Table of Contents

** **

 

** **

**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington,DC 20549**

 

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**FORM 10-Q**

 

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| **(Mark One)** |
|----------------|
| **x**          | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES   EXCHANGE ACT OF 1934** |
|           |   |
|           | **For  the quarterly period ended September 30, 2008** |
|           |   |
| **OR**         |
|           |   |
| **o**          | **TRANSITION REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES   EXCHANGE ACT OF 1934** |
| ** **     | ** ** |
| ** **     | **For the transition period from               to** |

 

**Commissionfile number: 001-32971**

 

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**Fox Chase Bancorp, Inc.**

**(Exact nameof registrant as specified in its charter)**

 

| **United  States**                                                     | ** ** | **33-1145559**                        |
|------------------------------------------------------------------------|------------|---------------------------------------|
| (State or other  jurisdiction of

incorporation  or organization) |       | (I.R.S. Employer

Identification No.) |
|                                                                   |       |                                  |
| **4390  Davisville Road, Hatboro, Pennsylvania**                       | ** ** | **19040**                             |
| (Address of principal executive offices)                               |       | (Zip Code)                            |

 

**(215)682-7400**

(Registrant’stelephone number, including area code)

 

**N/A**

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

 

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Indicate by check markwhether the registrant (1) has filed all reports required to be filed by Section 13or 15(d) of the Securities Exchange Act of 1934 during the preceding 12months (or for such shorter period that the registrant was required to filesuch reports), and (2) has been subject to such filing requirements forthe past 90 days.    Yes  x    No  o

 

Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definition of “large acceleratedfiler,” “accelerated filer” and “smaller reporting company” in Rule 12b-2of the Exchange Act.  (Check one):

 
| Large Accelerated Filer o | Accelerated Filer x         |
|---------------------------|-----------------------------|
| Non-Accelerated Filer o   | Smaller Reporting Company o |

(Do not check if asmaller reporting company)

 

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act)

Yes  o    No  x

 

As of November 3,2008, there were 14,129,859 shares of the registrant’s common stockoutstanding.

 

 

 

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Table of Contents

 

**FOXCHASE BANCORP, INC.**

 

**Table ofContents**

 
| ** **                              | ** **                                                                                                               | **Page  No.** |
|-----------------------------------------|--------------------------------------------------------------------------------------------------------------------------|---------------|
| **Part I.  Financial Information** | ** **                                                                                                               |
|                                    |                                                                                                                     |          |
| Item 1.                                 | Financial Statements                                                                                                     | 3             |
|                                    |                                                                                                                     |          |
|                                    | Consolidated Statements of  Condition at September 30, 2008 (unaudited) and December 31, 2007                  | 3             |
|                                    |                                                                                                                     |          |
|                                    | Consolidated Statements of  Operations for the Three and Nine Months Ended September 30, 2008 and  2007 (unaudited) | 4             |
|                                    |                                                                                                                     |          |
|                                    | Consolidated Statement of  Changes in Equity for the Nine Months Ended September 30, 2008  (unaudited)              | 5             |
|                                    |                                                                                                                     |          |
|                                    | Consolidated Statements of  Cash Flows for the Nine Months Ended September 30, 2008 and 2007  (unaudited)           | 6             |
|                                    |                                                                                                                     |          |
|                                    | Notes to  the Unaudited Consolidated Financial Statements                                                                | 7             |
|                                    |                                                                                                                     |          |
| Item 2.                                 | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                              | 18            |
|                                    |                                                                                                                     |          |
| Item 3.                                 | Quantitative  and Qualitative Disclosures About Market Risk                                                              | 29            |
|                                    |                                                                                                                     |          |
| Item 4.                                 | Controls and  Procedures                                                                                                 | 29            |
|                                    |                                                                                                                     |          |
| **Part II.  Other Information**    | ** **                                                                                                               |
|                                    |                                                                                                                     |          |
| Item 1.                                 | Legal Proceedings                                                                                                        | 29            |
|                                    |                                                                                                                     |          |
| Item 1A.                           | Risk Factors                                                                                                             | 29            |
|                                    |                                                                                                                     |          |
| Item 2.                                 | Unregistered  Sales of Equity Securities and Use of Proceeds                                                             | 30            |
|                                    |                                                                                                                     |          |
| Item 3.                                 | Defaults  Upon Senior Securities                                                                                         | 30            |
|                                    |                                                                                                                     |          |
| Item 4.                                 | Submission  of Matters to a Vote of Security Holders                                                                     | 30            |
|                                    |                                                                                                                     |          |
| Item 5.                                 | Other Information                                                                                                        | 30            |
|                                    |                                                                                                                     |          |
| Item 6.                                 | Exhibits                                                                                                                 | 30            |
|                                    |                                                                                                                     |          |
| **Signatures**                          |                                                                                                                     |          |

 

2

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Tableof Contents

 

**PART I. FINANCIAL INFORMATION**

 

**Item 1. Financial Statements**

 

**FOX CHASE BANCORP, INC**

**ConsolidatedStatements of Condition**

**(InThousands, Except Share Data)**

 
| ** **                                                                                                                                                                                                 | ** ** | **September 30,** | ** ** | **December 31,** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                                                                 | ** ** | **2008**               | ** ** | **2007**              | ** ** |
| ** **                                                                                                                                                                                                 |       | **(Unaudited)**        |       |                  |       |
| **ASSETS**                                                                                                                                                                                                 | ** ** | ** **             | ** ** | ** **            | ** ** |
| ** **                                                                                                                                                                                                 | ** ** | ** **             | ** ** | ** **            | ** ** |
| Cash and due  from banks                                                                                                                                                                                   |       | $                      | 382        |                  | $          | 3,307 |   |
| Interest-earning  demand deposits in other banks                                                                                                                                                           |       | 6,100                  |       | 7,968                 |       |
| Money market  funds                                                                                                                                                                                        |       | —                 |       | 20,000                |       |
| Total cash and  cash equivalents                                                                                                                                                                           |       | 6,482                  |       | 31,275                |       |
| Investment  securities available-for-sale                                                                                                                                                                  |       | 23,805                 |       | 91,159                |       |
| Mortgage related  securities available-for-sale                                                                                                                                                            |       | 240,429                |       | 205,145               |       |
| Loans, net of  allowance for loan losses of $4,261 and $3,376 at September 30, 2008 and  December 31, 2007, respectively                                                                         | ** ** | 572,838                | ** ** | 447,035               | ** ** |
| Federal Home  Loan Bank stock, at cost                                                                                                                                                                     |       | 8,961                  |       | 5,875                 |       |
| Bank-owned life  insurance                                                                                                                                                                                 |       | 12,100                 |       | 11,762                |       |
| Premises and  equipment                                                                                                                                                                                    |       | 13,921                 |       | 14,466                |       |
| Accrued interest  receivable                                                                                                                                                                               |       | 3,452                  |       | 3,360                 |       |
| Mortgage  servicing rights                                                                                                                                                                                 |       | 955                    |       | 1,066                 |       |
| Deferred tax  asset, net                                                                                                                                                                                   |       | 1,641                  |       | 410                   |       |
| Other assets                                                                                                                                                                                               |       | 2,090                  |       | 1,366                 |       |
| **Total  Assets**                                                                                                                                                                                          |       | $                      | 886,674    |                  | $          | 812,919 |   |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**                                                                                                                                                             | ** ** | ** **             | ** ** | ** **            | ** ** |
| ** **                                                                                                                                                                                                 | ** ** | ** **             | ** ** | ** **            | ** ** |
| **LIABILITIES**                                                                                                                                                                                            | ** ** | ** **             | ** ** | ** **            | ** ** |
| ** **                                                                                                                                                                                                 | ** ** | ** **             | ** ** | ** **            | ** ** |
| Deposits                                                                                                                                                                                                   |       | $                      | 593,398    |                  | $          | 585,560 |   |
| Federal Home  Loan Bank advances                                                                                                                                                                           |       | 131,060                |       | 80,000                |       |
| Other borrowed  funds                                                                                                                                                                                      |       | 35,000                 |       | 20,000                |       |
| Advances from  borrowers for taxes and insurance                                                                                                                                                           |       | 1,682                  |       | 2,374                 |       |
| Accrued interest  payable                                                                                                                                                                                  |       | 651                    |       | 504                   |       |
| Accrued expenses  and other liabilities                                                                                                                                                                    |       | 4,201                  |       | 2,110                 |       |
| **Total  Liabilities**                                                                                                                                                                                     |       | 765,992                |       | 690,548               |       |
| ** **                                                                                                                                                                                                 |       |                   |       |                  |       |
| **STOCKHOLDERS’  EQUITY**                                                                                                                                                                             | ** ** | ** **             | ** ** | ** **            | ** ** |
| ** **                                                                                                                                                                                                 | ** ** | ** **             | ** ** | ** **            | ** ** |
| Preferred stock  ($.01 par value; 1,000,000 shares authorized, none issued and outstanding at  September 30, 2008 or December 31, 2007)                                                          | ** ** | —                 | ** ** | —                | ** ** |
| Common stock  ($.01 par value; 35,000,000 shares authorized, 14,679,750 shares issued;  14,129,859 and 14,352,750 shares outstanding at September 30, 2008 and  December 31, 2007, respectively) | ** ** | 147                    | ** ** | 147                   | ** ** |
| Additional  paid-in capital                                                                                                                                                                                |       | 63,213                 |       | 62,909                |       |
| Treasury stock  (at cost, 549,891 and 327,000 shares at September 30, 2008 and December 31,  2007, respectively)                                                                                 | ** ** | (6,595                 | )          | (3,924                | )          |
| Common stock  acquired by benefit plans                                                                                                                                                                    |       | (7,915                 | )          | (8,732                | )          |
| Retained  earnings                                                                                                                                                                                         |       | 72,783                 |       | 71,475                |       |
| Accumulated  other comprehensive income (loss), net                                                                                                                                                        |       | (951                   | )          | 496                   |       |
| **Total  Stockholders’ Equity**                                                                                                                                                                       |       | 120,682                |       | 122,371               |       |
| ** **                                                                                                                                                                                                 |       |                   |       |                  |       |
| **Total  Liabilities and Stockholders’ Equity**                                                                                                                                                       |       | $                      | 886,674    |                  | $          | 812,919 |   |

*** ***

***See accompanying notes to the unauditedconsolidated financial statements.***

 

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Tableof Contents

 

**FOX CHASEBANCORP, INC.**

**Consolidated Statements ofOperations**

**(Unaudited)**

**(In Thousands, Except Per ShareData)**

 
| ** **                                                  | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|-------------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                  | ** ** | **2008**                                             | ** ** | **2007**                                            | ** ** | **2008** | ** ** | **2007** | ** ** |
| **INTEREST  INCOME**                                        |       |                                                 |       |                                                |       |   |   |   |   |
| Interest and  fees on loans                                 |       | $                                                    | 8,106      |                                                | $          | 6,746 |   | $ | 22,415 |   | $ | 18,338 |   |
| Interest on  money market funds                             |       | —                                               |       | —                                              |       | 521 |   | — |   |
| Interest on  mortgage related securities available-for-sale |       | 3,138                                                |       | 1,657                                               |       | 9,248 |   | 5,187 |   |
| Interest on  investment securities available-for-sale:      |       |                                                 |       |                                                |       |   |   |   |   |
| Taxable                                                     |       | 121                                                  |       | 905                                                 |       | 876 |   | 1,813 |   |
| Non-taxable                                                 |       | 146                                                  |       | 205                                                 |       | 469 |   | 709 |   |
| Dividend income                                             |       | 69                                                   |       | 61                                                  |       | 193 |   | 189 |   |
| Other interest  income                                      |       | 17                                                   |       | 1,019                                               |       | 124 |   | 3,970 |   |
| **Total  Interest Income**                                  |       | 11,597                                               |       | 10,593                                              |       | 33,846 |   | 30,206 |   |
|                                                        |       |                                                 |       |                                                |       |   |   |   |   |
| **INTEREST  EXPENSE**                                       |       |                                                 |       |                                                |       |   |   |   |   |
| Deposits                                                    |       | 4,345                                                |       | 5,309                                               |       | 14,004 |   | 15,322 |   |
| Federal Home  Loan Bank advances                            |       | 1,230                                                |       | 375                                                 |       | 3,380 |   | 1,111 |   |
| Other borrowed  funds                                       |       | 203                                                  |       | —                                              |       | 567 |   | — |   |
| **Total  Interest Expense**                                 |       | 5,778                                                |       | 5,684                                               |       | 17,951 |   | 16,433 |   |
|                                                        |       |                                                 |       |                                                |       |   |   |   |   |
| **Net  Interest Income**                                    |       | 5,819                                                |       | 4,909                                               |       | 15,895 |   | 13,773 |   |
|                                                        |       |                                                 |       |                                                |       |   |   |   |   |
| Provision for  loan losses                                  |       | 500                                                  |       | 125                                                 |       | 900 |   | 200 |   |
| **Net  Interest Income after Provision for Loan Losses**    |       | 5,319                                                |       | 4,784                                               |       | 14,995 |   | 13,573 |   |
|                                                        |       |                                                 |       |                                                |       |   |   |   |   |
| **NONINTEREST  INCOME**                                     |       |                                                 |       |                                                |       |   |   |   |   |
| Service charges and  other fee income                       |       | 218                                                  |       | 204                                                 |       | 633 |   | 623 |   |
| Net gain on sale  of:                                       |       |                                                 |       |                                                |       |   |   |   |   |
| Loans                                                       |       | 6                                                    |       | —                                              |       | 10 |   | 73 |   |
| Fixed assets                                                |       | —                                               |       | —                                              |       | — |   | 874 |   |
| Securities                                                  |       | —                                               |       | 19                                                  |       | 118 |   | 19 |   |
| Income on  bank-owned life insurance                        |       | 114                                                  |       | 111                                                 |       | 338 |   | 327 |   |
| Other                                                       |       | 21                                                   |       | 53                                                  |       | 56 |   | 160 |   |
| **Total  Noninterest Income**                               |       | 359                                                  |       | 387                                                 |       | 1,155 |   | 2,076 |   |
|                                                        |       |                                                 |       |                                                |       |   |   |   |   |
| **NONINTEREST  EXPENSE**                                    |       |                                                 |       |                                                |       |   |   |   |   |
| Salaries,  benefits and other compensation                  |       | 2,928                                                |       | 2,485                                               |       | 8,790 |   | 7,154 |   |
| Occupancy  expense                                          |       | 458                                                  |       | 475                                                 |       | 1,412 |   | 1,354 |   |
| Furniture and  equipment expense                            |       | 226                                                  |       | 230                                                 |       | 669 |   | 712 |   |
| Data processing  costs                                      |       | 402                                                  |       | 388                                                 |       | 1,204 |   | 1,149 |   |
| Professional  fees                                          |       | 285                                                  |       | 460                                                 |       | 863 |   | 1,445 |   |
| Marketing  expense                                          |       | 117                                                  |       | 152                                                 |       | 337 |   | 449 |   |
| FDIC premiums                                               |       | 26                                                   |       | 20                                                  |       | 81 |   | 62 |   |
| Other                                                       |       | 347                                                  |       | 416                                                 |       | 1,111 |   | 1,300 |   |
| **Total  Noninterest Expense**                              |       | 4,789                                                |       | 4,626                                               |       | 14,467 |   | 13,625 |   |
| **Income  Before Income Taxes**                             |       | 889                                                  |       | 545                                                 |       | 1,683 |   | 2,024 |   |
| Income tax  provision                                       |       | 230                                                  |       | 90                                                  |       | 375 |   | 424 |   |
| **Net  Income**                                             |       | $                                                    | 659        |                                                | $          | 455 |   | $ | 1,308 |   | $ | 1,600 |   |
| Earnings  per share:                                        |       |                                                 |       |                                                |       |   |   |   |   |
| Basic                                                       |       | $                                                    | 0.05       |                                                | $          | 0.03 |   | $ | 0.10 |   | $ | 0.11 |   |
| Diluted                                                     |       | $                                                    | 0.05       |                                                | $          | 0.03 |   | $ | 0.10 |   | $ | 0.11 |   |

 

***See accompanying notes to the unaudited consolidatedfinancial statements.***

 

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Table of Contents

 

**FOXCHASE BANCORP, INC.**

**ConsolidatedStatement of Changes in Equity**

**NineMonths Ended September 30, 2008**

**(Unaudited)**

**(InThousands)**

 
| ** **                                      | ** ** | ** ** | ** ** | ** **     | ** ** | ** **   | ** ** | **Common**             | ** ** | ** **   | ** ** | **Accumulated**         | ** ** | ** **        | ** ** |
|-------------------------------------------------|------------|------------|------------|----------------|------------|--------------|------------|------------------------|------------|--------------|------------|-------------------------|------------|-------------------|------------|
| ** **                                      | ** ** | ** ** | ** ** | ** **     | ** ** | ** **   | ** ** | **Stock**              | ** ** | ** **   | ** ** | **Other**               | ** ** | **Total**         | ** ** |
| ** **                                      | ** ** | ** ** | ** ** | **Additional** | ** ** | ** **   | ** ** | **Acquired**           | ** ** | ** **   | ** ** | **Comprehensive**       | ** ** | **Stock-**        | ** ** |
| ** **                                      | ** ** | **Common** | ** ** | **Paid-in**    | ** ** | **Treasury** | ** ** | **by**                 | ** ** | **Retained** | ** ** | **Income (Loss),** | ** ** | **holders’** | ** ** |
| ** **                                      | ** ** | **Stock**  | ** ** | **Capital**    | ** ** | **Stock**    | ** ** | **Benefit Plans** | ** ** | **Earnings** | ** ** | **Net**                 | ** ** | **Equity**        | ** ** |
| **BALANCE  - DECEMBER 31, 2007**                |       | $          | 147        |           | $          | 62,909       |       | $                      | (3,924     | )            | $          | (8,732                  | )          | $                 | 71,475     |   | $ | 496 |   | $ | 122,371 |   |
| Purchase of  treasury stock                     |       |       |       |           |       | (2,671       | )          |                   |       |         |       |                    |       | (2,671            | )          |
| Stock based  compensation expense               |       |       |       | 710            |       |         |       |                   |       |         |       |                    |       | 710               |       |
| Issuance of  stock for vested equity awards     |       |       |       | (529           | )          |         |       | 529                    |       |         |       |                    |       | —            |       |
| Unallocated ESOP  shares committed to employees |       |       |       | 45             |       |         |       | 288                    |       |         |       |                    |       | 333               |       |
| Shares allocated  in long-term incentive plan   |       |       |       | 78             |       |         |       |                   |       |         |       |                    |       | 78                |       |
| Net income                                      |       |       |       |           |       |         |       |                   |       | 1,308        |       |                    |       | 1,308             |       |
| Other  comprehensive loss                       |       |       |       |           |       |         |       |                   |       |         |       | (1,447                  | )          | (1,447            | )          |
| **BALANCE  – SEPTEMBER 30, 2008**          |       | $          | 147        |           | $          | 63,213       |       | $                      | (6,595     | )            | $          | (7,915                  | )          | $                 | 72,783     |   | $ | (951 | ) | $ | 120,682 |   |

 

***See accompanying notes to the unaudited consolidatedfinancial statements*****.**

 

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Tableof Contents

 

**FOXCHASE BANCORP, INC.**

**ConsolidatedStatements of Cash Flows**

**(Unaudited)**

**(InThousands)**

 
| ** **                                                                                | ** ** | **Nine Months Ended** | ** ** |
|-------------------------------------------------------------------------------------------|------------|---------------------------------|------------|
| ** **                                                                                | ** ** | **September 30,**          | ** ** |
| ** **                                                                                | ** ** | **2008**                        | ** ** | **2007** | ** ** |
| **CASH  FLOWS FROM OPERATING ACTIVITIES**                                                 | ** ** | ** **                      | ** ** | ** ** | ** ** |
| Net income                                                                                |       | $                               | 1,308      |   | $ | 1,600 |   |
| Adjustments to  reconcile net income to net cash provided by operating activities:        | ** ** | ** **                      | ** ** | ** ** | ** ** |
| Provision for  loan losses                                                                |       | 900                             |       | 200 |   |
| Depreciation                                                                              |       | 736                             |       | 770 |   |
| Net amortization  of securities premiums and discounts                                    |       | 656                             |       | 165 |   |
| (Benefit)  provision for deferred income taxes                                            |       | (397                            | )          | 150 |   |
| Shares committed  to be released to the ESOP                                              |       | 333                             |       | 381 |   |
| Shares earned in  the long-term incentive plan                                            |       | 78                              |       | 124 |   |
| Compensation  cost for stock options and stock awards                                     |       | 710                             |       | 68 |   |
| Pension plan  settlement                                                                  |       | 137                             |       | — |   |
| Originations of  loans held for sale                                                      |       | (3,197                          | )          | (6,112 | ) |
| Proceeds from  sale of loans held for sale                                                |       | 3,193                           |       | 7,331 |   |
| Net realized  gains on sales of fixed assets                                              |       | —                          |       | (874 | ) |
| Net gains on  sales of securities                                                         |       | (118                            | )          | (19 | ) |
| Net gain on  sales of loans and loans held for sale                                       |       | (10                             | )          | (73 | ) |
| Earnings on  investment in bank-owned life insurance                                      |       | (338                            | )          | (327 | ) |
| Decrease in  mortgage servicing rights                                                    |       | 111                             |       | 90 |   |
| (Increase)  decrease in accrued interest receivable and other assets                      | ** ** | (454                            | )          | 812 | ** ** |
| Increase  (decrease) in accrued interest payable, accrued expenses and other  liabilities | ** ** | 2,241                           | ** ** | (119 | ) |
| **Net  Cash Provided by Operating Activities**                                            |       | 5,889                           |       | 4,167 |   |
| ** **                                                                                | ** ** | ** **                      | ** ** | ** ** | ** ** |
| **CASH  FLOWS FROM INVESTING ACTIVITIES**                                                 | ** ** | ** **                      | ** ** | ** ** | ** ** |
| Equity  investment in unaffiliated entity                                                 |       | —                          |       | (300 | ) |
| Investment  securities available-for-sale:                                                | ** ** | ** **                      | ** ** | ** ** | ** ** |
| Purchases                                                                                 |       | (17,128                         | )          | (76,264 | ) |
| Proceeds from  sales                                                                      |       | 72,398                          |       | 108 |   |
| Proceeds from  maturities, calls and principal repayments                                 |       | 11,495                          |       | 28,182 |   |
| Mortgage related  securities available-for-sale:                                          | ** ** | ** **                      | ** ** | ** ** | ** ** |
| Purchases                                                                                 |       | (108,495                        | )          | (11,149 | ) |
| Proceeds from sales                                                                       |       | 22,051                          |       | — |   |
| Proceeds from  maturities, calls and principal repayments                                 |       | 48,525                          |       | 36,164 |   |
| Net increase in  loans                                                                    |       | (107,449                        | )          | (39,387 | ) |
| Purchase of loan  participations                                                          |       | (19,254                         | )          | (27,614 | ) |
| Net (increase)  decrease in Federal Home Loan Bank stock                                  |       | (3,086                          | )          | 450 |   |
| Increase in  other investments                                                            |       | (83                             | )          | — |   |
| Purchases of  premises and equipment                                                      |       | (201                            | )          | (2,207 | ) |
| Proceeds from  sales of premises and equipment                                            |       | 10                              |       | 1,732 |   |
| **Net  Cash Used in Investing Activities**                                                |       | (101,217                        | )          | (90,285 | ) |
| ** **                                                                                | ** ** | ** **                      | ** ** | ** ** | ** ** |
| **CASH  FLOWS FROM FINANCING ACTIVITIES**                                                 | ** ** | ** **                      | ** ** | ** ** | ** ** |
| Net increase  (decrease) in deposits                                                      |       | 7,838                           |       | (11,940 | ) |
| Decrease in  advances from borrowers for taxes and insurance                              |       | (692                            | )          | (989 | ) |
| Purchase of  treasury stock                                                               |       | (2,671                          | )          | — |   |
| Principal  payments on Federal Home Loan Bank advances                                    |       | (25,710                         | )          | — |   |
| Federal Home  Loan Bank advances                                                          |       | 76,770                          |       | — |   |
| Other borrowings                                                                          |       | 15,000                          |       | — |   |
| Acquisition of  stock to fund equity incentive plan                                       |       | —                          |       | (1,374 | ) |
| **Net  Cash Provided by (Used in) Financing Activities**                                  |       | 70,535                          |       | (14,303 | ) |
| ** **                                                                                |       |                            |       |   |   |
| **Net  Decrease in Cash and Cash Equivalents**                                            |       | (24,793                         | )          | (100,421 | ) |
| ** **                                                                                |       |                            |       |   |   |
| **Cash  and Cash Equivalents – Beginning**                                           |       | 31,275                          |       | 134,441 |   |
| ** **                                                                                |       |                            |       |   |   |
| **Cash  and Cash Equivalents – Ending**                                              |       | $                               | 6,482      |   | $ | 34,020 |   |
| **SUPPLEMENTAL  DISCLOSURE OF CASH FLOW INFORMATION**                                     | ** ** | ** **                      | ** ** | ** ** | ** ** |
| Interest paid                                                                             |       | $                               | 17,804     |   | $ | 16,404 |   |
| Income taxes  paid                                                                        |       | $                               | 836        |   | $ | 19 |   |

** **

***See accompanying notes to the unauditedconsolidated financial statements.***

 

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**FOX CHASEBANCORP, INC**

**Notes tothe Unaudited Consolidated Financial Statements**

 

**NOTE 1 - PRINCIPLESOF CONSOLIDATION AND PRESENTATION**

 

FoxChase Bancorp, Inc. (the “Bancorp”) was organized on September 29,2006 under the laws of the United States to be a holding company for Fox ChaseBank (the “Bank”), a stock savings bank also organized under the laws of theUnited States.  On September 29,2006, the Bancorp completed its initial public offering in which it sold6,395,835 shares, or 43.57% of its outstanding common stock to the public,including 575,446 shares purchased by the Fox Chase Bank Employee StockOwnership Plan (the “ESOP”).  Anadditional 8,148,915 shares, or 55.51% of the Bancorp’s outstanding stock, wereissued to Fox Chase MHC, the Bancorp’s federally chartered mutual holdingcompany. Net proceeds of the offering totaled $56.6 million.  Additionally, the Bancorp contributed$150,000 in cash and issued 135,000 shares, or 0.92% of its outstanding commonstock, to the Fox Chase Bank Charitable Foundation.

 

TheBancorp’s primary business has been that of holding the common stock of theBank and making a loan to the ESOP.   TheBancorp is authorized to pursue other business activities permissible by lawsand regulations for other savings and loan holding companies.

 

TheBancorp and the Bank are subject to regulations of certain federal bankingagencies.  These regulations can and dochange significantly from period to period. The Bancorp and the Bank also undergo periodic examinations byregulatory agencies which may subject them to further changes with respect toasset valuations, amounts of required loss allowances and operatingrestrictions resulting from the regulators’ judgments based on informationavailable to them at the time of their examinations.

 

TheBancorp and the Bank (collectively referred to as the “Company”) provide a widevariety of financial products and services to individuals and businessesthrough the Bank’s eleven branches in Philadelphia, Richboro, Willow Grove,Warminster, Lahaska, Hatboro, Media and West Chester, Pennsylvania, and OceanCity, Marmora and Egg Harbor Township, New Jersey.  The operations of the Company are managed asa single business segment.  The Companycompetes with other financial institutions and other companies that providefinancial services.

 

The consolidated financial statements include the accounts of theBancorp and its wholly owned subsidiary, the Bank. The Bank’s operationsinclude the accounts of its wholly owned subsidiary, Fox Chase Financial, Inc.  Fox Chase Financial, Inc. is a Delawarechartered investment holding company and its sole purpose is to manage and holdinvestment securities.  The financial statementsdo not include the transactions and balances of Fox Chase MHC.  All material inter-company transactions andbalances have been eliminated in consolidation. Prior period amounts arereclassified, when necessary, to conform with the current year’s presentation.

 

The Company follows accounting principles and reporting practices whichare in compliance with U.S. generally accepted accounting principles (“GAAP”).The preparation of the financial statements in conformity with GAAP requiresmanagement to make estimates and assumptions that affect the reported amountsof assets and liabilities and disclose contingent assets and liabilities at thedate of the financial statements and the reported amounts of revenues andexpenses during the reporting period. Actual results could differ from those estimates.  Material estimates that are particularlysusceptible to significant change in the near term relate to the determinationof the allowance for loan losses, the valuation and realizability of deferredtax assets and the evaluation of other than temporary impairment of investmentsecurities.  These interim financialstatements do not contain all necessary disclosures required by GAAP forcomplete financial statements and therefore should be read in conjunction withthe audited financial statements and the notes thereto included in Fox ChaseBancorp, Inc.’s Annual Report on Form 10-K,filed with the Securities and Exchange Commission on March 14,2008.   These financial statementsinclude all normal and recurring adjustments which management believes werenecessary in order to conform to GAAP. The results for the nine months ended September 30, 2008 are notnecessarily indicative of the results that may be expected for the year ending December 31,2008.

 

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**NOTE 1 - PRINCIPLES OF CONSOLIDATION AND PRESENTATION (CONTINUED)**

** **

**PerShare Information**

** **

**The Company follows the provisions of SFAS No. 128, “EarningsPer Share.”  Basic earnings per shareexcludes dilution and is computed by dividing income available to commonstockholders by the weighted-average common shares outstanding during theperiod.  Diluted earnings per share takesinto account the potential dilution that could occur if securities or othercontracts to issue common stock were exercised and converted into commonstock.  Unallocated shares in the Bank’semployee stock ownership plan (“ESOP”), unvested shares in the Company’slong-term incentive plan and shares purchased to fund the Bancorp’s 2007 EquityIncentive Plan are not included in either basic or diluted earnings per share.**

** **

**The following table presents the reconciliation of thenumerators and denominators of the basic and diluted earnings per sharecomputations (unaudited).**

 
| ** **                                                                         | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended** | ** ** |
|------------------------------------------------------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                                                                         | ** ** | **September 30,**           | ** ** | **September 30,**          | ** ** |
| ** **                                                                         | ** ** | **2008**                         | ** ** | **2007**                        | ** ** | **2008** | ** ** | **2007** | ** ** |
|                                                                               |       |                             |       |                            |       |   |   |   |   |
| Net Income                                                                         |       | $                                | 659,000    |                            | $          | 455,000 |   | $ | 1,308,000 |   | $ | 1,600,000 |   |
|                                                                               |       |                             |       |                            |       |   |   |   |   |
| Weighted-average  common shares outstanding (1)                                    |       | 14,191,655                       |       | 14,679,750                      |       | 14,275,109 |   | 14,679,750 |   |
| Average common  stock acquired by stock benefit plans:                             |       |                             |       |                            |       |   |   |   |   |
| Unvested shares  - long-term incentive plan                                        |       | (25,114                          | )          | (38,362                         | )          | (25,114 | ) | (38,697 | ) |
| ESOP shares  unallocated                                                           |       | (476,272                         | )          | (514,635                        | )          | (485,804 | ) | (524,131 | ) |
| Shares purchased  by trust                                                         |       | (274,254                         | )          | (9,897                          | )          | (283,053 | ) | (3,335 | ) |
|                                                                               |       |                             |       |                            |       |   |   |   |   |
| Weighted-average  common shares used to calculate basic earnings per share         |       | 13,416,015                       |       | 14,116,856                      |       | 13,481,138 |   | 14,113,587 |   |
|                                                                               |       |                             |       |                            |       |   |   |   |   |
| Dilutive effect:                                                                   |       |                             |       |                            |       |   |   |   |   |
| Unvested shares  - long-term incentive plans                                       |       | 25,114                           |       | 38,362                          |       | 25,114 |   | 38,697 |   |
| Restricted stock  awards                                                           |       | 1,712                            |       | 378                             |       | 6,934 |   | 125 |   |
|                                                                               |       |                             |       |                            |       |   |   |   |   |
| Weighted-average  common stock shares used to calculate diluted earnings per share |       | 13,442,841                       |       | 14,155,596                      |       | 13,513,186 |   | 14,152,409 |   |
|                                                                               |       |                             |       |                            |       |   |   |   |   |
| Earnings per  share - basic                                                        |       | $                                | 0.05       |                            | $          | 0.03 |   | $ | 0.10 |   | $ | 0.11 |   |
| Earnings per  share - diluted                                                      |       | $                                | 0.05       |                            | $          | 0.03 |   | $ | 0.10 |   | $ | 0.11 |   |
|                                                                               |       |                             |       |                            |       |   |   |   |   |
| Outstanding  anti-dilutive common stock equivalents                                |       | 793,068                          |       | —                          |       | 787,846 |   | — |   |

 

----

(1) Excludes treasury stock.

 

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**NOTE 2 - INVESTMENT AND MORTGAGE RELATED SECURITIES**

 

The amortized cost and fair value of securitiesavailable-for-sale as of September 30, 2008 and December 31, 2007 aresummarized as follows:

 
| ** **                                            | ** ** | **September 30, 2008 (Unaudited)** | ** ** |
|-------------------------------------------------------|------------|---------------------------------------------------|------------|
|                                                  | ** ** | **Amortized   Cost**                         | ** ** | **Gross   Unrealized   Gains** | ** ** | **Gross   Unrealized   Losses** | ** ** | **Fair   Value** | ** ** |
|                                                  | ** ** | **(In Thousands)**                           | ** ** |
|                                                  | ** ** | ** **                                        | ** ** |
| State and  political subdivisions                     |       | $                                                 | 14,677     |   | $ | 25 |   | $ | (444 | ) | $ | 14,258 |   |
| Corporate  securities                                 |       | 9,706                                             |       | 4 |   | (163 | ) | 9,547 |   |
|                                                  |       | 24,383                                            |       | 29 |   | (607 | ) | 23,805 |   |
|                                                  |       |                                              |       |   |   |   |   |   |   |
| Private label  residential mortgage related security  |       | 930                                               |       | — |   | (442 | ) | 488 |   |
| Private label  commercial mortgage related securities |       | 10,054                                            |       | — |   | (722 | ) | 9,332 |   |
| Agency  residential mortgage related securities       |       | 230,368                                           |       | 1,404 |   | (1,163 | ) | 230,609 |   |
| Total mortgage  related securities                    |       | 241,352                                           |       | 1,404 |   | (2,327 | ) | 240,429 |   |
|                                                  |       |                                              |       |   |   |   |   |   |   |
| **Total  securities**                                 |       | $                                                 | 265,735    |   | $ | 1,433 |   | $ | (2,934 | ) | $ | 264,234 |   |

 
| ** **                                            | ** ** | **December 31, 2007** | ** ** |
|-------------------------------------------------------|------------|---------------------------------|------------|
| ** **                                            | ** ** | **Amortized   Cost**       | ** ** | **Gross   Unrealized   Gains** | ** ** | **Gross   Unrealized   Losses** | ** ** | **Fair   Value** | ** ** |
|                                                  | ** ** | **(In Thousands)**         | ** ** |
|                                                  |       |                            |       |   |   |   |   |   |   |
| Obligations of  U.S. government agencies              |       | $                               | 10,000     |   | $ | 16 |   | $ | — |   | $ | 10,016 |   |
| State and  political subdivisions                     |       | 81,019                          |       | 126 |   | (2 | ) | 81,143 |   |
|                                                  |       | 91,019                          |       | 142 |   | (2 | ) | 91,159 |   |
|                                                  |       |                            |       |   |   |   |   |   |   |
| Private label residential  mortgage related security  |       | 1,181                           |       | 27 |   | — |   | 1,208 |   |
| Private label  commercial mortgage related securities |       | 10,069                          |       | 68 |   | — |   | 10,137 |   |
| Agency  residential mortgage related securities       |       | 193,112                         |       | 983 |   | (295 | ) | 193,800 |   |
| Mortgage related  securities                          |       | 204,362                         |       | 1,078 |   | (295 | ) | 205,145 |   |
|                                                  |       |                            |       |   |   |   |   |   |   |
| **Total  securities**                                 |       | $                               | 295,381    |   | $ | 1,220 |   | $ | (297 | ) | $ | 296,304 |   |

 

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**NOTE 2 - INVESTMENT AND MORTGAGE RELATED SECURITIES(CONTINUED)**

 

The following tables show gross unrealized losses and fair value ofsecurities, aggregated by security category and length of time that individualsecurities have been in a continuous unrealized loss position, at September 30,2008 and December 31, 2007:

 
| ** **                                            | ** ** | **September 30, 2008 (Unaudited)** | ** ** |
|-------------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                            | ** ** | **Less than 12 Months**            | ** ** | **12 Months or More** | ** ** | **Total** | ** ** |
| ** **                                            | ** ** | **Fair   Value**                             | ** ** | **Unrealized   Losses** | ** ** | **Fair   Value** | ** ** | **Unrealized   Losses** | ** ** | **Fair   Value** | ** ** | **Unrealized   Losses** | ** ** |
|                                                  | ** ** | **(In Thousands)**                           | ** ** |
|                                                  | ** ** | ** **                                        | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| State and  political subdivisions                     |       | $                                                 | 10,186     |   | $ | (444 | ) | $ | — |   | $ | — |   | $ | 10,186 |   | $ | (444 | ) |
| Corporate  securities                                 |       | 7,581                                             |       | (163 | ) | — |   | — |   | 7, 581 |   | (163 | ) |
|                                                  |       | 17,767                                            |       | (607 | ) | — |   | — |   | 17,767 |   | (607 | ) |
|                                                  |       |                                              |       |   |   |   |   |   |   |   |   |   |   |
| Private label  residential mortgage related security  |       | 488                                               |       | (442 | ) | — |   | — |   | 488 |   | (442 | ) |
| Private label  commercial mortgage related securities |       | 9,332                                             |       | (722 | ) | — |   | — |   | 9,332 |   | (722 | ) |
| Agency  residential mortgage related securities       |       | 80,482                                            |       | (1,114 | ) | 706 |   | (49 | ) | 81,188 |   | (1,163 | ) |
| Mortgage related  securities                          |       | 90,302                                            |       | (2,278 | ) | 706 |   | (49 | ) | 91,008 |   | (2,327 | ) |
|                                                  |       |                                              |       |   |   |   |   |   |   |   |   |   |   |
| **Total  securities**                                 |       | $                                                 | 108,069    |   | $ | (2,885 | ) | $ | 706 |   | $ | (49 | ) | $ | 108,775 |   | $ | (2,934 | ) |

 
| ** **                                      | ** ** | **December 31, 2007**        | ** ** |
|-------------------------------------------------|------------|----------------------------------------|------------|
| ** **                                      | ** ** | **Less than 12 Months** | ** ** | **12 Months or More** | ** ** | **Total** | ** ** |
| ** **                                      | ** ** | **Fair   Value**                  | ** ** | **Unrealized   Losses** | ** ** | **Fair   Value** | ** ** | **Unrealized   Losses** | ** ** | **Fair   Value** | ** ** | **Unrealized   Losses** | ** ** |
| ** **                                      | ** ** | **(In Thousands)**                | ** ** |
|                                            |       |                                   |       |
| State and political subdivisions |       | $                                      | 597        |   | $ | (1 | ) | $ | 672 |   | $ | (1 | ) | $ | 1,269 |   | $ | (2 | ) |
| Agency  residential mortgage related securities |       | 32,627                                 |       | (78 | ) | 25,977 |   | (217 | ) | 58,604 |   | (295 | ) |
|                                            |       |                                   |       |   |   |   |   |   |   |   |   |   |   |
| **Total  securities**                           |       | $                                      | 33,224     |   | $ | (79 | ) | $ | 26,649 |   | $ | (218 | ) | $ | 59,873 |   | $ | (297 | ) |

 

Managementevaluates securities for other-than-temporary impairment on at least aquarterly basis.  Management does notbelieve that any individual unrealized loss represents an other-than-temporaryimpairment at September 30, 2008 and December 31, 2007.  Management believes the temporary impairmenton its investment securities and mortgage related securities at September 30,2008 is primarily related to increases in required market yields drivenprimarily by dislocations in the credit markets. These individual impairmentsare deemed temporary based on the direct relationship to movements in requiredmarket returns as well as the Company’s ability and intent to hold thesesecurities to recovery.

 

Additionally,Management performed a cash flow analysis of the private label residentialmortgage-related security as of September 30, 2008.  The security has a balance of $930,000 and anunrealized loss of $442,000 at September 30, 2008.  The security had a balance of $1.2 millionand an unrealized gain of $27,000 at December 31, 2007.  Management has concluded that the security isnot other-than-temporarily impaired (1) because the security continues tocash flow based on its contractual terms, (2) because the securitycontinues to maintain a credit rating of AAA, (3) based on Management’sanalysis the security appears to have adequate credit enhancement to absorbfuture losses, and (4) Management’s ability and intent to hold thissecurity to recovery.

 

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**NOTE 3 -LOANS**

 

Thecomposition of net loans at September 30, 2008 and December 31, 2007is provided below (in thousands).

 
| ** **                                   | ** ** | **September 30,   2008** | ** ** | **December 31,   2007** | ** ** |
|----------------------------------------------|------------|------------------------------------|------------|-----------------------------------|------------|
| ** **                                   | ** ** | **(Unaudited)**                    | ** ** | ** **                        | ** ** |
| Real estate  loans:                          |       |                               |       |                              |       |
| One-to  four-family                          |       | $                                  | 253,862    |                              | $          | 215,817 |   |
| Multi-family and  commercial                 |       | 147,439                            |       | 76,287                            |       |
| Construction                                 |       | 63,459                             |       | 46,471                            |       |
|                                         |       | 464,760                            |       | 338,575                           |       |
|                                         |       |                               |       |                              |       |
| Consumer loans:                              |       |                               |       |                              |       |
| Home equity                                  |       | 65,168                             |       | 68,431                            |       |
| Automobile                                   |       | 315                                |       | 565                               |       |
| Lines of credit                              |       | 9,962                              |       | 9,642                             |       |
| Other                                        |       | 111                                |       | 106                               |       |
|                                         |       | 75,556                             |       | 78,744                            |       |
| Commercial loans                             |       | 36,505                             |       | 33,356                            |       |
|                                         |       |                               |       |                              |       |
| **Total  Loans**                             |       | 576,821                            |       | 450,675                           |       |
|                                         |       |                               |       |                              |       |
| Unearned loan  origination costs (fees), net |       | 278                                |       | (264                              | )          |
| Allowance for  loan losses                   |       | (4,261                             | )          | (3,376                            | )          |
|                                         |       |                               |       |                              |       |
| **Net  Loans**                               |       | $                                  | 572,838    |                              | $          | 447,035 |   |

 

Thefollowing table presents changes in the allowance for loan losses (inthousands):

 
| ** **                        | ** ** | **Nine Months   Ended   September 30,** | ** ** | **Year   Ended   December 31,** | ** ** |
|-----------------------------------|------------|-------------------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                        | ** ** | **2008**                                                    | ** ** | **2007**                                       | ** ** | **2007** | ** ** |
|                              |       | **(Unaudited)**                                             |       |                                           |       |
| Allowance at  beginning of period |       | $                                                           | 3,376      |                                           | $          | 2,949 |   | $ | 2,949 |   |
| Provision for  loan losses        |       | 900                                                         |       | 200                                            |       | 425 |   |
| Loans charged  off                |       | (18                                                         | )          | (2                                             | )          | (2 | ) |
| Recoveries                        |       | 3                                                           |       | 3                                              |       | 4 |   |
| Allowance at end  of period       |       | $                                                           | 4,261      |                                           | $          | 3,150 |   | $ | 3,376 |   |

 

As of September 30, 2008 and December 31, 2007, the Bank hadone interest rate swap in the notional amount of $1.2 million to hedge a15-year fixed rate loan, which was earning interest at 7.43%.  The Company is receiving a variable ratepayment of three-month LIBOR plus 2.24% and is paying a fixed rate payment of7.43%. The swap matures in April 2022 and had a market value loss positionof $76,000 and $60,000 at September 30, 2008 and December 31, 2007,respectively.

 

Effective January 1, 2008, the Company adopted SFAS No. 159, “TheFair Value Option for Financial Assets and Liabilities - Including an Amendmentof FASB Statement No. 115” (SFAS No. 159), which is further discussedin Note 10.  In conjunction with theadoption of SFAS No. 159, the Company identified two financial instrumentsto be designated for fair value reporting. The identified instruments are the loan and the related swap discussedin the preceding paragraph.

 

As the loan is contractually current, the Company has determined themarket value of the gain position of the loan is equal to the market value lossposition of the swap as of both December 31, 2007 and September 30,2008.  Accordingly, adopting SFAS No. 159for these two financial instruments has no impact on the Company’s beginning ofperiod retained earnings or net income for the nine months ended September 30,2008.

 

The Company elected to adopt SFAS No. 159 for these two financialinstruments as they represent the financial instruments associated with theCompany’s only swap agreement.  Thecritical terms of the loan and the swap are a mirror image, except the loanincludes a default interest rate clause.

 

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**NOTE 4 – MORTGAGE SERVICING ACTIVITY**

 

Loansserviced for others are not included in the accompanying consolidatedstatements of condition. The unpaid principal balances of these loans were$110.9 million and $120.4 million at September 30, 2008 and 2007,respectively, and $118.1 million at December 31, 2007.

 

Thefollowing summarizes mortgage servicing rights for the nine months ended September 30,2008 and 2007 and the year ended December 31, 2007 (in thousands):

 
| ** **                             | ** ** | **Nine Months   Ended   September 30,** | ** ** | **Years   Ended   December 31,** | ** ** |
|----------------------------------------|------------|-------------------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                             | ** ** | **2008**                                                    | ** ** | **2007**                                        | ** ** | **2007** | ** ** |
| ** **                             | ** ** | **(Unaudited)**                                             | ** ** | ** **                                      | ** ** |
| Balance,  beginning                    |       | $                                                           | 1,066      |                                            | $          | 1,177 |   | $ | 1,177 |   |
| Mortgage  servicing rights capitalized |       | —                                                      |       | 1                                               |       | 1 |   |
| Mortgage  servicing rights amortized   |       | (80                                                         | )          | (91                                             | )          | (112 | ) |
| Valuation  allowance                   |       | (31                                                         | )          | —                                          |       | — |   |
| Balance, ending                        |       | $                                                           | 955        |                                            | $          | 1,087 |   | $ | 1,066 |   |

 

Forthe periods ended September 30, 2008, September 30, 2007 and December 31,2007, the aggregate fair value of the mortgage servicing rights (“MSRs”) was$1.0 million (unaudited), $1.4 million (unaudited) and $1.3 million,respectively.

 

Thefair value of the MSRs for these periods was determined using a valuation modelthat calculates the present value of estimated future servicing income. Themodel incorporates assumptions that market participants use in estimatingfuture net servicing income, including estimates of prepayment speeds anddiscount rates. Mortgage loan prepayment speed is the annual rate at whichborrowers are forecasted to repay their mortgage loan principal and is based onhistorical experience. The discount rate used to determine the present value offuture net servicing income - another key assumption in the model - is therequired rate of return the market would expect for an asset with similar risk.Both assumptions can, and generally will, change quarterly valuations as marketconditions and interest rates change.

 

MSRsare subject to a disaggregated impairment test at the end of each reportingperiod, based on the predominant risk characteristics of the underlyingloans.  The Bank utilizes originalfunding date as the predominant risk characteristic and segments the MSR assetinto eight distinct tranches.  As of September 30,2008, two of the MSR tranches had a net impairment and the Bank recorded avaluation allowance of $31,000.

 

Thisreduction in the aggregate MSR fair value from $1.4 million at September 30,2007 to $1.0 million at September 30, 2008 and the resulting valuationallowance is primarily a result of the valuation model increasing the requireddiscount from 10% to 13% during the quarter ended September 30, 2008

 

**NOTE 5 - DEPOSITS**

 

Depositsand their respective weighted average interest rate at September 30, 2008and December 31, 2007 consist of the following (dollars in thousands):

 
| ** **                            | ** ** | **September 30, 2008**        | ** ** | **December 31, 2007** | ** ** |
|---------------------------------------|------------|-----------------------------------------|------------|---------------------------------|------------|
| ** **                            | ** ** | **Weighted   Average   Rate** | ** ** | **Amount**                      | ** ** | **Weighted   Average   Rate** | ** ** | **Amount** | ** ** |
| ** **                            | ** ** | **(Unaudited)**                         | ** ** | ** **                      | ** ** | ** ** | ** ** |
| Non-interest  bearing demand accounts |       | —                                  | %          | $                               | 46,365     |   | — | % | $ | 43,462 |   |
| NOW accounts                          |       | 1.12                                    |       | 34,107                          |       | 1.70 |   | 39,299 |   |
| Money market  accounts                |       | 2.72                                    |       | 89,746                          |       | 3.13 |   | 50,568 |   |
| Savings and club  accounts            |       | 0.25                                    |       | 50,777                          |       | 0.65 |   | 54,019 |   |
| Certificates of  deposit              |       | 4.03                                    |       | 372,403                         |       | 4.71 |   | 398,212 |   |
| ** **                            |       | 3.03                                    | %          | $                               | 593,398    |   | 3.64 | % | $ | 585,560 |   |

 

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**NOTE 6 – BORROWINGS**

 

**Federal Home Loan Bank Advances**

 

Pursuant to collateral agreements with the Federal Home LoanBank of Pittsburgh (the “FHLB”), advances are secured by qualifying firstmortgage loans, qualifying fixed-income securities, FHLB stock and aninterest-bearing demand deposit account with the FHLB. As of September 30,2008, the Bank had $157.3 million in qualifying collateral pledged against itsadvances.

 
| **Maturity Date**         | ** ** | **Interest Rate** | ** ** | **Strike Rate** | ** ** | **Call Date** | ** ** | **Amount**              | ** ** |
|--------------------------------|------------|------------------------|------------|----------------------|------------|--------------------|------------|-------------------------|------------|
| ** **                     | ** ** | ** **             | ** ** | ** **           | ** ** | ** **         | ** ** | **(in thousands)** | ** ** |
| ** **                     | ** ** | ** **             | ** ** | ** **           | ** ** | ** **         | ** ** | ** **              | ** ** |
| February 2010             |       | 2.84                   | %          | —               |       |               |       | $                       | 10,000     |   |
| August 2011               |       | 4.89                   | %          | 7.50                 | %          |               |       | 20,000                  |       |
| August 2011               |       | 4.87                   | %          | 7.50                 | %          |               |       | 10,000                  |       |
| July 2013                 |       | 4.10                   | %          | —               |       |               |       | 9,962                   |       |
| January 2015              |       | 3.49                   | %          | —               |       |               |       | 27,448                  |       |
| November 2017             |       | 3.62                   | %          |                 |       | November 2010 |       | 15,000                  |       |
| November 2017             |       | 3.87                   | %          |                 |       | November 2011 |       | 15,000                  |       |
| December 2017             |       | 2.83                   | %          |                 |       | December 2008 |       | 20,000                  |       |
| Term advances                  |       |                   |       |                 |       |               |       | $                       | 127,410    |   |
|                           |       |                   |       |                 |       |               |       |                    |       |
| Collateralized  line of credit |       | 2.07                   | %          |                 |       |               |       | 3,650                   |       |
| Total advances                 |       |                   |       |                 |       |               |       | $                       | 131,060    |   |

 

For the borrowings that contractually mature in August 2011,if three-month LIBOR is greater than or equal to the Strike Rate, as defined,the FHLB can notify the Bank of its intention to convert the borrowing to anadjustable-rate advance equal to three-month LIBOR (4.05% at September 30,2008) plus .2175% on a quarterly basis. The Bank has the option to repay theseadvances at each of the option dates without penalty. Accordingly, thecontractual maturities above may differ from actual maturities.

 

The borrowing that contractually matures in July 2013represents an original $10 million five-year borrowing and amortizes over 25years with equal monthly payments of $53,000.

 

The borrowing that contractually matures in January 2015represents an original $30 million seven-year amortizing borrowing and hasequal monthly payments of $403,000.

 

The borrowings that contractually mature in November 2017may be called by the FHLB on the call date disclosed in the above table. If theborrowing is called, the Bank has the option to pay off the borrowing withoutpenalty.  If the Bank fails to do so, theborrowing’s fixed rate will reset to a variable rate of three-month LIBOR plus..10%. Subsequent to the call date, the borrowings are callable by the FHLBquarterly.  Accordingly, the contractualmaturities above may differ from actual maturities.

 

The borrowing that contractually matures in December 2017may be called by the FHLB on the call date disclosed in the above table. If theborrowing is called, the Bank has the option to pay off the borrowing withoutpenalty.  If the Bank fails to do so, theborrowing’s fixed rate will reset to a variable rate of three-month LIBOR plus..11%.  Subsequent to the call date, theborrowing is callable by the FHLB quarterly. Accordingly, the contractual maturities above may differ from actualmaturities.

 

As of September 30, 2008, the Bank had $50.0 million inborrowing capacity under a collateralized line of credit with the FHLB securedby qualifying first mortgage loans, qualifying fixed-income securities, FHLBstock and an interest-bearing demand deposit account with the FHLB.   As of September 30, 2008, there was$3.7 million borrowed on the line at a rate of 2.07%.

 

The Bank had a maximum borrowing capacity with the FHLB ofapproximately $511.8 million at June 30, 2008, the latest date for whichinformation is available.  This maximumborrowing capacity is calculated based on available mortgage relatedsecurities, residential mortgage loans and other real estate collateralizedloans.

 

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**NOTE 6 – BORROWINGS (CONTINUED)**

 

**Other Borrowed Funds**

 

Other borrowed funds totalled $35.0 million at September 30,2008, an increase of $15.0 million from $20.0 million at December 30,2007.  Total other borrowed funds had aweighted average rate of 3.49%.

 

$20.0 million in other borrowed funds with a weighted averagerate of 3.60% contractually mature in November 2014 and may be called bythe lender in November 2009. Subsequent to the call date, the borrowing is callable by the lenderquarterly. $15.0 million in other borrowed funds with a weighted average rateof 3.33% contractually mature in September 2018 and features a one- timecall by the lender in September 2012.

 

Mortgage related securities with a carrying value of $39.0million at September 30, 2008 were pledged as collateral for these otherborrowed funds.

 

**NOTE 7 – EMPLOYEE BENEFITS**

 

**Defined Benefit Plan**

 

The Bank previously maintained a qualified non-contributorydefined benefit retirement plan covering all employees meeting certaineligibility requirements.  The benefitswere based on each employee’s years of service and the average of the highestthree or five consecutive annual salaries. The Bank amended the plan and froze the benefits for currentparticipants in the plan as of January 1, 2006.  In October 2006, the Bank resolved tosettle the obligations to the plan participants by terminating the plan, afterobtaining required approvals.  In thesecond quarter of 2008, the Bank received a determination letter from the IRSapproving the settlement of its plan obligations.  As of June 30, 2008, all planobligations were settled.

 

The following tables provide a roll forward of the changes inbenefit obligations and plan assets for the most recent year and the currentnine months ended September 30, 2008:

 
| ** **                                       | ** ** | **September 30,  2008** | ** ** | **December 31,  2007** | ** ** |
|--------------------------------------------------|------------|------------------------------|------------|-----------------------------|------------|
| ** **                                       | ** ** | **(In Thousands)**      | ** ** |
| **Change in benefit obligation:** | ** ** | ** **                   | ** ** | ** **                  | ** ** |
| ** **                                       | ** ** | ** **                   | ** ** | ** **                  | ** ** |
| Net benefit  obligation at beginning of period   |       | $                            | 2,643      |                        | $          | 2,389 |   |
| Interest cost                                    |       | 67                           |       | 120                         |       |
| Actuarial loss                                   |       | 160                          |       | 134                         |       |
| Benefits paid                                    |       | (2,870                       | )          | —                      |       |
| Net benefit  obligation at end of period         |       | $                            | —     |                        | $          | 2,643 |   |

 
| ** **                                        | ** ** | **September 30,  2008** | ** ** | **December 31,  2007** | ** ** |
|---------------------------------------------------|------------|------------------------------|------------|-----------------------------|------------|
| ** **                                        | ** ** | **(In Thousands)**      | ** ** |
| **Change in plan assets:**         | ** ** | ** **                   | ** ** | ** **                  | ** ** |
| ** **                                        | ** ** | ** **                   | ** ** | ** **                  | ** ** |
| Fair value of  plan assets at beginning of period |       | $                            | 2,407      |                        | $          | 2,302 |   |
| Actual return on  plan assets                     |       | 31                           |       | 105                         |       |
| Employer  contributions                           |       | 432                          |       | —                      |       |
| Benefits paid                                     |       | (2,870                       | )          | —                      |       |
| Fair value of  plan assets at end of period       |       | $                            | —     |                        | $          | 2,407 |   |

 

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**NOTE 7 – EMPLOYEE BENEFITS(CONTINUED)**

 

The following table sets forth the components of the definedbenefit plan costs for the periods presented:

 
| ** **                                                                                | ** ** | **Nine Months**    | ** ** | **Year**              | ** ** |
|-------------------------------------------------------------------------------------------|------------|-------------------------|------------|-----------------------|------------|
| ** **                                                                                | ** ** | **Ended**               | ** ** | **Ended**             | ** ** |
| ** **                                                                                | ** ** | **September 30,**  | ** ** | **December 31,** | ** ** |
| ** **                                                                                | ** ** | **2008**                | ** ** | **2007**              | ** ** |
| ** **                                                                                | ** ** | **(In Thousands)** | ** ** |
|                                                                                      |       |                    |       |                  |       |
| Service cost                                                                              |       | $                       | —     |                  | $          | — |   |
| Interest cost                                                                             |       | 67                      |       | 120                   |       |
| Return on plan  assets                                                                    |       | (31                     | )          | (105                  | )          |
| Amortization of  unrecognized net actuarial loss                                          |       | 160                     |       | 143                   |       |
| Settlement loss                                                                           |       | 137                     |       | —                |       |
| Net periodic  benefit costs reported in salaries, benefits and other compensation expense |       | $                       | 333        |                  | $          | 158 |   |

 

**NOTE 8 – STOCK BASED COMPENSATION**

 

During the nine months ended September 30,2008, the Company recorded $710,000 of stock based compensation expense inconnection with the 2007 Equity Incentive Plan, comprised of stock optionexpense of $304,000 and restricted stock expense of $406,000.

 

During 2007, a trust purchased 287,500 shares ofCompany common stock which the Company anticipates will fund amounts earnedunder the restricted stock awards. During the quarter ended September 30, 2008, 40,620 shares ofrestricted stock vested which reduces shares owned by the trust to 246,880shares.

 

The following is a summary of the Company’s stockoption activity and related information for the 2007 Equity Incentive Plan forthe nine months ended September 30, 2008:

 
| ** **                              | ** ** | ** **         | ** ** | **Weighted** | ** ** |
|-----------------------------------------|------------|--------------------|------------|--------------|------------|
| ** **                              | ** ** | **Number of** | ** ** | **Average**  | ** ** |
| ** **                              | ** ** | **Stock**          | ** ** | **Exercise** | ** ** |
| ** **                              | ** ** | **Options**        | ** ** | **Price**    | ** ** |
|                                    |       |               |       |         |       |
| Outstanding at  December 31, 2007  |       | 518,800            |       | $            | 12.38      |   |
| Granted                                 |       | 101,400            |       | 11.42        |       |
| Exercised                               |       | —             |       | —       |       |
| Forfeited                               |       | (5,000             | )          | 12.09        |       |
| Outstanding at  September 30, 2008 |       | 615,200            |       | $            | 12.22      |   |
| Exercisable at  September 30, 2008 |       | 102,860            |       | $            | 12.38      |   |

 

The following is a summary of the Company’s unvestedoptions as of September 30, 2008 and changes therein during the ninemonths then ended:

 
| ** **                           | ** ** | ** **         | ** ** | **Weighted**        | ** ** |
|--------------------------------------|------------|--------------------|------------|---------------------|------------|
| ** **                           | ** ** | **Number of** | ** ** | **Average**         | ** ** |
| ** **                           | ** ** | **Stock**          | ** ** | **Grant Date** | ** ** |
| ** **                           | ** ** | **Options**        | ** ** | **Fair Value** | ** ** |
| ** **                           | ** ** | ** **         | ** ** | ** **          | ** ** |
| Unvested at  December 31, 2007  |       | 518,800            |       | $                   | 3.40       |   |
| Granted                              |       | 101,400            |       | 2.78                |       |
| Exercised                            |       | —             |       | —              |       |
| Vested                               |       | (102,860           | )          | 3.40                |       |
| Forfeited                            |       | (5,000             | )          | 3.20                |       |
| Unvested at  September 30, 2008 |       | 512,340            |       | $                   | 3.28       |   |

 

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**NOTE 8 – STOCK BASED COMPENSATION (CONTINUED)**

 

Expected future expense relating to the 512,340non-vested options outstanding as of September 30, 2008 is $1.6 millionover a weighted average period of 4.0 years.

 

The following is a summary of the status of theCompany’s restricted stock as of September 30, 2008 and changes thereinduring the nine months then ended:

 
| ** **                           | ** ** | ** **         | ** ** | **Weighted**        | ** ** |
|--------------------------------------|------------|--------------------|------------|---------------------|------------|
| ** **                           | ** ** | **Number of** | ** ** | **Average**         | ** ** |
| ** **                           | ** ** | **Restricted**     | ** ** | **Grant Date** | ** ** |
| ** **                           | ** ** | **Shares**         | ** ** | **Fair Value** | ** ** |
|                                 |       |               |       |                |       |
| Unvested at  December 31, 2007  |       | 203,400            |       | $                   | 12.38      |   |
| Granted                              |       | 17,100             |       | 11.42               |       |
| Vested                               |       | (40,620            | )          | 12.38               |       |
| Forfeited                            |       | (300               | )          | 12.38               |       |
| Unvested at  September 30, 2008 |       | 179,580            |       | $                   | 12.29      |   |

 

Expected future compensation expense relating to the179,580 restricted shares at September 30, 2008 is $2.1 million over aweighted average period of 4.1 years.

 

**NOTE 9 - COMPREHENSIVE INCOME**

 

Comprehensive income for the three and nine monthsended September 30, 2008 and 2007 is as follows (in thousands):

 
| ** **                                                                                                                                                                                                                                  | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                                                                                                                                                                                                                                  | ** ** | **September 30,**           | ** ** | **September 30,**          | ** ** |
| ** **                                                                                                                                                                                                                                  | ** ** | **2008**                         | ** ** | **2007**                        | ** ** | **2008** | ** ** | **2007** | ** ** |
|                                                                                                                                                                                                                                        |       |                             |       |                            |       |   |   |   |   |
| Net income                                                                                                                                                                                                                                  |       | $                                | 659        |                            | $          | 455 |   | $ | 1,308 |   | $ | 1,600 |   |
|                                                                                                                                                                                                                                        |       |                             |       |                            |       |   |   |   |   |
| Other  comprehensive income:                                                                                                                                                                                                                |       |                             |       |                            |       |   |   |   |   |
|                                                                                                                                                                                                                                        |       |                             |       |                            |       |   |   |   |   |
| Unrealized  holding losses arising during the period, net of tax (benefit) (three months  ended September 30, 2008 and 2007, $(209) and $548 and for nine months  ended September 30, 2008 and 2007 $(884) and $318 respectively) |       | (322                             | )          | 998                             |       | (1,460 | ) | 626 |   |
|                                                                                                                                                                                                                                        |       |                             |       |                            |       |   |   |   |   |
| Less:  Reclassification adjustment for gains included in net income, net of taxes  (three months ended September 30, 2008 and 2007, $0 and $0 and for nine  months ended September 30, 2008 and 2007 $(40) and $0, respectively)  |       | —                           |       | 1                               |       | 78 |   | — |   |
|                                                                                                                                                                                                                                        |       |                             |       |                            |       |   |   |   |   |
| Plus:  Amortization of pension actuarial loss                                                                                                                                                                                               |       | —                           |       | 2                               |       | 4 |   | 5 |   |
| Pension plan  settlement                                                                                                                                                                                                                    |       | —                           |       | —                          |       | 87 |   | — |   |
|                                                                                                                                                                                                                                        |       |                             |       |                            |       |   |   |   |   |
| Other  comprehensive income                                                                                                                                                                                                                 |       | (322                             | )          | 999                             |       | (1,447 | ) | 631 |   |
|                                                                                                                                                                                                                                        |       |                             |       |                            |       |   |   |   |   |
| Comprehensive  income (loss)                                                                                                                                                                                                                |       | $                                | 337        |                            | $          | 1,454 |   | $ | (139 | ) | $ | 2,231 |   |

 

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**NOTE 10 – ACCOUNTING PRONOUNCEMENTSADOPTED IN NINE MONTHS ENDED SEPTEMBER 30, 2008**

 

**Statementof Financial Accounting Standards No. 159**

** **

**In February 2007, the FASBissued SFAS No. 159, “The Fair Value Option for Financial Assets andFinancial Liabilities—Including an Amendment of FASB Statement No. 115”(SFAS No. 159). SFAS No. 159 permits entities to choose to measuremany financial instruments and certain other items at fair value and amendsSFAS No. 115 to, among other things, require certain disclosures foramounts for which the fair value option is applied.  This Statement is effective as of the entity’sfirst fiscal year that begins after November 15, 2007.  Effective January 1, 2008, the Companyadopted SFAS No. 159 for two financial instruments, which are identifiedand discussed in Note 3 to these consolidated financial statements.**

** **

# **Statement of FinancialAccounting Standards No. 157**

# ** **

In September 2006, the FASB issued SFAS No. 157,“Fair Value Measurement” (SFAS No. 157). This statement defines fair value, establishes a framework for measuringfair value in generally accepted accounting principles and expands disclosuresabout fair value measurements.  Thisstatement applies under other accounting pronouncements that require or permitfair value measurements.   SFAS No. 157became effective for the Company on January 1, 2008, including interimperiods.

 

SFAS No. 157 describes three levels of inputsthat may be used to measure fair value:

 

Level 1 - Inputs are quoted prices (unadjusted) inactive markets for identical assets or liabilities that are accessible at themeasurement date.

 

Level 2 - Inputs are other than quoted pricesincluded within Level 1 that are observable for the asset or liability, eitherdirectly or indirectly, such as quoted prices for similar assets orliabilities; quoted prices in markets that are not active; or other inputs thatare observable or can be corroborated by observable market data forsubstantially the full term of the assets or liabilities.

 

Level 3 – Valuations are observed from unobservableinputs that are supported by little or no market activity and that aresignificant to the fair value of the assets or liabilities.

 

The Company classified two financial instruments asLevel 3 as of September 30, 2008. The first instrument is a private labelcollateralized mortgage obligation (“CMO”), the fair value of which, unlikeU.S. agency mortgage related securities, is more difficult to determine becausethey are not actively traded in securities markets.  The second instrument is a loan, which wasrecorded at fair value when the Company adopted SFAS No. 159, sincelending credit risk is not an observable input for this individual commercialloan.  The unrealized loss in the privatelabel CMO was $442,000 at September 30, 2008 compared to an unrealizedgain of $27,000 at January 1, 2008. The unrealized gain on the loan was $76,000 at September 30, 2008compared to an unrealized gain of $60,000 at January 1, 2008.

 

The following table of the Company’s fair valuemeasurements at September 30, 2008 includes (1) investment securitiesand mortgage related securities available-for-sale; (2) the two financialinstruments recorded at fair value in conjunction with the Company’s adoptionof SFAS No. 159 in the first quarter of 2008 and (3) the two tranchesof MSRs recorded at fair value in the third quarter 2008.

 
| ** **                                            | ** ** | ** **              | ** ** | **Fair Value Measurements at Reporting Date Using** | ** ** |
|-------------------------------------------------------|------------|-------------------------|------------|-----------------------------------------------------------------------------------|------------|
| ** **                                            | ** ** | ** **              | ** ** | **Quoted Prices in**                                                    | ** ** | **Significant** | ** ** | **Significant** | ** ** |
| ** **                                            | ** ** | ** **              | ** ** | **Active Markets**                                                           | ** ** | **Other** | ** ** | **Other** | ** ** |
| ** **                                            | ** ** | ** **              | ** ** | **for Identical**                                                            | ** ** | **Observable** | ** ** | **Unobservable** | ** ** |
| ** **                                            | ** ** | **As of**          | ** ** | **Assets**                                                                        | ** ** | **Inputs** | ** ** | **Inputs** | ** ** |
| **Description**                                       | ** ** | **9/30/2008**           | ** ** | **(Level 1)**                                                                | ** ** | **(Level 2)** | ** ** | **(Level 3)** | ** ** |
| ** **                                            | ** ** | **(In Thousands)** | ** ** |
| State and  Political Subdivisions                     |       | $                       | 14,258     |                                                                              | $          | — |   | $ | 14,258 |   | $ | — |   |
| Corporate  Securities                                 |       | 9,547                   |       | —                                                                            |       | 9,547 |   | — |   |
| Private label  residential mortgage related security  |       | 488                     |       | —                                                                            |       | — |   | 488 |   |
| Private label  commercial mortgage related securities |       | 9,332                   |       | —                                                                            |       | 9,332 |   | — |   |
| Agency  residential mortgage related securities       |       | 230,609                 |       | —                                                                            |       | 230,609 |   | — |   |
| Mortgage  servicing rights (two tranches)             |       | 302                     |       | —                                                                            |       | 302 |   | — |   |
| Loans (1)                                             |       | 1,201                   |       | —                                                                            |       | — |   | 1,201 |   |
| Other Assets –  Swap Contract (1)                |       | (76                     | )          | —                                                                            |       | (76 | ) | — |   |
| Total                                                 |       | $                       | 265,661    |                                                                              | $          | — |   | $ | 263,972 |   | $ | 1,689 |   |

 

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(1) Suchassets are recorded at fair value in conjunction with adoption of SFAS No. 159.

 

The Company utilizes an external pricing service toperform evaluations on its investment portfolio on a quarterly basis.  The Company will be evaluating theappropriateness of the identified Level 1, 2 or 3 classifications on arecurring basis. The Company has also adopted FASB Staff Position No. 157-2,which allowed it to defer the effective date of SFAS No. 157 for certainnonfinancial assets and liabilities until January 1, 2009.

 

**EmergingIssues Task Force Issue No. 06-4**

** **

In Emerging Issues TaskForce (“EITF”) Issue No. 06-4 “Accounting for Deferred Compensation andPostretirement Benefit Aspects of Endorsement Split-Dollar Life InsuranceArrangements”, the EITF concluded that an endorsement split dollar lifeinsurance policy does not effectively settle an employer’s obligation toprovide the post retirement benefit that the policy was designed toprovide.  Therefore, some current expenserecognition may need to be made for any endorsement split dollar plans withpost retirement benefits.

 

This guidance applies toall post retirement endorsement split dollar arrangements.  This will not impact split dollar plans thatonly provide pre-retirement death benefits.

 

The accrual for theliability would be calculated in one of two ways:

·                  the actuarial present value of thefuture death benefit or

·                  the cost of insurance of the policyduring the postretirement period.

 

**Compliance with this EITF must be applied to fiscal yearsbeginning after December 15, 2007 (January 1, 2008 for calendar yearentities).  It can be made through acumulative–effect adjustment to retained earnings in the year of adoption or asa change in accounting principles through retrospective application to allprior periods.  As required, the Companyadopted this EITF in the first quarter of 2008. This did not have a materialimpact to the Company’s results of operations or financial position,accordingly no cumulative effect adjustment was made.**

** **

**NOTE11 – OTHER ACCOUNTING PRONOUNCMENTS**

** **

In March 2008, the FASB issued SFAS No. 161“Disclosures about Derivative Instruments and Hedging Activities – an amendmentof FASB Statement No. 133” (SFAS No. 161).  SFAS No. 161 changes the disclosurerequirements for derivative instruments and hedging activities.  Entities are required to provide enhanceddisclosures about (a) how and why an entity uses derivative instruments, (b) howderivative instruments and related hedged items are accounted for underStatement 133 and its related interpretations, and (c) how derivativeinstruments and related hedged items affect an entity’s financial position,financial performance, and cash flows. SFAS No. 161 is effective for financial statements issued forfiscal years and interim periods beginning after November 15, 2008, withearly application encouraged. The Company is evaluating this statement and hasnot yet determined the impact of its required disclosures.  The Company does not intend to early adoptthis statement.

 

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

 

**Forward-Looking Statements**

 

This quarterly report contains forward-lookingstatements that are based on assumptions and may describe future plans,strategies and expectations of the Company. These forward-looking statementsare generally identified by use of the words “believe,” “expect,” “intend,” “anticipate,”“estimate,” “project” or similar expressions. The Company’s ability to predictresults or the actual effect of future plans or strategies is inherentlyuncertain. Factors which could have a material adverse effect on the operationsof the Company and its subsidiary include, but are not limited to, changes ininterest rates, national and regional economic conditions, legislative andregulatory changes, monetary and fiscal policies of the U.S. government,including policies of the U.S. Treasury and the Federal Reserve Board, the qualityand composition of the loan or investment portfolios, demand for loan products,deposit flows, competition, demand for financial services in the Company’smarket area, changes in real estate market values in the Company’s market area,changes in relevant accounting principles and guidelines and the inability ofthird party service providers to perform their functions.  Additional factors that may affect ourresults are discussed in the section titled “Risk Factors” in the Company’sAnnual Report on Form 10-K, filed with the Securities and ExchangeCommission on March 14, 2008, and its other Securities and ExchangeCommission reports.

 

These risks and uncertainties should be consideredin evaluating forward-looking statements and undue reliance should not beplaced on such statements. Except as required by applicable law or regulation,the Company does not undertake, and specifically disclaims any obligation, torelease publicly the result of any revisions that may be made to anyforward-looking statements to reflect events or circumstances after the date ofthe statements or to reflect the occurrence of anticipated or unanticipated events.

 

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**Critical Accounting Policies**

 

We consider accounting policies involving significantjudgments and assumptions by management that have, or could have, a material impacton the carrying value of certain assets or on income to be critical accountingpolicies. We consider the following to be our critical accounting policies:allowance for loan losses, other-than-temporary impairment of securities, anddeferred income taxes.

 

***Allowance for Loan Losses.*** Theallowance for loan losses is maintained at a level representing management’sbest estimate of known and inherent losses in the loan portfolio, based onmanagement’s evaluation of the portfolio’s collectibility. The allowance isestablished through the provision for loan losses, which is charged againstincome. Determining the amount of the allowance for loan losses necessarilyinvolves a high degree of judgment. Among the material estimates required toestablish the allowance are: loss exposure at default; the amount and timing offuture cash flows on impacted loans; value of collateral; and determination ofloss factors to be applied to the various elements of the portfolio. All ofthese estimates are susceptible to significant change. Management reviews thelevel of the allowance on a quarterly basis and establishes the provision forloan losses based upon an evaluation of the size and composition of theportfolio, loss experience in particular segments of the portfolio, trends andabsolute levels of classified and criticized loans, trends and absolute levelsin delinquent loans, trends in risk ratings, actual charge-offs, trends inindustry charge-offs by particular segments and changes in existing generaleconomic and business conditions affecting our lending areas and the nationaleconomy.  Although we believe that we usethe best information available to establish the allowance for loan losses,future adjustments to the allowance may be necessary if economic conditionsdiffer substantially from the assumptions used in making the evaluation. Inaddition, the Office of Thrift Supervision, as an integral part of itsexamination process, periodically reviews our allowance for loan losses. Suchagency may require us to recognize adjustments to the allowance based on itsjudgments about information available to it at the time of its examination. Alarge loss could deplete the allowance and require increased provisions toreplenish the allowance, which would negatively affect earnings.

 

During the three monthsended June 30, 2008, management refined its methodology for determiningits loss factors for new commercial loans originated in 2008.  Under this methodology, management reviewsand provides a loss factor for each individual new loan relationship.  Generally, management believes the risk ofdefault on recently underwritten loans is relatively low at the time oforigination. This is supported by the concept that the fair value of the loanat inception approximates its book value. However, based on its industry experience, management believes thedefault risk on loans is initially low, increases with time, at some pointmoderating.  These 2008 loans will bereviewed on a quarterly basis, and loss reserve factors adjusted commensuratewith assessed changes in the loan’s risk.

 

***Other-Than-TemporaryImpairment of Investment Securities***. Statement ofFinancial Accounting Standards No. 115, “Accounting for CertainInvestments in Debt and Equity Securities,” and FASB Staff Position FAS 115-1and 124-1 “The Meaning of Other Than Temporary Impairment and Its Applicationto Certain Investments,” require companies to perform periodic reviews ofindividual securities in their investment portfolios to determine whether adecline in the value of a security is other than temporary. A review ofother-than-temporary impairment requires companies to make certain judgmentsregarding the nature of the decline, its effect on the financial statements andthe probability, extent and timing of a valuation recovery and the company’sintent and ability to hold the security. Pursuant to these requirements, weassess valuation declines to determine the extent to which such changes areattributable to (1) fundamental factors specific to the issuer, such as financialcondition, business prospects or other factors, or (2) market-relatedfactors, such as required market yields, interest rates or equity marketdeclines. If the decline in the market value of a security is determined to beother than temporary, we reduce the book value of such security to its currentmarket value, recognizing the decline as a realized loss on the incomestatement.

 

As disclosed in Note 2 – Investment andMortgage Related Securities, the Company’s investment portfolio had an unrealizedloss of $1.5 million at September 30, 2008 compared to an unrealized gainof $923,000 at December 31, 2007. The net unrealized loss represents 0.56% of the book value of theinvestment portfolio. Management evaluates individual securities forother-than-temporary impairment on at least a quarterly basis.  Management does not believe that anyindividual unrealized loss represents an other-than-temporary impairment at September 30,2008 and December 31, 2007. Management believes the temporary impairment on its investmentsecurities and mortgage related securities as of September 30, 2008 isprimarily related to increases in required market yields, driven primarily bydislocations in the credit markets. These individual impairments are deemedtemporary based on the direct relationship to movements in required marketreturns as well as the Company’s ability and intent to hold these securities torecovery.

 

***Deferred Income Taxes.*** We use theasset and liability method of accounting for income taxes as prescribed inStatement of Financial Accounting Standards No. 109, “Accounting forIncome Taxes.” Under this method, deferred tax assets and liabilities arerecognized for the future tax consequences attributable to differences betweenthe financial statement carrying amounts of existing assets and liabilities andtheir respective tax bases. If current available information raises doubt as tothe realization of the deferred tax assets, a valuation allowance isestablished. Deferred tax assets and liabilities are measured using enacted taxrates expected to apply to taxable income in the years in which those temporarydifferences are expected to be recovered or settled. We 

 

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exercise significant judgment in evaluating the amount andtiming of recognition of the resulting tax liabilities and assets. Thesejudgments require us to make projections of future taxable income. Thejudgments and estimates we make in determining our deferred tax assets, whichare inherently subjective, are reviewed on a continual basis as regulatory andbusiness factors change. Any reduction in estimated future taxable income mayrequire us to record a valuation allowance against our deferred tax assets. TheCompany had a charitable contribution carryover of $1.2 million as of September 30,2008, resulting in a deferred tax asset of $404,000.  Utilization of this carryover is limited to10% of taxable income on an annual basis. Such carryover will expire on December 31,2011, if not utilized. If the Company is unable to generate sufficient taxableincome to utilize this carryover it may require us to record a valuationallowance against this deferred tax asset. Any valuation allowance would result in additional income tax expense inthe period, which would negatively affect earnings.

 

**Comparison of Financial Conditionat September 30, 2008 and December 31, 2007**

 

Total assets increased $73.8 million, or 9.1%, to$886.7 million at September 30, 2008, compared to $812.9 million at December 31,2007.  Loans increased $125.8 million from December 31,2007 to September 30, 2008. Approximately $91.3 million of this increasewas in commercial, commercial real estate and construction loans as we continueour strategic initiative to increase our commercial loan portfolio.Additionally, $38.0 million of this increase was in one-to four-family realestate loans as we were able to grow this portfolio, within our geographicregion, through our correspondent relationships. The growth in loans was fundedthrough the liquidation of $60.0 million in short-term auction rate bonds, theliquidation of $20.0 million of money market funds, increased Federal Home LoanBank advances of $11.1 million and additional other borrowed funds of $15.0million in the third quarter of 2008. The remaining increase of $40.0 million in Federal Home Loan Bankadvances funded the $35.3 million increase in agency residential mortgagerelated securities due to a leverage strategy implemented during the firstquarter 2008.

 

Deposits increased $7.8 million, or 1.3%, from$585.6 at December 31, 2007 to $593.4 million at September 30, 2008.Core deposits, defined as non-interest and interest bearing checking accounts,money market accounts and savings accounts, increased $33.6 million, or 18.0%,from $187.3 million at December 31, 2007 to $221.0 million at September 30,2008 as the Bank (1) increased commercial business checking accountsthrough the efforts of its commercial lending and cash management teams and (2) increasedmoney market accounts through promotional activities.

 

Stockholders’ equity decreased $1.7 millionto $120.7 million at September 30, 2008 compared to $122.4 million at December 31,2007 primarily due to unrealized losses on the investment portfolio of $1.4million and the repurchase of 222,891 shares of common stock at a cost of $2.7million, offset by net income of $1.3 million.

 

**Comparison of Operating Results forthe Three and Nine Months Ended September 30, 2008 and 2007**

 

***General.***Net income increased$204,000, or 44.8%, to $659,000 for the three months ended September 30,2008, compared to $455,000 for the three months ended September 30,2007.  The increase in net income wasprimarily the result of an increase in net interest income of $910,000 offsetby an increase in loan loss provision of $375,000, an increase of $163,000 innoninterest expense and an increase of $140,000 in income tax expense.

 

Net income decreased$292,000, or 18.3%, to $1.3 million for the nine months ended September 30,2008 from $1.6 million for the nine months ended September 30, 2007. Thedecrease in net income was primarily the result of an decrease in noninterestincome of $921,000, an increase in noninterest expense of $842,000 and anincrease in loan loss provision of $700,000, offset by an increase in netinterest income of $2.1 million and a decrease in tax expense of $49,000.  The decrease in noninterest income of$921,000 was primarily the result of a gain of $874,000 (after tax $577,000)related to the sale of the Bank’s former operations center in the secondquarter of 2007.  The increase innoninterest expense of $842,000 includes an expense of $297,000 (after tax$196,000) associated with final distributions from the Company’s terminatedpension plan in the second quarter of 2008.

 

***Net InterestIncome*****.**Net interest income increased $910,000, or18.5%, during the three months ended September 30, 2008,  compared to the same period in 2007.  The increase in net interest income wasprimarily due to an increase in total interest income of $1.0 million offset bya $94,000 increase in total interest expense. The increase in total interest income was primarily due to an increasein average balance of interest-earning assets of $111.7 million offset by adecrease in the average yield on interest-earning assets from 5.85% to5.54%.  The increase in average balances of interest-earning assets wasprimarily due to: (1) an increase in the average balance of loans of$127.9 million year over year primarily related to the implementation of theCompany’s focus on increasing its levels of commercial lending; (2) anincrease in the average balance of mortgage related securities of $113.5million year over year primarily due to leverage strategies implemented in thefourth quarter of 2007 and first quarter of 2008, offset by a decrease of $70.6million in average interest-earning demand deposits and money market funds,which were utilized to fund loan growth. The increase in total interest expense was primarily due to an increasein average balances on interest-bearing liabilities of $114.5 million offset bya decrease in the average cost on interest-bearing liabilities from 3.90% to3.31%.  The increase in the averagebalance of interest-bearing liabilities was primarily due to an increase in theaverage balance of FHLB advances and other borrowed funds of  $121.8 million, which were used to fund theleverage strategies and loan growth offset by a decrease in the average balanceof interest-bearing deposits of $7.3 million.

 

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Net interestincome increased $2.1 million, or 15.4%, during the nine months ended September 30,2008, compared to the same period in 2007. The increase in net interest incomewas due to an increase in total interest income of $3.6 million offset by a$1.5 million increase in total interest expense.  The increase in total interest income was primarilydue to an increase in average total interest earning assets of $107.7 million,offset by a decrease in the average yield on interest-earning assets from 5.64%to 5.45%.  The increase in averagebalances of interest-earning assets was primarily due to: (1) an increasein the average balance of loans of $102.5 million year over year primarilyrelated to the implementation of the Company’s focus on increasing its levelsof commercial lending; (2) an increase in the average balance of mortgagerelated securities of $106.5 million year over year primarily due to theleverage strategies implemented in the fourth quarter of 2007 and first quarterof 2008, offset by a decrease of $71.1 million in average interest-earningdemand deposits and money market funds, which were utilized to fund loangrowth. The increase in total interest expense was primarily due to an increasein average balances on interest-bearing liabilities of $108.5 million offset bya decline in the average cost on interest-bearing liabilities from 3.82% to3.50%. The increase in the average balance of interest-bearing liabilities wasprimarily due to an increase in the average balance of FHLB advances and otherborrowed funds of  $109.6 million, whichwere used to fund the leverage strategies and loan growth offset by a decreasein the average balance of interest-bearing deposits of $1.1 million.

 

The following tablesummarizes average balances and average yields and costs of interest-earningassets and interest-bearing liabilities for the three and nine months ended September 30,2008 and 2007. Yields are not presented on a tax-equivalent basis. Anyadjustments necessary to present yields on a tax-equivalent basis areinsignificant.

 

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|                                                                     |       |                                                     |       |                                                    |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |   |    |   |   |   |   |   |   |
|--------------------------------------------------------------------------|------------|----------------------------------------------------------|------------|---------------------------------------------------------|------------|------------|------------|-------------|------------|---------------|------------|------------|------------|-------------|------------|---------------|------------|------------|------------|-------------|------------|---------------|------------|------------|------------|--------|---------|--------|--------|--------|--------|--------|--------|
| ** **                                                               | ** ** | **Three Months Ended September 30,** | ** ** | **Nine Months Ended September 30,** | ** ** |
| ** **                                                               | ** ** | **2008**                                                 | ** ** | **2007**                                                | ** ** | **2008**   | ** ** | **2007**    | ** ** |
| ** **                                                               | ** ** | ** **                                               | ** ** | **Interest**                                            | ** ** | ** ** | ** ** | ** **  | ** ** | **Interest**  | ** ** | ** ** | ** ** | ** **  | ** ** | **Interest**  | ** ** | ** ** | ** ** | ** **  | ** ** | **Interest**  | ** ** | ** ** | ** ** |
| ** **                                                               | ** ** | **Average**                                              | ** ** | **and**                                                 | ** ** | **Yield/** | ** ** | **Average** | ** ** | **and**       | ** ** | **Yield/** | ** ** | **Average** | ** ** | **and**       | ** ** | **Yield/** | ** ** | **Average** | ** ** | **and**       | ** ** | **Yield/** | ** ** |
| ** **                                                               | ** ** | **Balance**                                              | ** ** | **Dividends**                                           | ** ** | **Cost**   | ** ** | **Balance** | ** ** | **Dividends** | ** ** | **Cost**   | ** ** | **Balance** | ** ** | **Dividends** | ** ** | **Cost**   | ** ** | **Balance** | ** ** | **Dividends** | ** ** | **Cost**   | ** ** |
| ** **                                                               | ** ** | **(Dollars  in thousands)**                              | ** ** | **(Dollars  in thousands)**                             | ** ** |
| Assets:                                                                  |       |                                                     |       |                                                    |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |
| Interest-earning  assets:                                                |       |                                                     |       |                                                    |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |
| Interest-earning  demand deposits                                        |       | $                                                        | 7,830      |                                                    | $          | 17         |       | 0.84        | %          | $             | 78,458     |       | $          | 1,019       |       | 5.15          | %          | $          | 9,749      |        | $          | 124           |       | 1.70       | %          | $      | 102,405 |   | $      | 3,970  |   | 5.18   | %      |
| Money market  funds                                                      |       | 2                                                        |       | —                                                  |       | 2.42       | %          | —      |       | —        |       | 0.00       | %          | 21,515      |       | 521           |       | 3.23       | %          | —      |       | —        |       | 0.00       | %          |
| Mortgage-related  securities                                             |       | 245,497                                                  |       | 3,138                                                   |       | 5.11       | %          | 132,015     |       | 1,657         |       | 5.02       | %          | 248,184     |       | 9,248         |       | 4.97       | %          | 141,678     |       | 5,187         |       | 4.88       | %          |
| Taxable  securities                                                      |       | 18,474                                                   |       | 190                                                     |       | 4.12       | %          | 69,138      |       | 966           |       | 5.59       | %          | 32,775      |       | 1,069         |       | 4.35       | %          | 53,160      |       | 2,002         |       | 5.02       | %          |
| Nontaxable  securities                                                   |       | 14,558                                                   |       | 146                                                     |       | 4.02       | %          | 22,094      |       | 205           |       | 3.70       | %          | 15,707      |       | 469           |       | 3.98       | %          | 24,879      |       | 709           |       | 3.80       | %          |
| Loans (1):                                                               |       |                                                     |       |                                                    |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |
| Residential loans                                                        |       | 248,333                                                  |       | 3,525                                                   |       | 5.68       | %          | 208,215     |       | 2,992         |       | 5.75       | %          | 231,635     |       | 9,838         |       | 5.66       | %          | 207,704     |       | 8,855         |       | 5.68       | %          |
| Commercial loans                                                         |       | 221,723                                                  |       | 3,494                                                   |       | 6.17       | %          | 128,976     |       | 2,558         |       | 7.76       | %          | 188,227     |       | 9,254         |       | 6.46       | %          | 104,475     |       | 5,901         |       | 7.45       | %          |
| Consumer loans                                                           |       | 75,634                                                   |       | 1,087                                                   |       | 5.75       | %          | 80,626      |       | 1,196         |       | 5.94       | %          | 76,673      |       | 3,323         |       | 5.78       | %          | 81,834      |       | 3,582         |       | 5.84       | %          |
| Total Loans                                                              |       | 545,690                                                  |       | 8,106                                                   |       | 5.89       | %          | 417,817     |       | 6,746         |       | 6.41       | %          | 496,535     |       | 22,415        |       | 5.98       | %          | 394,013     |       | 18,338        |       | 6.18       | %          |
| Allowance for  loan losses                                               |       | (3,895                                                   | )          |                                                    |       |       |       | (3,076      | )          |          |       |       |       | (3,643      | )          |          |       |       |       | (3,007      | )          |          |       |       |       |
| Net loans                                                                |       | 541,795                                                  |       | 8,106                                                   |       |       |       | 414,741     |       | 6,746         |       |       |       | 492,892     |       | 22,415        |       |       |       | 391,006     |       | 18,338        |       |       |       |
| Total  interest-earning assets                                           |       | 828,156                                                  |       | 11,597                                                  |       | 5.54       | %          | 716,446     |       | 10,593        |       | 5.85       | %          | 820,822     |       | 33,846        |       | 5.45       | %          | 713,128     |       | 30,206        |       | 5.64       | %          |
| Noninterest-earning  assets                                              |       | 36,101                                                   |       |                                                    |       |       |       | 36,256      |       |          |       |       |       | 36,579      |       |          |       |       |       | 36,172      |       |          |       |       |       |
| Total assets                                                             |       | $                                                        | 864,257    |                                                    |       |       |       |        | $          | 752,702       |       |       |       |        |       | $             | 857,401    |       |       |        |       |          | $          | 749,300    |       |   |    |   |   |
|                                                                     |       |                                                     |       |                                                    |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |
| Liabilities and  equity:                                                 |       |                                                     |       |                                                    |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |
| Interest-bearing  liabilities:                                           |       |                                                     |       |                                                    |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |
| NOW and money  market deposit accounts                                   |       | $                                                        | 113,013    |                                                    | 581        |       | 2.04       | %           | $          | 86,108        |       | 577        |       | 2.66        | %          | $             | 101,902    |       | 1,571      |        | 2.06       | %             | $          | 80,063     |       | 1,453  |    | 2.43   | %      |
| Savings accounts                                                         |       | 52,910                                                   |       | 33                                                      |       | 0.25       | %          | 58,268      |       | 108           |       | 0.73       | %          | 53,279      |       | 126           |       | 0.32       | %          | 60,781      |       | 334           |       | 0.73       | %          |
| Certificates of  deposit                                                 |       | 373,883                                                  |       | 3,731                                                   |       | 3.97       | %          | 402,748     |       | 4,624         |       | 4.56       | %          | 388,788     |       | 12,307        |       | 4.23       | %          | 404,218     |       | 13,535        |       | 4.48       | %          |
| Total interest-bearing  deposits                                         |       | 539,806                                                  |       | 4,345                                                   |       | 3.20       | %          | 547,124     |       | 5,309         |       | 3.85       | %          | 543,969     |       | 14,004        |       | 3.44       | %          | 545,062     |       | 15,322        |       | 3.76       | %          |
|                                                                     |       |                                                     |       |                                                    |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |        |       |          |       |       |       |
| FHLB advances                                                            |       | 129,554                                                  |       | 1,230                                                   |       | 3.72       | %          | 30,000      |       | 375           |       | 4.88       | %          | 118,843     |       | 3,380         |       | 3.74       | %          | 30,000      |       | 1,111         |       | 4.88       | %          |
| Other borrowed  funds                                                    |       | 22,278                                                   |       | 203                                                     |       | 3.57       | %          | —      |       | —        |       | 0.00       | %          | 20,759      |       | 567           |       | 3.59       | %          | —      |       | —        |       | 0.00       | %          |
| Total borrowings                                                         |       | 151,832                                                  |       | 1,433                                                   |       | 3.69       | %          | 30,000      |       | 375           |       | 4.88       | %          | 139,602     |       | 3,947         |       | 3.72       | %          | 30,000      |       | 1,111         |       | 4.88       | %          |
| Total  interest-bearing liabilities                                      |       | 691,638                                                  |       | 5,778                                                   |       | 3.31       | %          | 577,124     |       | 5,684         |       | 3.90       | %          | 683,571     |       | 17,951        |       | 3.50       | %          | 575,062     |       | 16,433        |       | 3.82       | %          |
| Noninterest-bearing  deposits                                            |       | 47,439                                                   |       |                                                    |       |       |       | 44,848      |       |          |       |       |       | 46,065      |       |          |       |       |       | 43,245      |       |          |       |       |       |
| Other  noninterest-bearing liabilities                                   |       | 4,336                                                    |       |                                                    |       |       |       | 4,121       |       |          |       |       |       | 5,586       |       |          |       |       |       | 4,929       |       |          |       |       |       |
| Total liabilities                                                        |       | 743,413                                                  |       |                                                    |       |       |       | 626,093     |       |          |       |       |       | 735,222     |       |          |       |       |       | 623,236     |       |          |       |       |       |
| Stockholders’  equity                                               |       | 121,738                                                  |       |                                                    |       |       |       | 127,680     |       |          |       |       |       | 121,835     |       |          |       |       |       | 126,993     |       |          |       |       |       |
| Accumulated  comprehensive income                                        |       | (894                                                     | )          |                                                    |       |       |       | (1,071      | )          |          |       |       |       | 344         |       |          |       |       |       | (929        | )          |          |       |       |       |
| Total stockholders’  equity                                         |       | 120,844                                                  |       |                                                    |       |       |       | 126,609     |       |          |       |       |       | 122,179     |       |          |       |       |       | 126,064     |       |          |       |       |       |
| Total liabilities  and stockholders’ equity                         |       | $                                                        | 864,257    |                                                    |       |       |       |        | $          | 752,702       |       |       |       |        |       | $             | 857,401    |       |       |        |       |          | $          | 749,300    |       |   |    |   |   |
| Net interest income                                                      |       |                                                     |       | $                                                       | 5,819      |       |       |        |       |          | $          | 4,909      |       |        |       |          |       | $          | 15,895     |        |       |          |       |       | $          | 13,773 |    |   |   |
| Interest rate  spread                                                    |       |                                                     |       |                                                    |       | 2.23       | %          |        |       |          |       | 1.95       | %          |        |       |          |       | 1.95       | %          |        |       |          |       | 1.82       | %          |
| Net interest  margin                                                     |       |                                                     |       |                                                    |       | 2.79       | %          |        |       |          |       | 2.72       | %          |        |       |          |       | 2.55       | %          |        |       |          |       | 2.55       | %          |
| Average  interest-earning assets to average interest-bearing liabilities |       |                                                     |       |                                                    |       | 119.74     | %          |        |       |          |       | 124.14     | %          |        |       |          |       | 120.08     | %          |        |       |          |       | 124.01     | %          |

 

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(1)                       Nonperforming loans are included in averagebalance computations

 

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***Rate/Volume Analysis*.**  The following table sets forth the effects ofchanging rates and volumes on our net interest income.  The rate column shows the effectsattributable to changes in rate (changes in rate multiplied by currentvolume).  The volume column shows theeffects attributable to changes in volume (changes in volume multiplied byprior rate).  The net column representsthe sum of the columns.  For purposes ofthis table, changes attributable to changes in both rate and volume that cannotbe segregated have been allocated proportionally based on the changes due torate and the changes due to volume.

** **
| ** **                          | ** ** | **Three Months Ended  September 30, 2008  Compared to  Three Months Ended  September 30, 2007** | ** ** | **Nine Months Ended  September 30, 2008  Compared to  Nine Months Ended  September 30, 2007** | ** ** |
|-------------------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------|------------|
| ** **                          | ** ** | **Increase (Decrease)  Due to**                                                                                                    | ** ** | ** **                                                                                                                                 | ** ** | **Increase (Decrease)  Due to** | ** ** | ** ** | ** ** |
| ** **                          | ** ** | **Rate**                                                                                                                                     | ** ** | **Volume**                                                                                                                                 | ** ** | **Net** | ** ** | **Rate** | ** ** | **Volume** | ** ** | **Net** | ** ** |
|                                |       |                                                                                                                                         |       |                                                                                                                                       |       |   |   |   |   |   |   |   |   |
| Interest and  dividend income:      |       |                                                                                                                                         |       |                                                                                                                                       |       |   |   |   |   |   |   |   |   |
| Interest-earning  demand deposits   |       | $                                                                                                                                            | (85        | )                                                                                                                                          | $          | (917 | ) | $ | (1,002 | ) | $ | (254 | ) | $ | (3,592 | ) | $ | (3,846 | ) |
| Money market  funds                 |       | —                                                                                                                                       |       | —                                                                                                                                     |       | — |   | — |   | 521 |   | 521 |   |
| Mortgage related  securities        |       | 56                                                                                                                                           |       | 1,425                                                                                                                                      |       | 1,481 |   | 162 |   | 3,899 |   | 4,061 |   |
| Taxable  securities                 |       | (69                                                                                                                                          | )          | (707                                                                                                                                       | )          | (776 | ) | (165 | ) | (768 | ) | (933 | ) |
| Nontaxable  securities              |       | 11                                                                                                                                           |       | (70                                                                                                                                        | )          | (59 | ) | 21 |   | (261 | ) | (240 | ) |
| Loans:                              |       |                                                                                                                                         |       |                                                                                                                                       |       |   |   |   |   |   |   |   |   |
| Residential  loans                  |       | (43                                                                                                                                          | )          | 576                                                                                                                                        |       | 533 |   | (37 | ) | 1,020 |   | 983 |   |
| Commercial and  construction loans  |       | (903                                                                                                                                         | )          | 1,839                                                                                                                                      |       | 936 |   | (1,378 | ) | 4,731 |   | 3,353 |   |
| Consumer loans                      |       | (35                                                                                                                                          | )          | (74                                                                                                                                        | )          | (109 | ) | (33 | ) | (226 | ) | (259 | ) |
| Total loans                         |       | (981                                                                                                                                         | )          | 2,341                                                                                                                                      |       | 1,360 |   | (1,448 | ) | 5,525 |   | 4,077 |   |
| Total  interest-earning assets      |       | (1,068                                                                                                                                       | )          | 2,072                                                                                                                                      |       | 1,004 |   | (1,684 | ) | 5,324 |   | 3,640 |   |
|                                |       |                                                                                                                                         |       |                                                                                                                                       |       |   |   |   |   |   |   |   |   |
| Interest  expense:                  |       |                                                                                                                                         |       |                                                                                                                                       |       |   |   |   |   |   |   |   |   |
| NOW and money  market deposits      |       | (176                                                                                                                                         | )          | 180                                                                                                                                        |       | 4 |   | (278 | ) | 396 |   | 118 |   |
| Savings accounts                    |       | (65                                                                                                                                          | )          | (10                                                                                                                                        | )          | (75 | ) | (167 | ) | (41 | ) | (208 | ) |
| Certificates of  deposit            |       | (562                                                                                                                                         | )          | (331                                                                                                                                       | )          | (893 | ) | (711 | ) | (517 | ) | (1,228 | ) |
| Total  interest-bearing deposits    |       | (803                                                                                                                                         | )          | (161                                                                                                                                       | )          | (964 | ) | (1,156 | ) | (162 | ) | (1,318 | ) |
|                                |       |                                                                                                                                         |       |                                                                                                                                       |       |   |   |   |   |   |   |   |   |
| FHLB advances                       |       | (388                                                                                                                                         | )          | 1,243                                                                                                                                      |       | 855 |   | (1,021 | ) | 3,290 |   | 2,269 |   |
| Other borrowings                    |       | —                                                                                                                                       |       | 203                                                                                                                                        |       | 203 |   | — |   | 567 |   | 567 |   |
| Total borrowings                    |       | (388                                                                                                                                         | )          | 1,446                                                                                                                                      |       | 1,058 |   | (1,021 | ) | 3,857 |   | 2,836 |   |
| Total  interest-bearing liabilities |       | (1,191                                                                                                                                       | )          | 1,285                                                                                                                                      |       | 94 |   | (2,177 | ) | 3,695 |   | 1,518 |   |
| Net change in  net interest income  |       | $                                                                                                                                            | 123        |                                                                                                                                       | $          | 787 |   | $ | 910 |   | $ | 493 |   | $ | 1,629 |   | $ | 2,122 |   |

 

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***Provisionfor Loan Losses*.** The Company recorded a provisionfor loan losses of $500,000 and $900,000 for the three and nine months ended September 30,2008 compared to $125,000 and $200,000 for the three and nine months ended September 30,2007.  The increase in the provisionreflected loan growth, primarily in the commercial categories, an increase innonperforming and classified loans, an increase in the loan loss reserveassumptions for construction loans to reflect the challenging economicenvironment, and partially affected by the change in the allowance methodologyas previously discussed and implemented in the June 2008 quarter.

 

The following table provides information withrespect to the Bank’s nonperforming assets at the dates indicated.   There were no troubled debt restructuringsas of the dates presented below.

 
| ** **                                                             | ** ** | **At September 30,  2008** | ** ** | **At December 31,  2007** | ** ** |
|------------------------------------------------------------------------|------------|--------------------------------------|------------|-------------------------------------|------------|
| ** **                                                             | ** ** | **(Dollars in thousands)** | ** ** |
| Nonaccrual  loans:                                                     |       |                                 |       |                                |       |
| One- to  four-family                                                   |       | $                                    | 1,275      |                                | $          | 155 |   |
| Consumer                                                               |       | 129                                  |       | —                              |       |
| Multi-family and  commercial real estate                               |       | 467                                  |       | 105                                 |       |
| Total                                                                  |       | 1,871                                |       | 260                                 |       |
| Accruing loans  past due 90 days or more:                              |       |                                 |       |                                |       |
| One- to  four-family                                                   |       | —                               |       | 559                                 |       |
| Total                                                                  |       | —                               |       | 559                                 |       |
| Total of  nonaccrual loans and accruing loans 90 days or more past due |       | $                                    | 1,871      |                                | $          | 819 |   |
| Real estate  owned                                                     |       | —                               |       | —                              |       |
| Total  nonperforming assets                                            |       | $                                    | 1,871      |                                | $          | 819 |   |
| Total  nonperforming loans to total loans                              |       | 0.32                                 | %          | 0.18                                | %          |
| Total  nonperforming loans to total assets                             |       | 0.21                                 |       | 0.10                                |       |
| Total  nonperforming assets to total assets                            |       | 0.21                                 |       | 0.10                                |       |
| Allowance for  loan losses to nonperforming loans                      |       | 228                                  | %          | 412                                 | %          |

 

The increase in nonaccrual loans to $1.9 million at September 30,2008 from $260,000 at December 31, 2007 was primarily a result of (1) a$505,000 residential mortgage and a $54,000 home equity loan to one borrowersecured by a residential property in southern New Jersey, both of which wereplaced on nonaccrual during the three month period ended March 31, 2008(the loans were previously included in the 90 days past due and still accruingcategory as of December 31, 2007); (2) one commercial loan totaling$362,000 and four residential mortgage loans totaling $832,000 placed onnonaccrual in the June and September 2008 quarters offset by tworesidential mortgage loans totaling $155,000 which were on nonaccrual at December 31,2007 that are making payments and became current in 2008.  The loans placed on nonaccrual during the June andSeptember 2008 quarters are secured by real estate properties located insouthern New Jersey and southeastern Pennsylvania.

 

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***NoninterestIncome*****.**Thefollowing table summarizes noninterest income for the three and nine monthsended September 30, 2008 and 2007.

 
|                                  |   | **Three Months**                | ** ** | ** ** | ** ** | ** **        | ** ** | **Nine Months**              |       |     |       |     |       |
|---------------------------------------|--------|--------------------------------------|------------|------------|------------|-------------------|------------|-----------------------------------|------------|----------|------------|----------|------------|
|                                  |   | **Ended September 30,**    | ** ** | ** ** | ** ** | ** **        | ** ** | **Ended September 30,** |       |     |       |     |       |
|                                  |   | **2008**                             | ** ** | **2007**   | ** ** | **$ Change** | ** ** | **% Change**                 | ** ** | **2008** | ** ** | **2007** | ** ** | **$ Change** | ** ** | **% Change** |   |
|                                  |   | **(Dollars in thousands)** |       |
|                                  |   |                                 |       |       |       |              |       |                              |       |     |       |     |       |   |   |   |   |   |   |   |   |   |   |
| Service  charges and other fee income |   | $                                    | 218        |       | $          | 204               |       | $                                 | 14         |     | 6.9        | %        | $          | 633 |   | $ | 623 |   | $ | 10 |   | 1.6 | % |
| Net  gain on sale of:                 |   |                                 |       |       |       |              |       |                              |       |     |       |     |       |   |   |   |   |
| Loans                                 |   | 6                                    |       | —     |       | 6                 |       | 100.0                             | %          | 10       |       | 73       |       | (63 | ) | (86.3 | )% |
| Fixed  assets                         |   | —                               |       | —     |       | —            |       | —                            |       | —   |       | 874      |       | (874 | ) | (100.0 | )% |
| Securities  available-for-sale        |   | —                               |       | 19         |       | (19               | )          | (100.0                            | )%         | 118      |       | 19       |       | 99 |   | 521.1 | % |
| Income  on bank-owned life insurance  |   | 114                                  |       | 111        |       | 3                 |       | 2.7                               | %          | 338      |       | 327      |       | 11 |   | 3.4 | % |
| Other                                 |   | 21                                   |       | 53         |       | (32               | )          | (60.4                             | )%         | 56       |       | 160      |       | (104 | ) | (65.0 | )% |
| Total                                 |   |                                 |       |       |       |              |       |                              |       |     |       |     |       |   |   |   |   |
|                                  |   | $                                    | 359        |       | $          | 387               |       | $                                 | (28        | )        | (7.2       | )%       | $          | 1,155 |   | $ | 2,076 |   | $ | (921 | ) | (44.4 | )% |

 

For the three months ended September 30, 2008,gain on sale of securities decreased $19,000 compared to the same period in2007, as the Company had no investment sales in the current quarter compared tothe same quarter in 2007.  Other incomedecreased $32,000 during the three-month period as a result of the Bankreceiving a reduced rate on the funds held at a third party check processor.These decreases were offset by an increase in service charges and other feeincome of $14,000 as the Bank changed the structure of certain fees related tooverdrafts and dormant accounts.

 

The decrease in the nine months ended September 30,2008 was primarily the result of the Bank recognizing a pre-tax gain of$874,000 on the sale of its operations center in the second quarter of 2007,gain on sale of loans decreasing $63,000 compared to the same period in2007 as the Company discontinued selling residential mortgage loans during thesecond quarter of 2007 and other income decreasing $104,000 during thenine-month period as a result of the Bank receiving a reduced rate on the fundsheld at a third party check processor. These decreases were offset by an increase in the gain on sale ofinvestment securities of $99,000 during the nine months ended September 30,2008 as the Company took advantage of the steepening yield curve to liquidatecertain securities at a gain and reinvest the proceeds in higher-yieldingsecurities.

 

During the three months ended September 30,2008, the Bank discontinued its relationship with its third party checkprocessor and began to process checks internally. Accordingly, other incomefrom third party check processors will discontinue in the fourth quarter 2008,but such decrease will be offset by a nominal improvement in net interestincome as the Bank receives the benefit of float associated with outstandingchecks.

 

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***NoninterestExpense*****.** Thefollowing table summarizes noninterest expense for the three and nine monthsended September 30, 2008 and 2007.

 
| ** **                                 | ** ** | **Three Months**                | ** ** | ** ** | ** ** | ** **        | ** ** | **Nine Months**              | ** ** | ** ** | ** ** | ** ** | ** ** |
|--------------------------------------------|------------|--------------------------------------|------------|------------|------------|-------------------|------------|-----------------------------------|------------|------------|------------|------------|------------|
| ** **                                 | ** ** | **Ended September 30,**    | ** ** | ** ** | ** ** | ** **        | ** ** | **Ended September 30,** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                 | ** ** | **2008**                             | ** ** | **2007**   | ** ** | **$ Change** | ** ** | **% Change**                 | ** ** | **2008**   | ** ** | **2007**   | ** ** | **$ Change** | ** ** | **% Change** | ** ** |
| ** **                                 | ** ** | **(Dollars in thousands)** | ** ** |
| ** **                                 | ** ** | ** **                           | ** ** | ** ** | ** ** | ** **        | ** ** | ** **                        | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Salaries,  benefits and other compensation |       | $                                    | 2,928      |       | $          | 2,485             |       | $                                 | 443        |       | 17.8       | %          | $          | 8,790 |   | $ | 7,154 |   | $ | 1,636 |   | 22.9 | % |
| Occupancy  expense                         |       | 458                                  |       | 475        |       | (17               | )          | (3.6                              | )%         | 1,412      |       | 1,354      |       | 58 |   | 4.3 | % |
| Furniture  and equipment expense           |       | 226                                  |       | 230        |       | (4                | )          | (1.7                              | )%         | 669        |       | 712        |       | (43 | ) | (6.0 | )% |
| Data  processing costs                     |       | 402                                  |       | 388        |       | 14                |       | 3.6                               | %          | 1,204      |       | 1,149      |       | 55 |   | 4.8 | % |
| Professional  fees                         |       | 285                                  |       | 460        |       | (175              | )          | (38.0                             | )%         | 863        |       | 1,445      |       | (582 | ) | (40.3 | )% |
| Marketing  expense                         |       | 117                                  |       | 152        |       | (35               | )          | (23.0                             | )%         | 337        |       | 449        |       | (112 | ) | (24.9 | )% |
| FDIC  premiums                             |       | 26                                   |       | 20         |       | 6                 |       | 30.0                              | %          | 81         |       | 62         |       | 19 |   | 30.6 | % |
| Other                                      |       | 347                                  |       | 416        |       | (69               | )          | (16.6                             | )%         | 1,111      |       | 1,300      |       | (189 | ) | (14.5 | )% |
| Total                                      |       | $                                    | 4,789      |       | $          | 4,626             |       | $                                 | 163        |       | 3.5        | %          | $          | 14,467 |   | $ | 13,625 |   | $ | 842 |   | 6.2 | % |

 

Noninterest expense increased $163,000, or3.5%, during the three months ended September 30, 2008 compared to thesame period in 2007.  The largest changesfor the three month period were salaries, benefits and other compensation of$443,000, or 17.8% primarily due to a $209,000 increase related to equityawards granted under the 2007 Equity Incentive Plan, costs associated with theopening of the Bank’s West Chester, Pennsylvania branch in October 2007and annual merit increases offset by a decrease of $175,000, or 38.0%, inprofessional fees primarily from lower levels of Sarbanes-Oxley compliance andaudit related costs in the current quarter versus the same period in 2007 and adecrease in other noninterest expense of $69,000, or 16.6%, as the Companycontinued its disciplined focus on managing its other expenses.

 

Noninterest expense increased $842,000, or6.2%, during the nine months ended September 30, 2008 compared to the sameperiod in 2007.  The largest changes forthe nine month period were salaries, benefits and other compensation of $1.6,million, or 22.9%, primarily due to a $642,000 increase related to equityawards granted under the 2007 Equity Incentive Plan costs associated with theopening of the Bank’s West Chester, Pennsylvania branch in October 2007and annual merit increases offset by a decrease of $582,000, or 40.3%, inprofessional fees primarily from primarily due to legal fees paid in the firstquarter of 2007 in relation to the litigation with the Bank’s former ChiefExecutive Officer, which was settled in the fourth quarter of 2007, a decreasein consulting fees in connection with the Company’s first year of becomingSarbanes-Oxley compliant in 2007 and reduced audit costs versus the same periodin 2007, a decrease in marketing expense of $112,000, or 24.9% due to reducedpromotional offers and advertising performed during 2008 and a decrease inother noninterest expense of $189,000, or 14.5%, as the Company continued itsdisciplined focus on managing its other expenses.

 

The FDIC deposit insurance premium increased $6,000and $19,000 for the three and nine-month periods ended September 30,2008.  This expense benefited from the utilization of the one-timeassessment credit that was provided to eligible insured depository institutionsunder the Federal Deposit Insurance reform Act of 2005. ************As of December 31,2007 and September 30, 2008, the remaining balance of the one-time creditwas approximately $220,000 and $10,000, respectively.  Management anticipates that this credit willbe fully utilized in the fourth quarter of 2008 and FDIC deposit insurancecosts will  approximate $75,000 to$100,000 during the fourth quarter of 2008. In addition, the FDIC proposed raising premiums by seven basis points inthe first quarter of 2009, to rates ranging from 12 to 14 basis points, forabout 90 percent of banks.  In the secondquarter of 2009, those banks, which pay a premium of 5 to 7 basis points, wouldbe charged at rates ranging from 8 to 21 basis points. During the third quarterof 2008, the Bank was charged at 5.23 basis points.****

 

***Income Taxes*****.**The income tax provision for the three andnine months ended September 30, 2008 was $230,000 and $375,000,respectively, compared to $90,000 and $424,000 for the three and nine monthsended September 30, 2007, respectively. The Company’s effectiveincome tax rate was 25.9% and 16.5% for the three-month periods ended September 30,2008 and 2007, respectively and 22.3% and 20.9% for the nine months ended September 30,2008 and 2007, respectively.  These ratesreflect the Company’s levels of tax-exempt income for both periods relative tothe overall level of taxable income.

 

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**Liquidity and Capital Management**

 

***LiquidityManagement.***Liquidity is the ability to meet current and future financial obligations of ashort-term nature. Our primary sources of funds consist of deposit inflows,FHLB advances and other borrowings, loan repayments, maturities and sales ofsecurities. While maturities and scheduled amortization of loans and securitiesare predictable sources of funds, deposit flows and loan prepayments aregreatly influenced by general interest rates, economic conditions andcompetition.

 

The followingtable presents certain of our contractual obligations as of September 30,2008 and December 31, 2007.

 
| ** **                              | ** ** | ** **              | ** ** | **Payments Due by period** | ** ** |
|-----------------------------------------|------------|-------------------------|------------|-------------------------------------------|------------|
| **Contractual Obligations**        | ** ** | **Total**               | ** ** | **Less than  One Year**         | ** ** | **One to  Three Years** | ** ** | **Three to  Five Years** | ** ** | **More Than  Five Years** | ** ** |
| ** **                              | ** ** | **(In thousands)** | ** ** |
|                                    |       |                    |       |                                      |       |   |   |   |   |   |   |
| **At  September 30, 2008**         |       |                    |       |                                      |       |   |   |   |   |   |   |
| Operating lease  obligations (1)        |       | $                       | 1,777      |                                      | $          | 478 |   | $ | 908 |   | $ | 391 |   | $ | — |   |
| FHLB advances  and other borrowings (2) |       | 201,161                 |       | 13,850                                    |       | 59,781 |   | 25,588 |   | 101,942 |   |
| Other long-term  obligations (3)        |       | 2,892                   |       | 1,949                                     |       | 906 |   | 37 |   | — |   |
| Total                                   |       | $                       | 205,830    |                                      | $          | 16,277 |   | $ | 61,595 |   | $ | 26,016 |   | $ | 101,942 |   |
|                                    |       |                    |       |                                      |       |   |   |   |   |   |   |
| **At  December 31, 2007**          |       |                    |       |                                      |       |   |   |   |   |   |   |
| Operating lease  obligations (1)        |       | $                       | 2,192      |                                      | $          | 494 |   | $ | 963 |   | $ | 735 |   | $ | — |   |
| FHLB advances  and other borrowings (2) |       | 127,460                 |       | 3,939                                     |       | 7,859 |   | 35,861 |   | 79,801 |   |
| Other long-term  obligations (3)        |       | 3,481                   |       | 1,910                                     |       | 1,571 |   | — |   | — |   |
| Total                                   |       | $                       | 133,133    |                                      | $          | 6,343 |   | $ | 10,393 |   | $ | 36,596 |   | $ | 79,801 |   |

 

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(1)          Represents lease obligationsfor operations center, one commercial loan production office and equipment.

(2)          Includes principal andprojected interest payments.

(3)          Represents obligationsto the Company’s third party data processing provider and other vendors.

 

We regularly adjust our investments in liquid assetsbased upon our assessment of: (1) expected loan demands; (2) expecteddeposit flows; (3) yields available on interest-earning deposits andsecurities; and (4) the objectives of our asset/liability managementpolicy. We use a variety of measures to assess our liquidity needs, which areprovided to our Asset/Liability Management and Pricing Committees on a regularbasis. Our most liquid assets are cash and cash equivalents. The levels ofthese assets depend on our operating, financing and investing activities duringany given period. At September 30, 2008, cash and cash equivalents totaled$6.5 million. Securities classified as available-for-sale, which provideadditional sources of liquidity, totaled $264.2 million at September 30,2008. In addition, at June 30, 2008, the latest date available, we had theability to borrow a total of approximately $511.8 million from the Federal HomeLoan Bank of Pittsburgh. On September 30, 2008, we had $131.1 million ofborrowings outstanding.

 

At September 30, 2008, we had $99.2 million inloan commitments outstanding, which consisted of $7.2 million of mortgage loancommitments, $21.2 million in unused home equity lines of credit, $2.7 millionin consumer loan commitments or lines of credit, $67.7 million in commercialloan commitments and $252,000 in stand-by letters of credit. Certificates ofdeposit due within one year of September 30, 2008 totaled $212.2 million,or 57.0%, of total certificates of deposit. We believe the large percentage ofcertificates of deposit that mature within one year reflects customers’hesitancy to invest their funds for long periods in the current interest rateenvironment. If these maturing deposits do not remain with us, we will berequired to seek other sources of funds, including other forms of deposits andborrowings. Depending on market conditions, we may be required to pay higherrates on such deposits or other borrowings than we currently pay on thecertificates of deposit due on or before September 30, 2009. We believe,however, based on past experience that a significant portion of thesecertificates of deposit will remain with us. We have the ability to attract andretain deposits by adjusting the interest rates offered.

 

Our primary investing activities are the originationof loans and the purchase of securities. Our primary financing activitiesconsist of activity in deposit accounts, FHLB advances and other borrowedfunds. Deposit flows are affected by the overall level of interest rates, theinterest rates and products offered by us and our local competitors and otherfactors. We generally manage the pricing of our deposits to be competitive andto increase core deposit relationships. Occasionally, we offer promotionalrates on certain deposit products to attract deposits.

 

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The following table presents our primary investingand financing activities during the periods indicated and does not includeloans originated and held for sale.

 
| ** **                                            | ** ** | **Nine Months Ended  September 30,  2008** | ** ** | **Year Ended  December 31,  2007** | ** ** |
|-------------------------------------------------------|------------|-----------------------------------------------------------|------------|----------------------------------------------|------------|
| Investing  activities:                                |       |                                                      |       |                                         |       |
| Loan  originations                                    |       | $                                                         | (176,739   | )                                            | $          | (193,870 | ) |
| Loan principal  payments and other decreases in loans |       | 69,290                                                    |       | 134,091                                      |       |
| Loan sales                                            |       | —                                                    |       | —                                       |       |
| Loan  participation purchases                         |       | (19,254                                                   | )          | (32,064                                      | )          |
| Security  purchases                                   |       | (125,623                                                  | )          | (187,984                                     | )          |
| Security sales                                        |       | 94,449                                                    |       | 36,268                                       |       |
| Security  maturities, calls and principal repayments  |       | 60,020                                                    |       | 86,128                                       |       |
| Financing  activities:                                |       |                                                      |       |                                         |       |
| Net change in  deposits                               |       | 7,838                                                     |       | (10,974                                      | )          |
| Increase in FHLB  advances                            |       | 51,060                                                    |       | 50,000                                       |       |
| Increase in  other borrowings                         |       | 15,000                                                    |       | 20,000                                       |       |
| Purchase of  treasury stock                           |       | (2,671                                                    | )          | (3,924                                       | )          |
|                                                       |            |                                                           |            |                                              |            |  |  |

 

***CapitalManagement.*** TheBank is subject to various regulatory capital requirements administered by theOffice of Thrift Supervision, including a risk-based capital measure. Therisk-based capital guidelines include both a definition of capital and aframework for calculating risk-weighted assets by assigning balance sheetassets and off-balance sheet items to broad risk categories. At September 30,2008, the Bank exceeded all of regulatory capital requirements and wasconsidered a “well capitalized” institution under regulatory guidelines.

 

The following table presents the Bank’s capitalratios and the minimum capital requirements to be considered ‘‘well capitalized”by the OTS as of September 30, 2008 and December 31, 2007:

 
| ** **                                          | ** ** | **Ratio** | ** ** | **Minimum  to be Well  Capitalized** | ** ** |
|-----------------------------------------------------|------------|-----------|------------|------------------------------------------------|------------|
| **September 30,  2008:**                       |       |      |       |                                           |       |
| Total risk-based  capital (to risk-weighted assets) |       | 19.52     | %          | >10.0                                       | %          |
| Tier 1 capital  (to risk-weighted assets)           |       | 18.72     | %          | >  6.0                                 | %          |
| Tier 1 capital  (to adjusted assets)                |       | 11.20     | %          | >  5.0                                 | %          |
|                                                |       |      |       |                                           |       |
| **December 31,  2007:**                        |       |      |       |                                           |       |
| Total risk-based  capital (to risk-weighted assets) |       | 22.54     | %          | >10.0                                       | %          |
| Tier 1 capital  (to risk-weighted assets)           |       | 21.78     | %          | >  6.0                                 | %          |
| Tier 1 capital  (to adjusted assets)                |       | 12.03     | %          | >  5.0                                 | %          |

 

As a result of Fox Chase Bancorp’s initial publicstock offering, the Bank’s capital was increased by $30.0 million in September 2006.The remaining proceeds of the offering were retained by Fox Chase Bancorp to beused for general corporate purposes.  The capital ratios above reflect this infusion of capital.

 

Total stockholders’ equity to total assets was13.61% at September 30, 2008, 15.05% at December 31, 2007 and 17.05%at September 30, 2007.

 

The capital from the offering significantlyincreased our liquidity and capital resources. Over time, this initial level of liquidity has been reduced as net proceedsfrom the stock offering have been used for general corporate purposes,including the funding of lending activities. The Company’s financial condition and results of operations have beenenhanced by the capital from the offering, resulting in increased netinterest-earning assets.  However, thelarge increase in equity resulting from the capital raised in the offering hashad an adverse impact on our return on equity. The Company may use capital management tools such as cash dividends andshare repurchases as well as improving operating income to increase its returnon equity.

 

We do not intend at this time under the currentcircumstances to apply for government assistance through the United StatesTreasury Department’s Troubled Asset Relief Program (“TARP”).  We believeour high capital level and liquid balance sheet provides us with flexibility intoday’s environment to execute our business plan without TARP capital.

 

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**Off-Balance Sheet Arrangements**

 

In the normal course of operations, we engage in avariety of financial transactions that, in accordance with U.S. generallyaccepted accounting principles, are not recorded in our financial statements.These transactions involve, to varying degrees, elements of credit, interestrate and liquidity risk. Such transactions are used primarily to managecustomers’ requests for funding and take the form of loan commitments, lettersof credit and lines of credit.

 

For the period ended September 30, 2008, we didnot engage in any off-balance sheet transactions reasonably likely to have amaterial effect on our financial condition, results of operations or cashflows.

 

**Item 3.Quantitative and Qualitative Disclosures About Market Risk.**

 

There has not been any material change to the marketrisk disclosure from that contained in the Company’s Annual Report on Form 10-Kfor the year ended December 31, 2007.

 

**Item 4.Controls and Procedures**

 

TheCompany’s management, including the Company’s principal executive officer andprincipal financial officer, have evaluated the effectiveness of the Company’s “disclosurecontrols and procedures,” as such term is defined in Rule 13a-15(e) promulgatedunder the Securities Exchange Act of 1934, as amended (the “Exchange Act”).Based upon their evaluation, the principal executive officer and principalfinancial officer concluded that, as of the end of the period covered by thisreport, the Company’s disclosure controls and procedures were effective for thepurpose of ensuring that the information required to be disclosed in thereports that the Company files or submits under the Exchange Act with theSecurities and Exchange Commission (the “SEC”): (1) is recorded,processed, summarized and reported within the time periods specified in the SEC’srules and forms, and (2) is accumulated and communicated to theCompany’s management, including its principal executive and principal financialofficers, as appropriate to allow timely decisions regarding requireddisclosure.  In addition, no change inthe Company’s internal control over financial reporting occurred during thequarter ended September 30, 2008 that has materially affected, or isreasonably likely to materially effect, Company’s internal control overfinancial reporting.

 

**PART II.OTHER INFORMATION**

 

**Item 1.Legal Proceedings**

 

Periodically, there have been various claimsand lawsuits against us, such as claims to enforce liens, condemnation proceedingson properties in which we hold security interests, claims involving the makingand servicing of real property loans and other issues incident to ourbusiness.  We are not a party to anypending legal proceedings that we believe would have a material adverse effecton our financial condition, results of operations or cash flows.

 

**Item 1A.Risk Factors**

 

As of September 30,2008, the risk factors of the Company have not changed materially from thosereported in the Company’s Annual Report on Form 10-K.  In addition to the other information setforth in this report, you should carefully consider the factors discussed in Part I,“Item 1A. Risk Factors” in our Annual Report on Form 10-K for the yearended December 31, 2007, which could materially affect our business,financial condition or future results. The risks described in our Annual Report on Form 10-K are not theonly risks that we face.  Additionalrisks and uncertainties not currently known to us or that we currently deem tobe immaterial also may materially adversely affect our business, financialcondition and/or operating results.

 

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

 
| **Period**                                              | ** ** | **Total  Number of  Shares  Purchased** | ** ** | **Average  Price Paid  Per Share** | ** ** | **Total Number  of Shares  Purchased  as Part of  Publicly  Announced Plans  or  Programs** | ** ** | **Maximum  Number of Shares  that May Yet be  Purchased Under  the Plans or  Programs** | ** ** |
|---------------------------------------------------------|------------|----------------------------------------------|------------|----------------------------------------------|------------|----------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------------------------------------------------|------------|
|                                                    |       |                                         |       |                                         |       |                                                                                                                 |       |                                                                                                                            |       |
| July 1,  2008 through July 31, 2008           |       | —                                       |       | —                                       |       | —                                                                                                               |       | 525,100                                                                                                                         |       |
|                                                    |       |                                         |       |                                         |       |                                                                                                                 |       |                                                                                                                            |       |
| August 1,  2008 through August 31, 2008       |       | 57,100                                       |       | $                                            | 12.19      |                                                                                                                 | 57,100     |                                                                                                                            | 468,000    |   |
|                                                    |       |                                         |       |                                         |       |                                                                                                                 |       |                                                                                                                            |       |
| September 1,  2008 through September 30, 2008 |       | 36,891                                       |       | $                                            | 12.00      |                                                                                                                 | 36,891     |                                                                                                                            | 431,109    |   |
| Total                                                   |       | 93,991                                       |       | $                                            | 12.11      |                                                                                                                 | 93,991     |                                                                                                                            |       |   |

 

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# **(1)  On February 7, 2008, the Company announcedthat the Board of Directors had approved a stock repurchase program authorizingthe Company to repurchase up to 327,000 shares of the Company’s common stock(the “February 2008 program”). On July 31, 2008, the Companyannounced that the Board of Directors approved the repurchase of up to anadditional 327,000 shares of the Company’s common stock (the “July 2008program”). These repurchase programs will continue until they are completed orterminated by the Board of Directors.**

# ** **

**Item 3.Defaults upon Senior Securities**

 

Not applicable.

 

**Item 4.Submission of Matters to a Vote of Security Holders**

 

None.

 

**Item 5.Other Information**

 

Not applicable.

 

**Item 6.Exhibits**

 
| 3.1  |   | Charter of Fox Chase Bancorp, Inc. (1)                                             |
|------|--------|-----------------------------------------------------------------------------------------|
| 3.2  |   | Bylaws of Fox  Chase Bancorp, Inc. (2)                                             |
| 4.1  |   | Stock  Certificate of Fox Chase Bancorp, Inc. (1)                                  |
| 31.1 |   | Rule 13a-14(a)/15d-14(a) Certification  of Chief Executive Officer            |
| 31.2 |   | Rule 13a-14(a)/15d-14(a) Certification  of Chief Financial Officer            |
| 32.0 |   | Section 1350  Certification of Chief Executive Officer and Chief Financial Officer |

 

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|   |   | (1)    | Incorporated by  reference to this document from the exhibits to the Company’s Registration  Statement on Form S-1 (File No. 333-134160), as amended, initially  filed with the Securities and Exchange Commission on May 16, 2006. |
|--------|--------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |   |                                                                                                                                                                                                                                                    |
|   |   | (2)    | Incorporated by reference to this document from the exhibits to the  Company’s Quarterly Report on Form 10-Q filed with the Securities and  Exchnage Commission on May 9, 2008.                                                          |

 

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Tableof Contents

 

**SIGNATURES**

 

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

 
|                         | FOX CHASE  BANCORP, INC. |
|------------------------------|--------------------------|
|                         |                     |   |
| Dated: November 6, 2008 | By:                      | /s/ Thomas M. Petro |
|                         |                     | Thomas M. Petro |
|                         |                     | President and  Chief Executive Officer |
|                         |                     | (principal  executive officer) |
|                         |                     |   |
| Dated: November 6, 2008 | By:                      | /s/ Roger S. Deacon |
|                         |                     | Roger S. Deacon |
|                         |                     | Chief Financial  Officer |
|                         |                     | (principal  financial officer) |

 

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