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  **UNITED STATES SECURITIES AND EXCHANGE COMMISSION****WASHINGTON, DC 20549** **FORM 10-Q****(Mark One)**   þ **Quarterly Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934****For theQuarterly Period Ended September 30, 2005.****or**   o **Transition Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934****For theTransition Period From                      to                     .****Commission File Number****1-13676****CENTRUE FINANCIAL CORPORATION**(Exact Name of Registrant as Specified in its Charter)   **Delaware** **36-3846489**      (State or Other Jurisdiction ofIncorporation or Organization) (I.R.S. Employer Identification Number)   **310 South Schuyler Avenue, Kankakee, Illinois** **60901**    (Address of Principal Executive Offices) (Zip Code)**(815) 937-4440**(Registrant’s telephone number, including area code)Check whether the Issuer (1) has filed all reports required to be filed by Section 13 or 15(d) ofthe Exchange Act during the past 12 months (or for such shorter period that the registrant wasrequired to file such reports), and (2) has been subject to such filing requirements for the past90 days.Yes þ No o     Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule12b-2 of the Exchange Act). Yes oNo þ     Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 ofthe Exchange Act). Yes o No þAs of November 12, 2005, there were 2,366,639 issued and outstanding shares of the Issuer’s commonstock.  
 

CENTRUE FINANCIAL CORPORATIONINDEX       Page   Number Part I. FINANCIAL INFORMATION         Item 1. Consolidated Financial Statements (Unaudited)         Consolidated Balance Sheets  3      Consolidated Statements of Income and Comprehensive Income  4      Consolidated Statements of Cash Flows  5-6      Notes to Consolidated Financial Statements  7-11      Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations  11-24      Item 3. Quantitative and Qualitative Disclosures about Market Risk  24-26      Item 4. Controls and Procedures  26      Part II. OTHER INFORMATION         Item 1. Legal Proceedings  27      Item 2. Unregistered Sales of Equity Securities and Use of Proceeds  27      Item 3. Defaults Upon Senior Securities  27      Item 4. Submission of Matters to a Vote of Security Holders  27      Item 5. Other Information  27      Item 6. Exhibits  27-28      SIGNATURES  29  Certification of Principal Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) Certification of Corporate Controller Pursuant to Rule 13a-14(a)/15d-14(a) Certification of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350 Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350 Certification of Corporate Controller Pursuant to 18 U.S.C. Section 1350
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PART I. — FINANCIAL INFORMATIONITEM 1. Consolidated Financial Statements (Unaudited)CONSOLIDATED BALANCE SHEETS (UNAUDITED)CENTRUE FINANCIAL CORPORATION AND SUBSIDIARY           **September 30,**  **December 31,**   **2005**  **2004**   (dollars in thousands) Assets        Cash and due from banks $14,334  $10,760 Interest bearing due from banks and other  2,404   2,526 Federal funds sold  11,600   —        Cash and cash equivalents  28,338   13,286 Certificates of Deposit  50   149 Investment Securities available-for-sale, at fair value  129,544   124,763 Loans, net of allowance for loan losses of $4,844 and $5,475  425,149   418,963 Loans held for sale  6,693   416 Premises and equipment  21,945   18,267 Goodwill  14,354   12,446 Life insurance contracts  9,375   9,110 Non-marketable equity securities  5,024   4,211 Accrued interest receivable  2,965   2,570 Intangible assets  1,993   1,774 Real estate held for sale  1,946   3,002 Other assets  2,411   2,896        Total Assets $649,787  $611,853                 Liabilities        Deposits:        Noninterest bearing $63,157  $53,919 Interest bearing  458,921   441,858        Total Deposits  522,078   495,777 Short-term borrowings  19,027   14,188 Long-term borrowings  60,791   55,473 Other liabilities  2,552   3,239        Total Liabilities  604,448   568,677          Stockholders’ Equity        Preferredstock, $.01 par value — 500,000 shares authorizedand unissued  —   — Commonstock, $.01 par value — 5,500,000 authorized;4,200,300 shares issued and outstanding  42   42 Additional paid-in capital  29,722   28,998 Retained income, partially restricted  47,232   43,925 Accumulated other comprehensive income (loss)  (949)  27 Unearnedrestricted stock (19,000 and 26,400 shares)  (383)  (512)Treasury stock, (1,833,661 and 1,819,634 shares), at cost  (30,325)  (29,304)       Total Stockholders’ Equity  45,339   43,176        Total Liabilities and Stockholders’ Equity $649,787  $611,853        See notes to the accompanying consolidated financial statements (unaudited)
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CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME (UNAUDITED)CENTRUE FINANCIAL CORPORATION AND SUBSIDIARY                   **Three Months Ended**  **Nine Months Ended**   **September 30**  **September 30**   **2005**  **2004**  **2005**  **2004**   (dollars in thousands, except per share data) Interest and dividend income:                Loans $6,802  $6,246  $19,674  $18,684 Investments  1,258   1,050   3,652   3,049 Deposits with banks and other  159   10   183   104 FHLB stock dividends  51   52   157   160              Total interest and dividend income  8,270   7,358   23,666   21,997 Interest expense:                Deposits  2,701   1,896   6,802   5,913 Long-term borrowings  753   468   2,342   1,516 Short-term borrowings  79   238   203   569              Total interest expense  3,533   2,602   9,347   7,998              Net interest income  4,737   4,756   14,319   13,999 Provision for loan losses  75   300   576   900              Net interest income after provisionfor loan losses  4,662   4,456   13,743   13,099 Noninterest income:                Fee income  1,716   1,245   4,141   3,126 Net gain (loss) on sale of securities  —   (5)  183   85 Net gain on sale of real estate held for sale  7   —   1   39 Net gain on sale of loans  165   238   454   661 Increase in cash surrender value of lifeinsurance contracts  87   71   265   270 Other  43   40   246   161              Total noninterest income  2,018   1,589   5,290   4,342 Noninterest expense:                Compensation and benefits  2,766   2,227   7,556   6,624 Occupancy, net  406   367   1,184   1,087 Furniture and equipment  288   330   1,421   1,019 Advertising  124   83   284   204 Data processing  77   158   395   458 Telephone and postage  161   157   485   437 Amortization of intangibles  72   61   205   168 Legal and professional fees  166   124   627   526 Other  922   803   2,374   2,243              Total noninterest expense  4,982   4,310   14,531   12,766              Income before income taxes  1,698   1,735   4,502   4,675 Income tax expense  480   502   1,195   1,414              Net income $1,218  $1,233  $3,307  $3,261                               Other comprehensive income (loss):                Change in unrealized gains or losses onavailable for sale securities, net ofrelated income taxes  (523)  849   (845)  (706)Less: reclassification adjustment for gains(losses) included in net income, net ofrelated income taxes  —   (2)  131   32              Other comprehensive income (loss)  (523)  851   (976)  (738)             Comprehensive income $695  $2,084  $2,331  $2,523                               Basic earnings per share $0.52  $0.50  $1.41  $1.29 Diluted earnings per share $0.52  $0.50  $1.40  $1.29 Dividends per share  —   —  $—  $0.075 See the accompanying notes to consolidated financial statements (unaudited)
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CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)CENTRUE FINANCIAL CORPORATION AND SUBSIDIARY           **Nine Months Ended**   **September 30**   **2005**  **2004**   (dollars in thousands) Operating activities        Net income $3,307  $3,261 Adjustments to reconcile net income to net cash providedby operating activities:        Provision for loan losses  576   900 Depreciation and amortization  1,576   1,276 Net amortization on investments  154   (247)Amortization of intangibles  205   168 Deferred income taxes  722   2,547 Origination of loans held for sale  (20,566)  (24,426)Proceeds from sales of loans held for sale  19,790   40,263 Gain on sale of loans  (454)  (661)Gain on sale of securities  (183)  (85)Gain on sale of real estate held for sale  1   (39)Compensation expense for restricted stock  178   198 Increase in cash surrender value of life insurancecontracts  (265)  (270)Federal Home Loan Bank stock dividends  (174)  (161)Changes in:        Accrued interest receivable  (286)  (70)Other assets and other liabilities, net  (743)  (1,646)       Net cash provided by operating activities  3,838   21,008          Investing activities        Proceeds from maturities of certificates of deposit  99   199 Purchases of available for sale securities  (21,332)  (51,794)Proceeds from sales of available for sale securities  13,698   5,943 Proceeds from maturities of available for sale securities  8,041   33,354 Proceeds from maturities of held-to-maturity securities  —   210 Proceeds from sales of real estate held for sale  2,106   261 Proceeds from sales of premises and equipment  15   — Acquisitions, net  (220)  38 Net (increase) decrease in loans  4,950   (11,498)Purchases of bank premises and equipment  (2,841)  (1,386)       Net cash provided by (used in) investing activities  4,516   (24,673)         Financing activities        Net decrease in deposits  (1,456)  (18,556)Net change in short-term borrowings  4,839   — Proceeds from long-term borrowings  21,700   6,100 Repayments of long-term borrowings  (16,382)  (18,945)Proceeds from issuance of junior subordinated debt owedto unconsolidated trusts  —   10,000 Proceeds from exercise of stock options  —   189 Dividends paid  —   (195)Purchase of treasury stock  (2,003)  (5,389)       Net cash provided by (used in) financing activities  6,698   (26,796)       Net increase (decrease) in cash and cash equivalents  15,052   (30,461)Cash and cash equivalents – beginning of year  13,286   45,605        Cash and cash equivalents – end of period $28,338  $15,144        
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           **Nine Months Ended**   **September 30**   **2005**  **2004**   (dollars in thousands) Supplemental disclosure of cash flow information        Interest paid $8,392  $7,886 Income taxes paid  800   1,290 Real estate acquired in settlement of loans  902   519          Acquisitions, net:        Assets acquired:        Certificates of Deposit $—  $(298)Investments  (6,561)  (8,616)Loans, net  (12,608)  (7,342)Loans held for sale  (5,047)  — Premises and equipment  (2,428)  (269)Goodwill  (1,908)  (1,013)Non-marketable securities  (639)  — Interest receivable  (109)  (104)Intangibles  (424)  (774)Real Estate held for sale  (155)  — Other assets  189   (157)Liabilities assumed:        Deposits  27,757   18,524 Other liabilities  56   87 Treasury Stock issued  1,657   —        Cash received, net of cash paid $(220) $38        See the accompanying notes to consolidated financial statements (unaudited)
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CENTRUE FINANCIAL CORPORATION AND SUBSIDIARYNOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)September 30, 2005Note 1– Basis of Presentation     The consolidated financial statements of Centrue Financial Corporation (the “Company”) havebeen prepared in accordance with accounting principles generally accepted in the United States ofAmerica and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, theydo not include all of the information and footnotes required by accounting principles generallyaccepted in the United States of America for complete financial statements. In the opinion ofmanagement, all adjustments (consisting of normal recurring accruals) considered necessary for afair presentation have been included. The December 31, 2004 balance sheet has been derived fromthe audited financial statements at that date, but does not include all of the information andfootnotes required by accounting principles generally accepted in the United States of America forcomplete financial statements. Operating results for the three and nine-month periods endedSeptember 30, 2005 are not necessarily indicative of the results that may be expected for the yearending December 31, 2005. For further information, refer to the consolidated financial statementsand footnotes thereto included in the annual report for the Company on Form 10-K for the year endedDecember 31, 2004.     The consolidated financial statements include the accounts of the Company and its wholly ownedsubsidiary Centrue Bank, an Illinois chartered commercial bank (the “Bank”). All materialintercompany transactions and balances are eliminated. The Company is a financial holding companythat engages in its business through its sole subsidiary, in a single significant business segment.     In preparing the consolidated financial statements, management is required to make estimatesand assumptions that affect the reported amounts of assets and liabilities as of the date of theconsolidated balance sheet and revenues and expenses for the period. Actual results could differsignificantly from those estimates.     Material estimates that are particularly susceptible to significant change relate to thedetermination of the allowance for loan losses, valuation of mortgage servicing rights, goodwill,and real estate acquired in connection with foreclosures or in satisfaction of loans. Inconnection with the determination of the allowance for loan losses and the valuation of real estateacquired by foreclosure, management obtains independent appraisals for significant properties.     Certain 2004 amounts have been reclassified where appropriate to conform to the consolidatedfinancial statement presentation used in 2005.Note 2 – Stock Based Compensation     The Company has a stock-based employee compensation plan, which is described more fully in theCompany’s annual report on Form 10-K for the year ended December 31, 2004. The Company accountsfor this plan under the recognition and measurement principles of Accounting Principles Board (APB)Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations. Nostock-based employee compensation cost is reflected in net income, as all options granted underthose plans had an exercise price equal to the market value of the underlying common stock on thegrant date. The following table illustrates the effect on net income and earnings per share if theCompany had applied the fair
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value recognition provisions of Statement of Financial Accounting Standard (SFAS) No. 123,“Accounting for Stock-Based Compensation,” to stock-based employee compensation:                   **Three Months Ended**  **Nine Months Ended**   **September 30**  **September 30**   **2005**  **2004**  **2005**  **2004**   (dollars in thousands, except per share data) Net income, as reported $1,218  $1,233  $3,307  $3,261 Less: Total stock-based employeecompensation cost determined underthe fair value based method, net ofincome taxes  57   39   248   253              Pro forma net income $1,161  $1,194  $3,059  $3,008              Earnings per share:                Basic – as reported $0.52  $0.50   1.41   1.29 Basic – pro forma  0.49   0.49   1.30   1.19 Diluted – as reported  0.52   0.50   1.40   1.29 Diluted – pro forma  0.49   0.48   1.30   1.19 There were 21,500 options granted in the third quarter 2005 and 46,500 options during thefirst nine-months of 2005. The fair value of options granted in 2005 and 2004 has been estimatedusing the Black-Scholes option-pricing model with the following weighted average assumptions.                   **Three Months Ended**  **Nine Months Ended**   **September 30**  **September 30**   **2005**  **2004**  **2005**  **2004** Number of options granted  21,500   —   46,500   25,500 Risk-free interest rate  4.15%  —   4.22%  4.37%Expected life, in years  5   —   5   10 Expected volatility  18%  —   17%  23%Expected dividend yield  —   —   —   0.27%Estimated weighted average fair valueper option $6.62   —  $6.68  $11.41 Note 3 – Earnings Per Share     Basic earnings per share of common stock have been determined by dividing net income for theperiod by the average number of shares of common stock outstanding. Diluted earnings per share ofcommon stock have been determined by dividing net income for the period by the average number ofshares of common stock and common stock equivalents outstanding. Average unearned restricted stockshares have been excluded from common shares outstanding for both basic and diluted earnings pershare. Common stock equivalents assume exercise of stock options, and the purchase of treasurystock with the option proceeds at the average market price for the period (when dilutive). TheCompany has an incentive stock option plan for the benefit of directors, officers and employees.Diluted earnings per share have been determined considering the stock options granted, net of stockoptions which have been exercised.
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                   **Three Months Ended**  **Nine Months Ended**   **September 30**  **September 30**   **2005**  **2004**  **2005**  **2004**   (dollars in thousands, except share and per share data) Basic                Net income $1,218  $1,233  $3,307  $3,261                               Average common shares outstanding  2,347,639   2,458,005   2,353,263   2,525,183                               Net income per common share –basic $0.52  $0.50  $1.41  $1.29                               Diluted                Net income $1,218  $1,233  $3,307  $3,261                               Average common shares outstanding  2,347,639   2,458,005   2,353,263   2,525,183                  Dilutive potential due to stock options  4,681   9,955   6,486   9,893                               Average common shares outstanding  2,352,320   2,467,960   2,359,749   2,535,076                               Net income per common share –diluted $0.52  $0.50  $1.40  $1.29              Note 4 – Liquidity and Capital Resources     The Company maintains a certain level of cash and other liquid assets to fund normal volumesof loan commitments, deposit withdrawals and other obligations. The following table summarizessignificant contractual obligations and other commitments at September 30, 2005 (in thousands):               **Time**  **Long-term**    **Years Ended December 31,** **Deposits**  **Borrowings (1)**  **Total** 2005 $56,601  $368  $56,969 2006  133,465   31,041   164,506 2007  47,289   11,449   58,738 2008  13,157   5,156   18,313 2009  4,739   10,165   14,904 thereafter  4,502   2,612   7,114           Total $259,753  $60,791  $320,544                        Financial instruments whosecontract amounts represent creditrisk:            Commitment to originate loans         $28,335 Commitments to extend credit          23,340 Standby letters of credit          7,976             Total         $380,195              (1) Fixed rate callable borrowings are included in the period of their modified durationrather than in the period in which they are due. Borrowings include fixed rate callableadvances of $5 million and $2 million maturing in years 2008 and 2011 which are callable in2005 and variable rate prepayable advances of $20 million maturing in 2006. Trust preferreddebentures of $10 million mature in both 2032 and 2034, but are callable in 2007 and 2009.
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Note 5 – InvestmentsContinuous gross unrealized losses of investments in debt and equity securities as of September 30,2005 (in thousands) which are classified as temporary were as follows:                           Continuous unrealized losses  Continuous unrealized      existing for less than 12  losses existing greater than      months  12 months  Total       Unrealized      Unrealized      Unrealized   Fair Value  losses  Fair Value  losses  Fair Value  losses Description of Securities                        U.S. governmentagencies $72,234  $864  $—  $—  $72,234  $864 Municipals  4,574   36   16,700   453   21,274   489 Mortgage backedsecurities  2,389   24   5,648   178   8,037   202 Corporate  —   —   1,971   93   1,971   93                    Total temporarilyimpaired securities $79,197  $924  $24,319  $724  $103,516  $1,648                    The unrealized losses on investment securities that have been in a continuous loss positionare generally due to changes in interest rates and, as such, are considered to be temporary, by theCompany.Note 6 – Junior Subordinated Debt Owed to Unconsolidated Trusts     The Company issued $10.0 million in each of April 2002 and April 2004 in cumulative trustpreferred securities through newly formed special-purpose trusts, Kankakee Capital Trust I (TrustI) and Centrue Statutory Trust II (Trust II). The proceeds of the offerings were invested by thetrusts in junior subordinated deferrable interest debentures of Trust I and Trust II. Trust I andTrust II are wholly-owned unconsolidated subsidiaries of the Company, and their sole assets are thejunior subordinated deferrable interest debentures. Distributions are cumulative and are payablequarterly at a variable rate of 3.70% and 2.65% over the LIBOR rate, respectively, (at a rate of7.59% and 6.54% at September 30, 2005) per annum of the stated liquidation amount of $1,000 perpreferred security. Interest expense on the trust preferred securities was $358,000 and $238,000for the three months ended September 30, 2005 and 2004, and $991,000 and $569,000 for the ninemonths ended September 30, 2005 and 2004, respectively. The obligations of the trusts are fully andunconditionally guaranteed, on a subordinated basis, by the Company. The trust preferred securitiesfor Trust I are mandatorily redeemable upon the maturity of the debentures on April 7, 2032, or tothe extent of any earlier redemption of any debentures by the Company, and are callable beginningApril 7, 2007. The trust preferred securities for Trust II are mandatorily redeemable upon thematurity of the debentures on April 22, 2034, or to the extent of any earlier redemption of anydebentures by the Company, and are callable beginning April 22, 2009. Holders of the capitalsecurities have no voting rights, are unsecured, and rank junior in priority of payment to all ofthe Company’s indebtedness and senior to the Company’s capital stock. For regulatory purposes, thetrust preferred securities qualify as Tier I capital subject to certain provisions.Note 7 – Recent Accounting PronouncementsIn December 2004, the Financial Accounting Standards Board (“FASB”) published FASB Statement No.123 (revised 2004), Share-Based Payment (“FAS 123(R)” or the “Statement”). FAS 123(R) requires thatthe compensation cost relating to share-based payment transactions, including grants of employeestock options, be recognized in financial statements. That cost will be measured based on the fairvalue of the equity or liability instruments issued. FAS 123(R) permits entities to use anyoption-pricing model that meets the fair value objective in the
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Statement. (Modifications of share-based payments will be treated as replacement awards with thecost of the incremental value recorded in the financial statements.)On April 14, 2005, the Securities and Exchange Commission (“SEC”) adopted a new rule that amendsthe compliance dates for Financial Accounting Standards Board’s Statement of Financial AccountingStandards No. 123 (revised 2004), Share-Based Payment (“SFAS No. 123R”). Under the new rule, theCompany is required to adopt SFAS No. 123R in the first quarter of fiscal 2006, beginning January1, 2006. The Company has not yet determined the method of adoption or the effect of adopting SFASNo. 123R, and it has not determined whether the adoption will result in amounts that are similar tothe current pro forma disclosures under SFAS No. 123.Note 8. – Acquisition of Illinois Community Bancorp, Inc.     On April 8, 2005, the Company acquired for cash and stock all of the outstanding shares ofIllinois Community Bancorp, Inc. for a total cost of $3.3 million. As a result of the acquisition,Illinois Community Bancorp was dissolved and Illinois Community Bank became a wholly ownedsubsidiary of the Company. The acquisition was accounted for using the purchase method ofaccounting. As such, the results of operations of the acquired entity are excluded from theconsolidated financial statements of income for the periods prior to the acquisition date. Thepurchase price has been allocated based on the fair values at the date of acquisition. Thisallocation resulted in intangible assets of $424,000 and goodwill of $1.9 million. The intangibleassets are being amortized over ten years. At closing, Illinois Community Bancorp had assets of$29.8 million, including $17.7 million of loans, deposits of $27.8 million and stockholders’ equityof $1.4 million. Illinois Community Bank was merged into Centrue Bank during the third quarter of2005.ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results ofOperationsGENERAL     The Company serves the financial needs of families and local businesses in its primary marketareas through Centrue Bank’s main banking office at 310 South Schuyler Avenue, Kankakee, Illinoisand nineteen branch offices. The Company’s market areas include central and southern Illinois,western Indiana and the metropolitan St. Louis, Missouri markets. The Company’s business involvesattracting deposits from the general public and using such deposits to originate commercialbusiness, commercial real estate, consumer, multi-family, construction and residential mortgageloans in its market areas. The Company also invests in investment securities and various types ofshort term liquid assets. The Company has approximately 205 full time equivalent employees.FINANCIAL CONDITION     The Company’s total assets were $649.8 million at September 30, 2005, an increase of $37.9million or 6.2%, from $611.9 million at December 31, 2004. Fluctuations in asset accounts wererepresented by an increase in cash and cash equivalents of $15.1 million, investment securities of$4.8 million, net loans and loans held for sale of $12.5 million, goodwill of $1.9 million andpremises and equipment of $3.7 million. These increases were partially offset by a decrease in realestate held for sale of $1.1 million, which was due to the sale of a portion of the Company’slargest real estate owned property.
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     Cash and cash equivalents increased $15.1 million or 113.3% to $28.3 million from $13.3million and investment securities increased $4.8 million or 3.8% to $129.5 million from $124.8million. Net loans, including loans held for sale, increased $12.5 million or 3.0% to $431.8million from $419.4 million. Goodwill increased $1.9 million or 15.3% to $14.4 million from $12.4million as a result of the Illinois Community Bancorp acquisition. Intangible assets increased$219,000 or 12.3% to $2.0 million from $1.8 million. Nonmarketable equity securities increased$813,000 or 19.3% to $5.0 million from $4.2 million. The increase in each of these asset categorieswas primarily due to the Illinois Community Bancorp acquisition.     Premises and equipment increased $3.7 million, or 20.1%, primarily due to the costs associatedwith the construction of the Company’s new facility in Fairview Heights, Illinois and theacquisition of Illinois Community Bancorp.     The decrease in real estate held for sale of $1.1 million or (35.1%) was primarily due to the saleof a portion of the Company’s largest real estate owned property. The remaining portion of theproperty is under contract to be sold and should close during the fourth quarter of 2005. The saleof this property should result in net proceeds of $1.5 million, which slightly exceeds our carryingvalue.     Deposits increased $26.3 million or 5.3% to $522.1 million from $495.8 million. The netincrease in deposits was primarily attributable to the acquisition of Illinois Community Bancorpand a deposit marketing campaign. Short-term borrowings increased $4.8 million to $19.0 millionfrom $14.2 million and long-term borrowings increased $5.3 million to $60.8 million from $55.4million in 2004. Short-term borrowings primarily consist of customer repurchase agreements, manyof which fluctuate on a daily basis. The increase in short-term borrowings was a result of thesecustomer fluctuations. The increase in long-term borrowings was due to the Company’s decision tolengthen liabilities in a rising interest rate environment.     Stockholders’ equity increased $2.2 million or 5.0% to $45.3 million from $43.1 million atDecember 31, 2004. The increase was due mainly to net income and the acquisition of IllinoisCommunity Bancorp partially offset by common stock repurchases and a decrease in unrealizedgains on available-for-sale securities. There were 2,366,639 shares of common stock outstanding atSeptember 30, 2005, compared to 2,380,666 shares at December 31, 2004. Equity per share of commonstock increased by $1.02 to $19.16 at September 30, 2005 from $18.14 at December 31, 2004.ASSET QUALITY     The Company’s asset quality management program, particularly with regard to loans, is designedto analyze potential risk elements and to support the growth of a high quality loan portfolio. Theexisting loan portfolio is monitored via the Company’s loan rating system. The loan rating systemis used to assist in determining the adequacy of the allowance for loan losses. The Company’s loananalysis process allows us to proactively identify, monitor and work with borrowers for whom thereare indications of future repayment difficulties. The Company’s lending philosophy is to invest inthe communities served by its banking centers so that it can effectively monitor and control creditrisk.     Total nonperforming loans at September 30, 2005 decreased $2.1 million from the end of 2004,which was mainly attributable to loans that were repaid from two large commercial borrowers.Foreclosed assets decreased $1.1 million due to the sale of a portion of the Company’s largest realestate owned property. Management has entered into a contract to sell the remaining portion of theproperty and expects the closing to occur during the fourth quarter
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of 2005. The sale of this property should result in net proceeds of $1.5 million, which slightlyexceeds the Company’s carrying value.               September 30  December 31      2005  2004  Change   (dollars in thousands) Non-accruing loans $4,885  $6,769  $(1,884)Accruing loans delinquent 90days or more  —   222   (222)          Total nonperforming loans  4,885   6,991   (2,106)Foreclosed assets  1,946   3,002   (1,056)Troubled debt restructuring  37   42   (5)          Total nonperforming assets $6,868  $10,035  $(3,167)                       Allowance for loan losses to total loans  1.11%  1.29%    Allowance for loan losses tononperforming loans  99.16%  78.32%    Nonperforming loans to total loans  1.12%  1.65%    Nonperforming assets to total loansand foreclosed property  1.57%  2.35%    Nonperforming assets to total assets  1.06%  1.64%         One measure of the adequacy of the allowance for loan losses is the ratio of the allowance forloan losses to total loans. The ratio of the allowance for loan losses to total loans was 1.11%and 1.29% at September 30, 2005 and December 31, 2004, respectively. The ratio of the allowancefor loan losses to non-performing loans increased to 99.16% as of September 30, 2005 compared to78.32% at December 31, 2004. The increase in this ratio, which excludes foreclosed assets andrestructured troubled debt, was the result of the decrease of $2.1 million of nonperforming loansand a decrease in the allowance for loan losses of $631,000.     Total classified loans at September 30, 2005 decreased to $12.9 million compared to $19.4million at December 31, 2004. In 2004, the Company adopted a new loan policy and implemented newloan approval, documentation and monitoring processes and recruited an experienced commerciallending team. Additionally, in 2004, the Company recruited a Chief Credit Officer to strengthenour monitoring of credit quality and the overall loan portfolio. His duties include responsibilityfor all credit administration activities, supervision of collections and workout loans andcompliance with the written loan policy. These initiatives have had a positive impact on themonitoring of the loan portfolio. The Company continues to seek additional methods to improvecredit quality and the loan monitoring processes.     The Company recognized charge offs in the amount of $1.0 million and $1.9 million during thethird quarter and first nine months of 2005 and $1.3 million and $2.0 million for the third quarterand first nine months of 2004. The Company had recoveries of $64,000 and $443,000 for the thirdquarter and first nine months of 2005 and $20,000 and $126,000 for the third quarter and first ninemonths of 2004. The provision for loan losses was $75,000 and $576,000 for the third quarter andfirst nine months of 2005, compared to $300,000 and $900,000 for the third quarter and first ninemonths of 2004. The provision for loan losses represents management’s judgment of the costassociated with credit risk inherent in the loan portfolio. Factors which influence management’sdetermination of the provision for loan losses include, among other things, size and quality of theloan portfolio measured against prevailing economic conditions, regulatory guidelines, a review ofindividual loans and historical loan loss experience. The Company acquired $259,000 of allowancefor loan losses with the Illinois Community Bancorp acquisition in the second quarter of 2005.
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     The allowance for loan losses is maintained at a level believed adequate by management toabsorb probable losses in the loan portfolio. Management’s methodology to determine the adequacy ofthe allowance for loan losses considers specific credit reviews, past loan loss experience, currenteconomic conditions and trends, and the volume, growth and composition of the loan portfolio. Basedupon the Company’s quarterly analysis of the adequacy of the allowance for loan losses, consideringremaining collateral of loans with more than a normal degree of risk, historical loan losspercentages and economic conditions, it is management’s belief that the allowance for loan lossesat September 30, 2005 was adequate. However, there can be no assurance that the allowance for loanlosses will be adequate to cover all losses.     Each credit on the Company’s internal loan “watch list” is evaluated periodically to estimatepotential losses. In addition, minimum loss estimates for each category of watch list credits areprovided for based on management’s judgment which considers past loan loss experience and otherfactors. For installment and real estate mortgage loans, specific allocations are based on pastloss experience adjusted for recent portfolio growth and economic trends. The total of theestimated loss exposure resulting from the analysis is considered the allocated portion of theallowance for loan losses. The amounts specifically provided for individual loans and pools ofloans are supplemented by an unallocated portion of the allowance for loan losses. This unallocatedamount is determined based on management’s judgment which considers, among other things, the riskof error in the specific allocations, other potential exposure in the loan portfolio, economicconditions and trends, and other factors.     The allowance for loan losses is charged when management determines that the prospects ofrecovery of the principal of a loan have significantly diminished. Subsequent recoveries, if any,are credited to the allowance for loan losses. All installment loans that are 90 to 120 days pastdue are charged off monthly unless the loans are insured for credit loss or where scheduledpayments are being received. Real estate mortgage loans are written down to fair value uponforeclosure. Commercial and other loan charge-offs are made based on management’s on-goingevaluation of non-performing loans.CRITICAL ACCOUNTING POLICIES     In the ordinary course of business, the Company has made a number of estimates and assumptionsrelating to the reporting of results of operations and financial condition in preparing itsfinancial statements in conformity with accounting principles generally accepted in the UnitedStates of America. Actual results could differ significantly from those estimates under differentassumptions and conditions. The Company believes the following discussion, including the allowancefor loan losses, goodwill, and mortgage servicing rights, addresses the Company’s most criticalaccounting policies, which are those that are most important to the portrayal of the Company’sfinancial condition and results and require management’s most difficult, subjective and complexjudgments, often as a result of the need to make estimates about the effect of matters that areinherently uncertain.     Allowancefor Loan Losses – The allowance for loan losses is a material estimate thatis particularly susceptible to significant changes in the near term and is established through aprovision for loan losses. The allowance is based upon past loan experience and other factorswhich, in management’s judgment, deserve current recognition in estimating loan losses. Theevaluation includes a review of all loans on which full collectibility may not be reasonablyassured. Other factors considered by management include the size and character of the loanportfolio, concentrations of loans to specific borrowers or industries, existing economicconditions and historical losses on each portfolio category. In connection with the determinationof the allowance for loan losses, management obtains independent appraisals for significant
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properties, which collateralize loans. Management believes it uses the best informationavailable to make such determinations. If circumstances differ substantially from the assumptionsused in making determinations, future adjustments to the allowance for loan losses may be necessaryand results of operations could be affected. While the Company believes it has established itsexisting allowance for loan losses in conformity with accounting principles generally accepted inthe United States of America, there can be no assurance that regulators, in reviewing the Bank’sloan portfolio, will not request an increase in the allowance for loan losses. Because futureevents affecting borrowers and collateral cannot be predicted with certainty, there can be noassurance that increases to the allowance will not be necessary if loan quality deteriorates.     Goodwill – Costs in excess of the estimated fair value of identified net assetsacquired through purchase transactions are recorded as an asset by the Company. The Companyperforms an annual impairment assessment as of September 30. No impairment of goodwill has beenidentified as a result of these tests. In making these impairment assessments, management mustmake subjective assumptions regarding the fair value of the Company’s assets and liabilities. Itis possible that these judgments may change over time as market conditions or Company strategieschange, and these changes may cause the Company to record impairment charges to adjust the goodwillto its estimated fair value.     Mortgage Servicing Rights – The Company recognizes as a separate asset the rights toservice mortgage loans for others. The value of mortgage servicing rights is amortized in relationto the servicing revenue expected to be earned. Mortgage servicing rights are periodicallyevaluated for impairment based upon the fair value of those rights. Estimating the fair value ofthe mortgage servicing rights involves judgment, particularly of estimated prepayments speeds ofthe underlying mortgages serviced. Net income could be affected if management’s assumptions andestimates differ from actual prepayments.     The above listing is not intended to be a comprehensive list of all the Company’s accountingpolicies. In many cases, the accounting treatment of a particular transaction is specificallydictated by accounting principles generally accepted in the United States of America, with no needfor management’s judgment in their application. There are also areas in which management’sjudgment in selecting any available alternative would not produce a materially different result.RESULTS OF OPERATIONS