Increase
                in accrued interest payable and other accrued liabilities
            
            
            289,000
            
            
            136,000**Net
                cash provided by (used in) operating activities**
            
            
            40,661,000
            
            
            (12,705,000
            )Cash
                Flows From Investing ActivitiesPurchases
                of securities available-for-sale
            
            
            (7,886,000
            )
            
            -Purchases
                of securities held-to-maturity
            
            
            (875,000
            )
            
            -Proceeds
                from sales of securities available-for-sale
            
            
            -
            
            
            3,844,000Proceeds
                from maturities of securities available-for-sale
            
            
            2,000,000
            
            
            -Proceeds
                from principal payments on mortgage-backed securities
                available-for-sale
            
            
            3,084,000
            
            
            4,683,000Proceeds
                from principal payments on mortgage-backed securities
                held-to-maturity
            
            
            2,357,000
            
            
            3,162,000Purchases
                of restricted stock
            
            
            -
            
            
            (3,338,000
            )Proceeds
                from sale of restricted stock
            
            
            440,000
            
            
            3,131,000Net
                increase in loans
            
            
            (17,944,000
            )
            
            (45,616,000
            )Proceeds
                from sales of equipment
            
            
            85,000
            
            
            71,000Purchases
                of premises and equipment
            
            
            (1,867,000
            )
            
            (2,187,000
            )**Net
                cash used in investing activities**
            
            
            (20,606,000
            )
            
            (36,250,000
            )Cash
                Flows From Financing ActivitiesNet
                proceeds from issuance of common stock
            
            
            149,000
            
            
            12,835,000Dividends
                paid
            
            
            (553,000
            )
            
            (484,000
            )Net
                increase (decrease) in noninterest-bearing deposits
            
            
            6,476,000
            
            
            (1,846,000
            )Net
                (decrease) increase in interest-bearing deposits
            
            
            (11,597,000
            )
            
            49,997,000Proceeds
                from Federal Home Loan Bank Advances
            
            
            -
            
            
            11,070,000Repayment
                of Federal Home Loan Bank Advances
            
            
            (9,756,000
            )
            
            (15,758,000
            )**Net
                cash (used in) provided by financing activities**
            
            
            (15,281,000
            )
            
            55,814,000Increase
                in cash and cash equivalents
            
            
            4,774,000
            
            
            6,859,000Cash
                and Cash Equivalents, beginning
            
            
            18,168,000
            
            
            11,309,000Cash
                and Cash Equivalents, ending
            
            $
            22,942,000
            
            $
            18,168,000Supplemental
                Disclosure of Cash Flow Information:Cash
                paid during the year for:Interest
                on deposits and borrowed funds
            
            $
            10,272,000
            
            $
            7,123,000Income
                  taxes
            
            $
            685,000
            
            $
            1,563,000See
                Notes to Financial Statements.





22





**Note
      1.** **Description
      of Business and Summary of Significant Accounting Policies**




Description
      of Business :
      Sterling Bank (the “Bank”) is a commercial bank, which was incorporated on
      September 1, 1989, and commenced opera-tions on December 7, 1990. The Bank
      is
      chartered by the New Jersey Department of Banking and Insurance and is a member
      of the Federal Reserve System and the Federal Deposit Insurance Corporation.
      The
      Bank maintains its principal office at 3100 Route 38 in Mount Laurel, New Jersey
      and has six other full service branches. The Bank’s primary deposit products are
      checking, savings and term certificate accounts and its primary loan products
      are consumer, residential mortgage and commercial loans.




The
      accounting and financial reporting policies of the Bank conform to accounting
      principles generally accepted in the United States of America and to general
      practices within the banking industry. The policies that materially affect
      the
      determination of financial position, results of operations and cash flows are
      summarized below.




Investment
      Securities :
      Investment securities are classified under one of the following categories
      at
      the date of purchase: “Held-to-Maturity” and accounted for at historical cost,
      adjusted for accretion of discounts and amortization of premiums;
“Available-for-Sale” and accounted for at fair value, with unrealized gains and
      losses reported as a separate component of shareholders’ equity; or “Trading”
and accounted for at fair value, with unrealized gains and losses reported
      as a
      component of net income. Classification is reassessed at each balance sheet
      date. The Bank has not held and does not intend to hold trading
      securities.




At
      December 31, 2006 and 2005, the Bank has identified investment securities that
      will be held for indefinite periods of time, including securities that will
      be
      used as part of the Bank’s asset/liability management strategy and that may be
      sold in response to changes in interest rates, prepayments and similar factors.
      These securities are classified as “available-for-sale” and are carried at fair
      value, with any unrealized gains or temporary losses reported as a separate
      component of other comprehensive income, net of the related income tax effect.




Also,
      at
      December 31, 2006 and 2005, the Bank reported investments in securities, which
      were carried at cost, adjusted for amortization of premiums and accretion of
      discounts. The Bank has the intent and ability to hold these investment
      securities to maturity considering all reasonably foreseeable events or
      conditions. These securities are classified as “held-to-maturity.”




Declines
      in the fair value of individual securities below their cost that are other
      than
      temporary result in write-downs of the individual securities to their fair
      value, are included in noninterest income in the statements of operations.
      Factors affecting the determination of whether an other-than-temporary
      impairment has occurred include a downgrading of the security by a rating
      agency, a significant deterioration in the financial condition of the issuer,
      or
      that the Bank would not have the intent and ability to hold a security for
      a
      period of time sufficient to allow for any anticipated recovery in fair value.




The
      amortization of premiums and accretion of discounts, computed by using the
      interest method over their contractual lives, are recognized in interest income.
      Gains and losses on the sale of such securities are accounted for on the
      specific identification basis.




Restricted
      Stock :
      Restricted stock includes investments in the common stocks of the Federal
      Reserve Bank of Philadelphia, the Federal Home Loan Bank of New York, and the
      Atlantic Central Bankers Bank, for which no markets exists and, accordingly,
      are
      carried at cost.





23





**Note
      1.** **Description
      of Business and Summary of Significant Accounting Policies
      (Continued)**




Loans :
      The
      Bank originates residential mortgage, commercial and consumer loans to customers
      located principally in Burlington County and Camden County in southern New
      Jersey. The ability of the Bank’s debtors to honor their contracts is dependent
      upon general economic conditions in this area, including the real estate market,
      employment conditions and the interest rate market.




Loans
      that management has the intent and ability to hold for the foreseeable future
      or
      until maturity or pay-off generally are reported at their outstanding unpaid
      principal balances adjusted for charge-offs, the allowance for loan losses,
      and
      any deferred fees or costs on originated loans. Interest income is accrued
      on
      the unpaid principal balance. Loan origination fees, net of certain direct
      origination costs, are deferred and recognized as an adjustment to the related
      loan yield using the interest method.




A
      loan is
      considered to be delinquent when payments have not been made according to
      contractual terms, typically evidenced by nonpayment of a monthly installment
      by
      the due date. The accrual of interest on residential mortgage and commercial
      loans is discontinued at the time the loan is 90 days delinquent unless the
      credit is well-secured and in process of collection. Consumer and other personal
      loans are typically charged off no later than 180 days past due. In all cases,
      loans are placed on nonaccrual status or charged-off at an earlier date if
      collection of principal or interest is considered doubtful.




Interest
      accrued but not collected for loans that are placed on nonaccrual status or
      charged off is reversed against interest income. The interest on these loans
      is
      accounted for on the cash-basis or cost-recovery method, until qualifying for
      return to accrual. Loans are returned to accrual status when all the principal
      and interest amounts contractually due are brought current and future payments
      are reasonably assured.




Allowance
      for Loan Losses :
      The
      allowance for loan losses is established as losses are estimated to have
      occurred through a provision for loan losses charged to earnings. Loan losses
      are charged against the allowance when management believes the uncollectibility
      of a loan balance is confirmed. Subsequent recoveries, if any, are credited
      to
      the allowance. The allowance is an amount that management believes will be
      adequate to absorb estimated losses relating to specifically identified loans,
      as well as probable credit losses in the balance of the loan portfolio, based
      on
      an evaluation of the collectibility of existing loans and prior loss
      experience.




The
      allowance for loan losses is evaluated on a regular basis by management and
      is
      based upon management’s periodic review of the collectibility of loans in light
      of changes in the nature and volume of the loan portfolio, overall portfolio
      quality and historical experience, review of specific problem loans, adverse
      situations which may affect borrowers’ ability to repay, estimated value of any
      underlying collateral, prevailing economic conditions, and other factors which
      may warrant current recognition. Such periodic assessments may, in management’s
      judgment, require the Bank to recognize additions or reductions to the
      allowance.




Various
      regulatory agencies periodically review the adequacy of the Bank’s allowance for
      loan losses as an integral part of their examination process. Such agencies
      may
      require the Bank to recognize additions or reductions to the allowance based
      on
      their judgments of information available to them at the time of their
      examination. This evaluation is inherently subjective, as it requires estimates
      that are susceptible to significant revision as more information becomes
      available.




24





**Note
      1.** **Description
      of Business and Summary of Significant Accounting Policies
      (Continued)**




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




Large
      groups of smaller balance homogeneous loans are collectively evaluated for
      impairment. Accordingly, the Bank does not separately identify individual
      residential mortgage and consumer loans for impairment disclosures.




Loans
      Held for Sale :
      Loans
      held for sale consist almost entirely of student loans generated from an
      agreement the Bank has with SLM Corporation. The Bank funds loans made by SLM
      to
      students for a period of 30 to 45 days. SLM is contractually obligated to
      purchase the loans at face value, plus accrued interest, within 45 days. Loans
      held for sale are recorded at the lower of aggregate cost or estimated fair
      value. Interest income is accrued on the unpaid principal balance. SLM has
      reduced the number of loans it funds though us, and we expect that these loans
      will eventually be funded entirely by SLM.




Concentration
      of Credit Risk :
      The
      Bank’s loans are generally to diversified customers in Burlington County and
      Camden County, New Jersey. The concentrations of credit by type of loan are
      set
      forth in Note 4. Generally, loans are collateralized by assets of the borrower
      and are expected to be repaid from the cash flow or proceeds from the sale
      of
      selected assets of the borrower.




Mortgage-backed
      securities held by the Bank generally consist of certificates that are
      guaranteed by an agency of the United States government.




Interest
      Rate Risk :
      The
      Bank is principally engaged in the business of attracting deposits from the
      general public and using these deposits, together with other borrowed funds,
      to
      make commercial, residential mortgage, and consumer loans, and to invest in
      overnight and term investment securities. Inherent in such activities is the
      potential for the Bank to assume interest rate risk, which results from
      differences in the maturities and repricing characteristics of assets and
      liabilities. For this reason, management regularly monitors the level of
      interest rate risk and the poten-tial impact on net income.




Premises
      and Equipment :
      Premises and equipment are stated at cost less accumulated depreciation and
      amortization. Depreciation is computed and charged to expense using the
      straight-line method over the estimated useful lives of the assets. Leasehold
      improve-ments are amortized to expense over the shorter of the term of the
      respective lease or the estimated useful life of the improvements.




Income
      Taxes :
      Deferred income taxes arise principally from the difference between the income
      tax basis of an asset or liability, and its reported amount in the financial
      statements, at the statutory income tax rates expected to be in effect when
      the
      taxes are actually paid or recovered. Deferred income tax assets are reduced
      by
      a valuation allowance when, based on the weight of evidence available, it is
      more likely than not that some portion of the net deferred tax assets may not
      be
      realized.







25




**Note
      1. Description of Business and Summary of Significant Accounting Policies
      (Continued)**




Comprehensive
      Income :
      Accounting principles generally require that recognized revenue, expenses,
      gains
      and losses be included in net income. However, certain changes in assets and
      liabilities, such as unrealized gains and losses on available-for-sale
      securities are reported as a separate component of the equity section of the
      balance sheet. Such items, along with net income, are components of
      comprehensive income.




The
      components of other comprehensive income (loss) and related tax effects for
      2006
      and 2005 are as follows:





2006
            
            2005Unrealized
                holding gains (losses) on available-for-sale securities
            
            $
            290,000
            
            $
            (844,000
            )Reclassification
                adjustment for gains realized in income
            
            
            -
            
            
            (1,000
            )Net
                unrealized gains (losses)
            
            
            290,000
            
            
            (845,000
            )Tax
                effect
            
            
            (116,000
            )
            
            338,000Net-of-tax
                amount
            
            $
            174,000
            
            $
            (507,000
            )





Statement
      of Cash Flows :
      For the
      purpose of the statement of cash flows, cash equivalents are defined as cash
      and
      due from banks and other short-term investments with an original maturity,
      when
      purchased, of ninety days or less. For the purposes of the statement of cash
      flows, the change in loans and deposits are shown on a net basis.




Earnings
      Per Common Share :
      Basic
      earnings per common share are computed by dividing net income by the weighted
      average number of common shares outstanding during the year. Diluted earnings
      per common share consider common share equivalents (when dilutive) outstanding
      during each year. Certain options to purchase common stock were excluded from
      the 2006 and 2005 computation because the exercise prices of such options were
      greater than the average market price of the Bank’s common stock during the
      period. The Bank uses the treasury stock method in calculating diluted earnings
      per common share. Both basic and diluted earnings per share computations give
      retroactive effect to stock dividends declared. Earnings per common share have
      been computed based on the following for the years ended December 31, 2006
      and
      2005:




2006
            
            2005Net
                income
            
            $
            738,000
            
            $
            1,631,000Average
                number of common shares outstanding
            
            
            4,773,000
            
            
            4,192,000Effect
                of dilutive options
            
            
            92,000
            
            
            71,000Average
                number of common shares outstanding used tocalculate
                diluted earnings per common share
            
            
            4,865,000
            
            
            4,263,000







26





**Note
      1.** **Description of business and summary of significant accounting policies** **(** **Continued** **)**




Stock-Based
      Employee Compensation :
      The
      Bank has a stock-based employee compensation plan which is more fully described
      in Note 14. Effective January 1, 2006, the Bank adopted Financial Accounting
      Standards Board ("FASB") Statement No. 123 *Share-Based
      Payment* (Revised
      2004)("SFAS 123R") utilizing the modified prospective approach. SFAS 123R
      generally requires that the Bank record compensation expense equal to the fair
      value of all equity-based compensation over the vesting period of each award.
      Under the modified prospective transition method, the Bank is required to
      recognize compensation cost for 1) all share-based payments granted prior to,
      but not vested as of, January 1, 2006 based on the grant date fair value
      estimated in accordance with the original provisions of SFAS 123; and 2) for
      all
      share-based payments granted on or after January 1, 2006 based on the grant
      date
      fair value estimated in accordance with SFAS 123R. In accordance with the
      modified prospective method, the Bank has not restated prior period
      results.




In
      2005,
      as permitted under generally accepted accounting principles, grants of options
      under the plan were accounted for under the recognition and measurement
      principles of APB Opinion No. 25, *Accounting
      for Stock Issued to Employees* ,
      and
      related Interpretations as permitted by FASB Statement No. 123, *Accounting
      For Stock-Based Compensation* .
      Because
      options granted under the plan had an exercise price equal to or greater than
      the market value of the underlying common stock on the date of grant, no
      stock-based employee compensation expense is included in determining net income
      for 2005 for options issued. In December 2005, the Bank’s Board of Directors
      accelerated the vesting of, and vested, all unvested outstanding options to
      acquire the Bank’s common stock granted in fiscal years 2003, 2004 and 2005,
      totaling approximately 126,000 options that would otherwise vest at various
      times through the end of fiscal 2008 (the “Acceleration”). All other terms and
      conditions of such options remain unchanged as a result of the
      Acceleration.




The
      Board
      of Directors determined that the Acceleration was in the best interests of
      the
      Bank and its stockholders because it reduced compensation expense that the
      Bank
      would otherwise be required to record in future periods when the Bank became
      subject to the requirements of SFAS 123R.





The
      Acceleration meets the criteria for variable accounting. Based upon past
      experience, the Bank believes that the majority of the holders of the options
      subject to the Acceleration will remain employed over the full term of the
      original vesting period. Consequently, the Bank recorded in the fourth fiscal
      quarter ending December 31, 2005, a pre-tax charge to earnings of $16,000,
      in
      the form of compensation expense, related to the Acceleration.





The
      following table illustrates the additional effect on net income and earnings
      per
      share for the year ended December 31, 2005 as if the Bank had applied the fair
      value recognition provisions of Financial Accounting Standards Board (“FASB”)
      Statement No. 123, *Accounting
      for Stock-Based Compensation* ,
      to
      stock-based employee compensation. Both basic and diluted calculations give
      retroactive effect to stock dividends declared.







27




**Note
      1.**  **Description of business and summary of significant accounting policies** **(** **Continued** **)**





2005Net
                income, as reported
            
            $
            1,631,000Deduct
                total stock-based compensation expense determined under the fair
                value
                method forall
                awards, net of tax
            
            
            (494,000
            )Pro
                forma net income
            
            $
            1,137,000Earnings
                per share:Basic:As
                reported
            
            $
            0.39Pro
                forma
            
            $
            0.27Diluted:As
                reported
            
            $
            0.38Pro
                forma
            
            $
            0.27





All
      outstanding stock options as of January 1, 2006 were fully vested and therfore
      no compensation expense was recognized during the year ended December 31, 2006
      for such options. During 2006, the Bank granted 67,307 options with an average
      exercise price of $11.08 to employees that vest in equal annual installments
      over ten years. The Bank uses the Black-Scholes option pricing model to estimate
      the fair value of stock-based awards. The average estimated value per option
      awarded in 2006 was $3.54 based on the following assumptions: risk free interest
      rate of 5.0%, dividend yield of 1.0%, expected volatility of 20% and expected
      life of options of eight years. Compensation cost relating to the equity awards
      charged to expense for 2006 was $12,000.





As
      of
      December 31, 2006, there was approximately $221,000 of total unrecognized
      compensation cost related to unvested stock option awards which is expected
      to
      be recognized over a weighted average period of 9.5 years. The 67,307 options
      granted during 2006 remain unvested at December 31, 2006.





Use
      of
      Estimates :
      The
      preparation of financial statements requires management to make estimates and
      assumptions that affect the reported amounts of assets and liabilities and
      disclosure of contingent assets and liabilities at the date of the financial
      statements and reported amounts of revenues and expenses during the reporting
      period. Actual results could differ from those estimates. A material estimate
      that is particularly susceptible to significant change in the near term is
      the
      determination of the allowance for loan losses.




Recent
      Accounting Pronouncements :




*FIN
      48 Accounting for Uncertainty in Income Taxes and Related Interpretation
      Issues*





In
      July
      2006, FASB published FASB Interpretation No. 48, “ *Accounting
      for Uncertainty in Income Taxes and Related Interpretation
      Issues* ”
(“FIN
      48”). FIN 48 prescribes a comprehensive model for how a company should
      recognize, measure, present, and disclose in its financial statements uncertain
      tax positions that the company has taken or expects to take on a tax return
      (including a decision whether to file or not to file a return in a particular
      jurisdiction). According to the terms of FIN 48, the financials will reflect
      expected future tax consequences of such positions presuming the taxing
      authorities’ full knowledge of the position and all relevant facts, but without
      time values. The Bank will be required to adopt the provisions of FIN 48 as
      of
      the beginning of its first annual period that begins after December 15, 2006,
      which will be the year ending December 31, 2007. The adoption of FIN 48 is
      not
      expected to have a material impact on the Bank.




28


**Note
      1.**  **Description of business and summary of significant accounting policies** **(** **Continued** **)**





*Statement
      No. 157 Fair Value Measurements (“SFAS No. 157”)*




In
      September 2006, the FASB issued SFAS No. 157, which defines fair value,
      establishes a framework for measuring fair value under GAAP, and expands
      disclosures about fair value measures. SFAS No. 157 is effective for fiscal
      years beginning after November 15, 2007, with early adoption encouraged. The
      Bank will adopt the provisions of SFAS No. 157 on a prospective basis, with
      the
      exception of certain financial instruments for which retrospective application
      is required. The adoption of SFAS No. 157 is not expected to materially affect
      the Bank’s financial position or results of operations.




*Statement
      No. 159 The Fair Value Option for Financial Assets and Financial Liabilities
      (“SFAS No. 159”)*




In
      February 2007, the FASB issued SFAS No. 159, which permits entities to choose
      to
      measure many financial instruments and certain other items at fair value that
      are not currently required to be measured at fair value. SFAS No. 159 is
      effective for fiscal years beginning after November 15, 2007, with early
      adoption permitted provided the entity also elects to apply the provisions
      of
      SFAS No. 157. The Bank is currently evaluating the impact, if any, of SFAS
      No.
      159 on its financial position and results of operations.




**Note
      2.** **Concentration
      of Credit Risk**




The
      Bank
      maintains various deposit accounts with other banks to meet normal funds
      transaction requirements, to satisfy deposit reserve requirements, and to
      compensate other banks for certain correspondent services. These accounts are
      insured by the Federal Deposit Insurance Corporation up to $100,000 per account.
      Management is responsible for assessing the credit risk of its correspondent
      banks. The withdrawal or usage restrictions of these accounts did not have
      a
      significant impact on the operations of the Bank as of December 31,
      2006.




**Note
      3.** **Investment
      Securities**




The
      Bank’s investment securities as of December 31, 2006 and 2005 were as
      follows:




2006Gross
            
            Gross
            
            EstimatedAmortized
            
            Unrealized
            
            Unrealized
            
            FairCost
            
            Gains
            
            Losses
            
            ValueAvailable-for-saleU.S.
                Government agencies and corporations
            
            $
            30,263,000
            
            $
            11,000
            
            $
            (715,000
            )
            $
            29,559,000Mortgage-backed
                securities
            
            
            13,856,000
            
            
            14,000
            
            
            (301,000
            )
            
            13,569,000Municipal
                securities
            
            
            4,507,000
            
            
            -
            
            
            (109,000
            )
            
            4,398,000Total
                securities available-for-sale
            
            $
            48,626,000
            
            $
            25,000
            
            $
            (1,125,000
            )
            $
            47,526,000Held-to-maturityU.S.
                Government agencies and corporations
            
            $
            25,000
            
            $
            -
            
            $
            -
            
            $
            25,000Mortgage-backed
                securities
            
            
            8,392,000
            
            
            1,000
            
            
            (206,000
            )
            
            8,187,000Municipal
                securities
            
            
            875,000
            
            
            -
            
            
            -
            
            
            875,000Total
                securities held-to-maturity
            
            $
            9,292,000
            
            $
            1,000
            
            $
            (206,000
            )
            $
            9,087,000






29




**Note
                3. Investment Securities ( Continued)**2005Gross
            
            Gross
            
            EstimatedAmortized
            
            Unrealized
            
            Unrealized
            
            FairCost
            
            Gains
            
            Losses
            
            ValueAvailable-for-saleU.S.
                Government agencies and corporations
            
            $
            27,260,000
            
            $
            -
            
            $
            (806,000
            )
            $
            26,454,000Mortgage-backed
                securities
            
            
            14,937,000
            
            
            4,000
            
            
            (423,000
            )
            
            14,518,000Municipal
                securities
            
            
            3,675,000
            
            
            -
            
            
            (165,000
            )
            
            3,510,000Total
                securities available-for-sale
            
            $
            45,872,000
            
            $
            4,000
            
            $
            (1,394,000
            )
            $
            44,482,000Held-to-maturityU.S.
                Government agencies and corporations
            
            $
            25,000
            
            $
            -
            
            $
            -
            
            $
            25,000Mortgage-backed
                securities
            
            
            10,787,000
            
            
            -
            
            
            (319,000
            )
            
            10,468,000Total
                securities held-to-maturity
            
            $
            10,812,000
            
            $
            -
            
            $
            (319,000
            )
            $
            10,493,000




The
      amortized cost and estimated market value of debt securities at December 31,
      2006 by contractual maturities are shown below. Expected maturities may differ
      from contractual maturities for mortgage-backed securities because the mortgages
      underlying the securities may be called or prepaid without any penalties;
      therefore, these securities are not included in the maturity categories in
      the
      following maturity schedule.




December
                31, 2006Available-for-sale
            
            Held-to-maturityAmortized
            
            Estimated
            
            Amortized
            
            EstimatedCost
            
            Fair
                Value
            
            Cost
            
            Fair
                ValueMaturing
                within one year
            
            $
            1,000,000
            
            $
            987,000
            
            $
            900,000
            
            $
            900,000Maturing
                after one year, but within five years
            
            
            25,513,000
            
            
            24,870,000
            
            
            -
            
            
            -Maturing
                after five years, but within ten years
            
            
            5,021,000
            
            
            4,920,000
            
            
            -
            
            
            -Maturing
                after ten years
            
            
            3,236,000
            
            
            3,180,000
            
            
            -
            
            
            -Mortgage-backed
                securities
            
            
            13,856,000
            
            
            13,569,000
            
            
            8,392,000
            
            
            8,187,000Total
                securities
            
            $
            48,626,000
            
            $
            47,526,000
            
            $
            9,292,000
            
            $
            9,087,000






30





There
      were no sales of investment securities in 2006. Proceeds from sales of
      in-vestment securities available-for-sale during 2005 were $3,844,000. Gross
      gains of $1,000 were realized on those transactions. Realized gains and losses
      are determined on the specific identification method and are included in
      noninterest income.





Securities
      with a carrying value of $12,302,000 and $48,135,000 were pledged to secure
      public deposits and Federal Home Loan Bank advances at December 31, 2006 and
      2005, respectively.




Included
      in “Interest and dividends on securities” in the Statements of Operations was
      $172,000 and $199,000 of tax-exempt interest income for 2006 and 2005,
      respectively.














31





**Note
      3.** **Investment
      Securities (Continued)**




The
      fair
      value of securities with unrealized losses by length of time that the individual
      securities have been in a continuous loss position at December 31, 2006, is
      as
      follows:




Continuous
                Unrealized Losses
            
            Continuous
                Unrealized Losses ExistingExisting
                for Less Than 12 Months
            
            for
                More Than 12 MonthsUnrealized
            
            
            
            UnrealizedFair
                Value
            
            Losses
            
            Fair
                Value
            
            LossesAvailable-for-sale:U.S.
                Government agencies and corporations
            
            $
            -
            
            $
            -
            
            $
            26,548,000
            
            $
            (715,000
            )Mortgage-backed
                securities
            
            
            -
            
            
            -
            
            
            11,358,000
            
            
            (301,000
            )Municipal
                securities
            
            
            528,000
            
            
            (2,000
            )
            
            3,568,000
            
            
            (107,000
            )528,000
            
            
            (2,000
            )
            
            41,474,000
            
            
            (1,123,000
            )Held-to-maturity:Mortgage-backed
                securities
            
            
            -
            
            
            -
            
            
            7,891,000
            
            
            (206,000
            )Total
                temporarily impaired securities
            
            $
            528,000
            
            $
            (2,000
            )
            $
            49,413,000
            
            $
            (1,329,000
            )





At
      December 31, 2006, 29 U.S. Government agencies and corporations, 42
      mortgage-backed securities and 6 municipal securities were in an unrealized
      loss
      position. Of those, 76 securities were in an unrealized loss position for one
      year or more. Management believes that the deterioration in value is
      attributable to changes in market interest rates and not the credit quality
      of
      the issuer. This factor, coupled with the fact the Bank has both the intent
      and
      ability to hold securities for a period of time sufficient to allow for any
      anticipated recovery in fair value, substantiates that the unrealized losses
      in
      the available-for-sale portfolio are temporary.




The
      fair
      value of securities with unrealized losses by length of time that the individual
      securities have been in a continuous loss position at December 31, 2005, is
      as
      follows:




Continuous
                Unrealized Losses
            
            Continuous
                Unrealized Losses ExistingExisting
                for Less Than 12 Months
            
            for
                More Than 12 MonthsUnrealized
            
            
            
            UnrealizedFair
                Value
            
            Losses
            
            Fair
                Value
            
            LossesAvailable-for-sale:U.S.
                Government agencies and corporations
            
            $
            6,347,000
            
            $
            (122,000
            )
            $
            20,107,000
            
            $
            (684,000
            )Mortgage-backed
                securities
            
            
            1,726,000
            
            
            (32,000
            )
            
            12,475,000
            
            
            (391,000
            )Municipal
                securities
            
            
            -
            
            
            -
            
            
            3,510,000
            
            
            (165,000
            )8,073,000
            
            
            (154,000
            )
            
            36,092,000
            
            
            (1,240,000
            )Held-to-maturity:Mortgage-backed
                securities
            
            
            1,623,000
            
            
            (31,000
            )
            
            8,845,000
            
            
            (288,000
            )Total
                temporarily impaired securities
            
            $
            9,696,000
            
            $
            (185,000
            )
            $
            44,937,000
            
            $
            (1,528,000
            )







32


**Note
      4.** **Loans**




The
      composition of net loans as of December 31, 2006 and 2005 are as
      follows:




2006
            
            2005Commercial
            
            $
            167,581,000
            
            $
            154,046,000Consumer
            
            
            48,018,000
            
            
            41,175,000Residential
                mortgage
            
            
            27,684,000
            
            
            30,117,000Total
                loans
            
            
            243,283,000
            
            
            225,338,000Less:
                allowance for loan losses
            
            
            (1,760,000
            )
            
            (1,154,000
            )Net
                loans
            
            $
            241,523,000
            
            $
            224,184,000




**Note
      5.** **Loans
      to Related Parties**




Loans
      to
      related parties include loans made to executive officers, directors and their
      affiliated interests. Management believes that the Bank has not entered into
      any
      transactions with these individuals or entities that were less favorable to
      the
      Bank than they would have been for similar transactions with other
      borrowers.




An
      analysis of the activity in related party loans for 2006 and 2005 is as
      follows:




2006
            
            2005Balance,
                beginning of year
            
            $
            4,870,000
            
            $
            8,807,000Additions
            
            
            3,118,000
            
            
            3,218,000Payments
            
            
            (3,089,000
            )
            
            (4,765,000
            )Reclassification
                as non-related party
            
            
            -
            
            
            (2,390,000
            )Balance,
                end of year
            
            $
            4,899,000
            
            $
            4,870,000




At
      December 31, 2006 and 2005, these loans are current as to payment of principal
      and interest.




In
      addition, the Bank has financial instruments with off-balance sheet risk with
      certain related parties including loan commitments made to executive officers,
      directors and their affiliated interests. As of December 31, 2006 and 2005,
      commitments to extend credit and unused lines of credit amounted to
      approximately $1,761,000 and $2,106,000, respectively. Standby letters of credit
      were approximately $290,000 as of both December 31, 2006 and 2005. These amounts
      are included in loan commitments and standby letters of credit (Note
      7).




**Note
      6.** **Allowance
      for Loan Losses**




Changes
      in the allowance for loan losses for the years ended December 31, 2006 and
      2005
      are as follows:




2006
            
            2005Balance,
                beginning of year
            
            $
            1,154,000
            
            $
            913,000Provision
                for loan losses
            
            
            605,000
            
            
            284,000Loans
                charged off
            
            
            (1,000
            )
            
            (45,000
            )Recoveries
                of loans previously charged off
            
            
            2,000
            
            
            2,000Balance,
                end of year
            
            $
            1,760,000
            
            $
            1,154,000






33




**Note
      6.** **Allowance
      for Loan Losses (Continued)**




At
      December 31, 2006 and 2005, the carrying value of impaired loans was $3,759,000
      and $0, respectively. The average recorded investment in impaired loans during
      2006 and 2005 was $698,000 and $108,000, respectively. Such loans are valued
      based on the present value of expected future cash flows discounted at the
      loans’ effective interest rates and/or the fair value of collateral if a loan is
      collateral dependent. No specific allocations were included in the allowance
      for
      loan losses at December 31, 2006 and 2005 for these loans. At December 31,
      2006
      and 2005, loans past due 90 days or more and still accruing interest were
      $178,000 and $447,000, respectively. Total non-accruing loans were $268,000
      at
      December 31, 2006 and $0 at December 31, 2005.




**Note
      7.** **Loan
      Commitments and Standby Letters of Credit**




The
      Bank
      is a party to financial instruments with off-balance-sheet risk in the normal
      course of business to meet the financing needs of its customers. These financial
      instruments include commitments to extend credit, including unused portions
      of
      lines of credit, and standby letters of credit, which are conditional
      commit-ments issued by the Bank to guarantee the performance of an obligation
      of
      a customer to a third party. Both arrangements have credit risk essentially
      the
      same as that involved in extending loans, and are subject to the Bank’s normal
      credit policies. Collateral may be obtained based on management’s credit
      assessment of the customer. The Bank’s exposure to credit loss in the event of
      nonperformance by the other party to the financial instrument is represented
      by
      the contractual amount of those instruments.




As
      of
      December 31, 2006 and 2005, commitments to extend credit and unused lines of
      credit amounted to approximately $56,131,000 and $54,865,000, respectively,
      and
      standby letters of credit were approximately $5,720,000 and $2,001,000,
      respectively. During 2006 and 2005, the majority of these commitments and
      standby letters of credit were at a variable rate of interest.




Such
      commitments generally have fixed expiration dates or other termination clauses.
      Since many commitments are expected to expire without being drawn upon, the
      total commitment amounts do not necessarily represent future cash
      requirements.




**Note
      8.** **Bank
      Premises and Equipment**




Bank
      premises and equipment at December 31, 2006 and 2005 consisted of the
      following:




2006
            
            2005Land
            
            $
            1,004,000
            
            $
            1,004,000Premises
                and improvements
            
            
            6,285,000
            
            
            5,272,000Furniture
                and equipment
            
            
            4,141,000
            
            
            3,916,000Total
                premises and equipment, at cost
            
            
            11,430,000
            
            
            10,192,000Less:
                accumulated depreciation and amortization
            
            
            (4,508,000
            )
            
            (4,109,000
            )Premises
                and equipment, net
            
            $
            6,922,000
            
            $
            6,083,000




The
      estimated useful lives for calculating deprecia-tion and amortization on
      furniture and equipment are between three and seven years. Premises and
      leasehold improvements are depreciated over the lesser of the economic life
      or
      the term of the related lease, generally ranging from three to twenty-five
      years.








34




**Note
      8.** **Bank
      Premises and Equipment (Continued)**




The
      Bank
      is obligated under a non-cancelable lease agreement (“1995 Lease”) with respect
      to land and building used for its main branch. The term of the 1995 Lease is
      20
      years with two 10-year renewal options. Rental payments under this lease
      commenced in January 1996. The lease payments increase through the initial
      20-year term in accordance with changes in the National Consumer Price Index.
      In
      addition, the Bank is responsible for real estate taxes, insurance, utilities,
      and maintenance and repair costs.




During
      1999, the Bank entered into a long-term operating lease of another bank building
      used for one of its branches beginning in June 2000. The term of the lease
      is
      for twenty-five years through May 2025 with two five-year renewal
      options.




During
      2005, the Bank renewed an operating lease for an administrative facility
      beginning in August 2005. The term of the lease is for three years through
      July
      2008.




During
      2005, the Bank entered into a long-term operating lease of another bank building
      used for one of its branches beginning in December 2005. The term of the lease
      is for fifteen years through November 2020 with five five-year renewal
      options.




During
      2006, the Bank entered into a long-term operating lease of a building in Delran
      Township, pending completion of its construction, to be used for a new branch.
      The Delran branch is expected to begin operations in 2007. The term of the
      lease
      is for twenty years with four five-year renewal options.




The
      Bank
      is required to pay operating expenses for all leased properties. At December
      31,
      2006, the required future minimum rental payments under these leases (not
      including the future Delran Township location) are as follows:




Years
                Ending December 31,2007
            
            $
            568,0002008
            
            
            524,0002009
            
            
            461,0002010
            
            
            470,0002011
            
            
            483,000Thereafter
            
            
            3,836,000$
            6,342,000




Rent
      expense was $610,000 and $496,000 in 2006 and 2005, respectively.







35




**Note
      9.** **Deposits**




Deposits
      at December 31, 2006 and 2005 consisted of the following:




2006
            
            2005Demand
                deposits, noninterest-bearing
            
            $
            39,021,000
            
            $
            32,545,000Demand
                deposits, interest-bearing
            
            
            48,593,000
            
            
            59,638,000Savings
                deposits
            
            
            27,195,000
            
            
            20,267,000Time
                deposits of $100,000 or more
            
            
            34,197,000
            
            
            46,725,000Other
                time deposits
            
            
            146,284,000
            
            
            141,236,000Total
                deposits
            
            $
            295,290,000
            
            $
            300,411,000





At
      December 31, 2006, the scheduled maturities of time deposits are as
      follows:





Years
                Ending December 31,2007
            
            $
            154,837,0002008
            
            
            20,688,0002009
            
            
            4,258,0002010
            
            
            461,0002011
            
            
            237,000$
            180,481,000





Interest
      expense on time deposits of $100,000 or more was approximately $1,716,000 and
      $1,121,000 for the years ended December 31, 2006 and 2005,
      respectively.





**Note
      10.** **Borrowed
      Funds and Availability Under Lines of Credit**




The
      Bank
      is a member of the Federal Home Loan Bank of New York. Such membership permits
      the Bank to obtain funding in the form of advances. At December 31, 2006 and
      2005, there were $5,885,000 and $15,641,000, respectively, in advances
      outstanding.





Borrowed
      funds outstanding at December 31, 2006 mature in 2007 and bear interest at
      fixed
      rates ranging from 2.62% to 5.28%.






36





Federal
      Home Loan Bank of New York advances require the Bank to provide collateral,
      which may be in the form of a blanket lien on the Bank’s assets or through a
      pledge, assignment, or delivery of specific assets. At December 31, 2006 and
      2005, investment securities with a carrying value of $6,775,000 and $21,160,000
      were pledged, assigned, and delivered as collateral for outstanding advances.
      These advances cannot be prepaid without penalty. The agreement also requires
      that the Bank maintain a certain percentage of its assets in home mortgage
      assets, which may include mortgage-backed securities, and that the Bank purchase
      a certain amount of Federal Home Loan Bank of New York common stock. Both
      requirements follow formulas established by the Federal Home Loan Bank of New
      York.




The
      Bank
      maintains the ability to borrow funds on an overnight basis under secured and
      unsecured lines of credit with correspondent banks. At December 31, 2006 and
      2005, the aggregate availability under such lines of credit was $87,714,000
      and
      $64,500,000, respectively. At December 31, 2006 and 2005, there were no
      outstanding borrowings.




**Note
      11.** **Shareholders’
      Equity**




The
      Bank
      paid a 5% common stock dividend on September 8, 2006 to shareholders of record
      on August 25, 2006. Pursuant to regulatory approval, this transaction was
      recorded as a transfer from additional paid-in capital to common stock based
      on
      the common stock’s $2 par value.





During
      2006, 19,935 shares of common stock were issued upon the exercise of stock
      options raising approximately $149,000.





During
      2005, the Bank increased the number of common shares authorized to 15,000,000
      from 5,000,000.





During
      2005 and 2006, the Bank declared and paid a quarterly cash dividend of $0.03
      per
      common share.





The
      Bank
      paid a 5% common stock dividend on August 12, 2005 to shareholders of record
      on
      July 29, 2005. Pursuant to regulatory approval, this transaction was recorded
      as
      a transfer from additional paid-in capital to common stock based on the common
      stock’s $2 par value.





During
      2005, the Bank completed a stock offering raising approximately $12,794,000,
      net
      of related costs. 1,437,500 shares were issued at $9.75 per share. In addition,
      5,769 shares of common stock were issued upon the exercise of stock options
      raising approximately $41,000.





**Note
      12.** **Income
      Taxes**




The
      net
      deferred tax asset, which is included in “Accrued interest receivable and other
      assets”, at December 31, 2006 and 2005, includes the following:




2006
            
            2005Deferred
                tax assets
            
            $
            1,168,000
            
            $
            939,000Deferred
                tax liabilities
            
            
            (237,000
            )
            
            (278,000
            )Net
                deferred tax asset
            
            $
            931,000
            
            $
            661,000




Income
        tax expense for the years ended December 31, 2006 and 2005 consisted of the
        following:
  2006
              
              2005Current
                  tax expenseFederal
              
              $
              592,000
              
              $
              856,000State
              
              
              246,000
              
              
              222,000Deferred
                  tax benefit
              
              
              (386,000
              )
              
              (112,000
              )$
              452,000
              
              $
              966,000


37




**Note
      12.** **Income
      Taxes (Continued)**




Income
      tax expense differs from the expected statutory expense principally due to
      non-taxable interest income earned by the Bank. A reconciliation of the Bank’s
      effective income tax rate with the Federal rate for 2006 and 2005 is as
      follows:




2006
            
            2005Tax
                expense at statutory rate (35%)
            
            $
            417,000
            
            $
            909,000Tax
                free interest income
            
            
            (62,000
            )
            
            (71,000
            )Permanent
                difference and other, net
            
            
            (15,000
            )
            
            7,000State
                income taxes, net of federal tax benefit
            
            
            124,000
            
            
            147,000Benefit
                of income taxed at lower rates
            
            
            (12,000
            )
            
            (26,000
            )$
            452,000
            
            $
            966,000





The
      tax
      effects of temporary differences between the book and tax basis of assets and
      liabilities which give rise to the Bank’s net deferred tax asset are as
      follows:




2006
            
            2005Allowance
                for loan losses
            
            $
            721,000
            
            $
            383,000Securities
                available-for-sale
            
            
            440,000
            
            
            556,000Other
            
            
            (163,000
            )
            
            (124,000
            )Property
                and equipment
            
            
            (67,000
            )
            
            (154,000
            )Net
                deferred tax asset
            
            $
            931,000
            
            $
            661,000




Realization
      of deferred tax assets is dependent on generating sufficient taxable income.
      Although realization is not assured, management estimates that it is probable
      that all of the net deferred tax asset will be realized. However, the amount
      of
      the net deferred tax asset considered realizable could be reduced if estimates
      of future taxable income in the foreseeable future are reduced.






38




**Note
      13.** **Regulatory
      Matters**




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




Quantitative
      measures established by regulation to ensure capital adequacy require the Bank
      to maintain minimum amounts and ratios (set forth in the following table) of
      total and Tier I capital (as defined in the regulations) to risk-weighted assets
      (as defined), and of Tier I capital (as defined) to average assets (as defined).
      Management believes, as of December 31, 2006 and 2005, that the Bank met all
      capital adequacy requirements to which it is subject.












39





**Note
      13.** **Regulatory
      Matters (Continued)**




As
      of
      September 30, 2006, the most recent notification from the Federal Reserve Bank
      and the New Jersey Department of Banking and Insurance categorized the Bank
      as *well*  *capitalized* under
      the regulatory framework for prompt correction action. To be categorized as *well
      capitalized* the Bank
      must maintain minimum total risk-based, Tier I risk-based, and Tier I leverage
      ratios as set forth in the following table.




At
      December 31, 2006, the Bank’s actual capital amounts and ratios are presented in
      the following table:





To
                Be WellCapitalized
                UnderFor
                Capital
            
            Prompt
                CorrectiveActual
            
            Adequacy
                Purposes
            
            Action
                ProvisionsAmount
            Ratio
            
            Amount
            
            Ratio
            
            Amount
            
            RatioTotal
                Capital(To
                Risk Weighted Assets)
            $
                37,263,000
            13.77%
            >
            $
                21,649,000
            >
            8.0%
            >
            $
                27,062,000
            >
            10.0%Tier
                1 Capital(To
                Risk Weighted Assets)
            $
                35,428,000
            13.09%
            >
            $
                10,825,000
            >
            4.0%
            >
            $
                16,237,000
            >
            6.0%Tier
                1 Capital(to
                Average Assets)
            $
                35,428,000
            10.39%
            >
            $
                13,634,000
            >
            4.0%
            >
            $17,043,000
            >
            5.0%





At
      December 31, 2005, the Bank’s actual capital amounts and ratios are presented in
      the following table:





To
                Be WellCapitalized
                UnderFor
                Capital
            
            Prompt
                CorrectiveActual
            
            Adequacy
                Purposes
            
            Action
                ProvisionsAmount
            Ratio
            
            Amount
            
            Ratio
            
            Amount
            
            RatioTotal
                Capital(To
                Risk Weighted Assets)
            $
                36,298,000
            12.67%
            >
            $
                22,913,000
            >
            8.0%
            >
            $
                28,641,000
            >
            10.0%Tier
                1 Capital(To
                Risk Weighted Assets)
            $
                35,082,000
            12.25%
            >
            $
                11,456,000
            >
            4.0%
            >
            $
                17,185,000
            >
            6.0%Tier
                1 Capital(to
                Average Assets)
            $
                35,082,000
            10.20%
            >
            $
                13,757,000
            >
            4.0%
            >
            $
                17,196,000
            >
            5.0%





Restriction
      on the Payment of Dividends :
      Certain
      limitations exist on the availability of the Bank’s undistributed net assets for
      the payment of cash dividends without prior approval from regulatory
      authorities. During 2006 and 2005, cash dividends were declared and paid in
      the
      amount of $553,000 and $482,000, respectively. Subsequent to December 31, 2006,
      the Bank declared a cash dividend of $0.03 per common share payable on February
      21, 2007 to shareholders of record as of February 5, 2007.







40




**Note
      14.** **Benefit
      Plans**




Savings
      Plan :
      The
      Bank maintains a defined contribution savings plan under Section 401(k) of
      the
      Internal Revenue Code for its eligible employees. Under the Plan, employee
      contributions, up to 6% of gross salary, are matched in part at the discretion
      of the Bank. Employee and matching contributions are immediately vested. During
      2006 and 2005, the Bank made approximately $98,000 and $91,000, respectively,
      in
      matching contributions. The Bank may elect to make an additional discretionary
      profit sharing contribution to the Plan each calendar year. Such contributions
      would be vested based on length of credited service. No discretionary
      contributions were made in 2006 or 2005.




Stock
      Option Plan :
      All
      stock option amounts and prices included in the following discussion have been
      adjusted for all stock dividends through December 31, 2006 (Note
      12).




In
      1994,
      the shareholders approved the Sterling Bank 1994 Employee Stock Option Plan.
      Reserved for issuance upon the exercise of options granted or to be granted
      by
      an Option Committee of the Board of Directors is an aggregate of 15,459 shares
      of common stock.




In
      1998,
      the shareholders approved the Sterling Bank 1998 Employee Stock Option Plan
      and
      the Sterling Bank 1998 Director Stock Option Plan (collectively the “Plans”).
      The Plans are qualified as an “incentive stock option plan” under Section 422 of
      the Internal Revenue Code. Reserved for issuance upon the exercise of options
      granted or to be granted by an Option Committee of the Board of Directors is
      an
      aggregate of 94,736 shares of common stock for the Employee Plan and 59,098
      shares of common stock for the Director Plan.




In
      2003,
      the shareholders approved the Sterling Bank 2003 Employee Stock Option Plan.
      Reserved for issuance upon the exercise of options granted or to be granted
      by
      an Option Committee of the Board of Directors is an aggregate of 339,624 shares
      of common stock for this Plan.




Information
      regarding stock options outstanding at December 31, 2006 and 2005 is as
      follows:




Weighted
                AverageNumber
            
            Weighted
                Average
            
            Remaining
            
            Aggregateof
                Shares
            
            Exercise
                Price
            
            Contractual
                Term
            
            Intrinsic
                ValueOutstanding,
                December 31, 2004
            
            
            348,960
            
            $
            8.26Granted
            
            
            64,243
            
            $
            10.09Expired/terminated
            
            
            (3,357
            )
            $
            9.28Exercised
            
            
            (5,769
            )
            $
            7.25Outstanding,
                December 31, 2005
            
            
            404,077
            
            $
            8.55Granted
            
            
            67,307
            
            $
            11.08Expired/terminated
            
            
            (15,035
            )
            $
            9.53Exercised
            
            
            (19,935
            )
            $
            7.85Outstanding,
                December 31, 2006
            
            
            436,414
            
            $
            8.94
            
            
            6.5
            
            $
            895,000Exercisable
                at December 31, 2006
            
            
            369,107
            
            $
            8.55
            
            
            5.9
            
            $
            901,000










41




**Note
      14.** **Benefit
      Plans (Continued)**




The
      total
      intrinsic value of options exercised during the years ended December 31, 2006
      and 2005 was $67,000 and $18,000, respectively. No options vested during
      2006.





A
      summary
      of unvested stock options outstanding at December 31, 2006 is as
      follows:





Weighted
                AverageGrant
                DateShares
            
            Fair
                ValueUnvested
                stock options:Outstanding
                at January 1, 2006
            
            
            -
            
            $
            -Granted
            
            
            67,307
            
            $
            3.55Exercised/forfeited
            
            
            -
            
            $
            -Outstanding
                at December 31, 2006
            
            
            67,307
            
            $
            3.55





The
      weighted average grant date fair value of options granted during 2006 and 2005
      was $3.55 and $2.47, respectively.





In
      2005,
      the Bank adopted the disclosure-only provisions of FASB Statement No. 123.
      In
      December 2005, the Bank’s Board of Directors approved the acceleration of the
      vesting period of all remaining options then issued and recognized approximately
      $16,000 in compensation cost as a result. Additional compensation cost that
      would have been recognized using the fair value method pursuant to FASB No.
      123,
      if the Bank had so elected, would have been approximately $494,000 in 2005,
      which included $364,000 in 2005 related to the acceleration of vesting
      requirements for the stock options awarded in 2003, 2004 and 2005. In January
      2006, the Bank adopted FASB Statement No. 123(R) and recognized $12,000 in
      compensation costs in 2006 as a result. The Bank used an option pricing model
      in
      determining actual and pro forma compensation cost for 2006 and 2005,
      respectively. The weighted average estimated value per option was $3.54 in
      2006
      and $3.05 in 2005. The fair values of options granted in 2006 and 2005 were
      estimated at the date the grant based on the following assumptions: risk free
      interest rate of 4-5%, volatility of 20-25%, expected life of options of 7-8
      years and expected payment of dividends of $0.03 per share per quarter. See
      Note
      1.




**Note
      15.** **Commitments
      and Contingencies**




The
      Bank
      has entered into “change in control” agreements with certain key members of
      management, which provide for continued payment of certain employment salaries
      and benefits in the event of a change in control, as defined.




The
      Bank
      is from time to time a party to routine litigation in the normal course of
      its
      business. Management does not believe that the resolution of this litigation
      will have a material adverse effect on the financial condition or results of
      operations of the Bank. However, the ultimate outcome of any such litigation,
      as
      with litigation generally, is inherently uncertain and it is possible that
      some
      litigation matters may be resolved adversely to the Bank. At December 31, 2006,
      the Bank was not a party to any material legal proceedings.







42




**Note
      16.** **Fair
      Value of Financial Instruments**




The
      following fair value estimates, methods and assumptions were used to measure
      the
      fair value of each class of financial instruments for which it is practical
      to
      estimate that value.




Cash
      and Cash Equivalents :
      The
      carrying amounts of cash and federal funds sold approximate fair
      value.




Investment
      Securities :
      The
      carrying amounts for short-term investments approximate fair value because
      they
      mature in 90 days or less and do not present unanticipated credit concerns.
      The
      fair value of longer-term investments is based on quoted market prices, where
      available. If quoted market prices are not available, fair values are based
      on
      quoted market prices of comparable instruments. The carrying value of restricted
      stock approximates fair value based on redemption provisions.




Loans :
      Fair
      values are estimated for portfolios of loans with similar financial
      characteristics. Loans are segregated by type such as commercial, residential
      mortgage and other consumer. Each loan category is further segmented into groups
      by fixed and adjustable rate interest terms and by performing and non-performing
      categories.




The
      fair
      value of performing loans is typically calculated by discounting scheduled
      cash
      flows through their estimated maturity, using estimated market discount rates
      that reflect the credit and interest rate risk inherent in each group of loans.
      The estimate of maturity is based on contractual maturities for loans within
      each group, or on the Bank’s historical experience with repayments for each loan
      classification, modified as required by an estimate of the effect of current
      economic conditions.





Fair
      value for nonperforming loans is based on the discounted value of expected
      future cash flows, discounted using a rate commensurate with the risk associated
      with the likelihood of repayment and/or the fair value of collateral (if
      repayment of the loan is collateral dependent).




For
      all
      loans, assumptions regarding the characteristics and segregation of loans,
      maturities, credit risk, cash flows, and discount rates are judgmentally
      determined using specific borrower and other available information.




The
      carrying amounts reported for loans held for sale approximates fair
      value.




Accrued
      Interest Receivable and Payable :
      The
      fair value of interest receivable and payable is estimated to approximate the
      carrying amounts.




Deposits :
      In
      accordance with the SFAS No. 107, the fair value of deposits with no stated
      maturity, such as noninterest-bearing demand deposits, savings, NOW and money
      market accounts, is equal to the amount payable on demand. The fair value of
      time deposits is based on the discounted value of contractual cash flows, where
      the discount rate is estimated using the rates currently offered for deposits
      of
      similar remaining maturities.




Borrowed
      Funds :
      The
      fair value of borrowings is calculated by discounting scheduled cash flows
      through the estimated maturity date using current market rates.




43




**Note
      16.** **Fair
      Value of Financial Instruments (Continued)**




Estimated
      Fair Values :
      The
      estimated fair values of the Bank’s material financial instruments as of
      December 31, 2006 are as follows:




Carrying
                Value
            
            Fair
                ValueFinancial
                Assets:Cash
                and due from banks
            
            $
            16,064,000
            
            $
            16,064,000Federal
                funds sold
            
            $
            6,878,000
            
            $
            6,878,000Investment
                securities, held-to-maturity
            
            $
            9,292,000
            
            $
            9,087,000Investment
                securities, available-for-sale
            
            $
            47,526,000
            
            $
            47,526,000Restricted
                stock
            
            $
            1,436,000
            
            $
            1,436,000Loans
                held for sale
            
            $
            1,618,000
            
            $
            1,618,000Loans,
                net of allowance for loan losses
            
            $
            241,523,000
            
            $
            236,952,000Accrued
                interest receivable
            
            $
            1,551,000
            
            $
            1,551,000Financial
                Liabilities:Noninterest-bearing
                demand deposits
            
            $
            39,021,000
            
            $
            39,021,000Interest-bearing
                deposits
            
            $
            256,269,000
            
            $
            250,306,000Borrowed
                funds
            
            $
            5,885,000
            
            $
            5,863,000Accrued
                interest payable
            
            $
            534,000
            
            $
            534,000





The
      estimated fair values of the Bank’s material financial instruments as of
      December 31, 2005 are as follows:





Carrying
                Value
            
            Fair
                ValueFinancial
                Assets:Cash
                and due from banks
            
            $
            17,847,000
            
            $
            17,847,000$
            321,000
            
            $
            321,000Investment
                securities, held-to-maturity
            
            $
            10,812,000
            
            $
            10,493,000Investment
                securities, available-for-sale
            
            $
            44,482,000
            
            $
            44,482,000Restricted
                stock
            
            $
            1,876,000
            
            $
            1,876,000Loans
                held for sale
            
            $
            40,721,000
            
            $
            40,721,000Loans,
                net of allowance for loan losses
            
            $
            224,184,000
            
            $
            221,891,000Accrued
                interest receivable
            
            $
            1,446,000
            
            $
            1,446,000Financial
                Liabilities:Noninterest-bearing
                demand deposits
            
            $
            32,545,000
            
            $
            32,545,000Interest-bearing
                deposits
            
            $
            267,866,000
            
            $
            262,716,000Borrowed
                funds
            
            $
            15,641,000
            
            $
            15,469,000Accrued
                interest payable
            
            $
            454,000
            
            $
            454,000







44





**Note
      16.** **Fair
      Value of Financial Instruments (Continued)**




The
      fair
      value of commitments to extend credit is estimated using the fees currently
      charged to enter into similar agreements, and, as the fair value for these
      financial instruments is not material, these disclosures are not included
      above.




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




Fair
      value estimates are based on existing on-and off-balance sheet financial
      instruments without attempting to estimate the value of anticipated future
      business and the value of assets and liabilities that are not considered
      financial instruments. In addition, the tax ramifications related to the
      realization of unrealized gains and losses can have a significant effect on
      fair
      value estimates, and have generally not been considered in the Bank’s
      estimates.




**Note
      17. Subsequent Events**




On
      December 12, 2006, the shareholders of the Bank approved a Plan of Acquisition
      whereby the Bank will be reorganized into the holding company form of
      organization and will become a wholly-owned subsidiary of a newly-formed holding
      company called Sterling Banks, Inc. The Bank completed this formation on March
      16, 2007.




On
      December 19, 2006 the shareholders of Farnsworth Bancorp, Inc., a bank holding
      company, approved a Plan of Merger (“Merger’) in which Sterling Banks, Inc. will
      acquire all the outstanding shares of Farnsworth, with each share of Farnsworth
      receiving $27.50 per share, in a combination of stock and/or cash. Total cash
      and stock consideration, including transaction costs, is expected to approximate
      $20,000,000. Upon the completion of the merger, Peoples Savings Bank, a
      wholly-owned subsidiary of Farnsworth Bancorp, Inc., will be merged into the
      Bank. The Merger closed on March 16, 2007. At December 31, 2006, Farnsworth
      Bancorp had total assets of approximately $110,000,000.




45