UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC  20549

FORM 10-Q

[ x ]  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended September 30, 2010March 31, 2011

OR
[   ]  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                to                 

Commission File Number 000-16435



Vermont03-0284070
(State of Incorporation)(IRS Employer Identification Number)
 
4811 US Route 5, Derby, Vermont05829
(Address of Principal Executive Offices)(zip code)
  
Registrant's Telephone Number:  (802) 334-7915

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

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  YES (  ) NO (  )

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

Large accelerated filer (  )Accelerated filer (  )
Non-accelerated filer   (  )    (Do not check if a smaller reporting company)Smaller reporting company ( X )

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
YES (  )     NO(X)

At November 3, 2010,May 9, 2011, there were 4,605,2024,627,607 shares outstanding of the Corporation's common stock.


 

 


FORM 10-Q
Index  
  Page  
PART IFINANCIAL INFORMATION 
   
Item 14  
Item 21822  
Item 33539  
Item 43639  
   
PART IIOTHER INFORMATION 
   
Item 13639  
Item 23639  
Item 63740  
 3841  


 
 


PART I.  FINANCIAL INFORMATION

ITEM 1.  Financial Statements (Unaudited)

The following are the unaudited consolidated financial statements for Community Bancorp. and Subsidiary, "the Company".

 

 

Community Bancorp. and Subsidiary  September 30  December 31  September 30  March 31  December 31  March 31 
Consolidated Balance Sheets 2010  2009  2009  2011  2010  2010 
 (Unaudited)     (Unaudited)  (Unaudited)     (Unaudited) 
Assets                  
Cash and due from banks $16,991,944  $9,598,107  $8,504,893  $34,115,851  $51,441,652  $9,280,046 
Federal funds sold and overnight deposits  9,018   5,036   7,736   5,553   6,635   1,213 
Total cash and cash equivalents  17,000,962   9,603,143   8,512,629   34,121,404   51,448,287   9,281,259 
Securities held-to-maturity (fair value $53,734,000 at 09/30/10,            
$45,543,000 at 12/31/09 and $51,076,000 at 09/30/09)  53,146,028   44,766,250   49,769,540 
Securities held-to-maturity (fair value $38,442,000 at 03/31/11,            
$38,157,000 at 12/31/10 and $47,593,000 at 03/31/10)  37,948,665   37,440,714   47,157,935 
Securities available-for-sale  22,514,018   23,974,830   23,130,656   28,460,688   21,430,436   22,872,120 
Restricted equity securities, at cost  3,906,850   3,906,850   3,906,850   4,308,550   4,308,550   3,906,850 
Loans held-for-sale  3,687,530   321,983   254,320   1,054,416   2,363,938   460,795 
Loans  386,332,598   381,937,123   372,288,376   386,953,338   389,068,859   383,672,422 
Allowance for loan losses  (3,706,434)  (3,450,542)  (3,481,663)  (3,709,918)  (3,727,935)  (3,545,807)
Unearned net loan fees  (85,539)  (152,188)  (183,683)  (50,871)  (74,351)  (123,171)
Net loans  382,540,625   378,334,393   368,623,030   383,192,549   385,266,573   380,003,444 
Bank premises and equipment, net  12,961,952   13,637,414   13,815,601   12,747,376   12,791,971   13,247,973 
Accrued interest receivable  1,926,729   1,895,313   1,876,058   1,966,089   1,789,621   2,118,425 
Bank owned life insurance  3,902,422   3,813,016   3,782,011   3,965,349   3,933,331   3,842,739 
Core deposit intangible  2,263,584   2,663,040   2,829,480   2,023,910   2,130,432   2,529,888 
Goodwill  11,574,269   11,574,269   11,574,269   11,574,269   11,574,269   11,574,269 
Other real estate owned (OREO)  1,070,500   743,000   585,000   764,500   1,210,300   718,000 
Prepaid expense Federal Deposit Insurance Corporation (FDIC)  1,667,372   2,105,565   0 
Prepaid expense - Federal Deposit Insurance Corporation (FDIC)  1,379,677   1,533,157   1,959,157 
Other assets  8,750,824   7,948,031   7,370,455   9,330,696   8,711,070   8,398,651 
Total assets $526,913,665  $505,287,097  $496,029,899  $532,838,138  $545,932,649  $508,071,505 
                        
Liabilities and Shareholders' Equity                        
Liabilities                        
Deposits:            
Deposits            
Demand, non-interest bearing $56,816,997  $52,821,573  $53,332,196  $53,917,918  $55,570,893  $51,665,027 
NOW and money market accounts  159,469,342   146,244,454   124,654,825   178,615,118   182,427,902   140,384,990 
Savings  56,933,717   52,448,863   53,487,971   61,151,720   56,461,370   55,259,464 
Time deposits, $100,000 and over  52,439,732   63,261,583   58,488,968   51,902,372   52,014,363   53,689,519 
Other time deposits  94,024,242   104,009,257   112,581,504   91,970,219   91,717,735   98,987,259 
Total deposits  419,684,030   418,785,730   402,545,464   437,557,347   438,192,263   399,986,259 
            
Federal funds purchased and other borrowed funds  33,010,000   13,411,000   23,467,000   18,010,000   33,010,000   36,022,000 
Repurchase agreements  19,446,876   19,042,214   17,110,010   21,479,815   19,107,815   17,815,163 
Capital lease obligations  845,576   876,536   886,454   823,886   834,839   866,420 
Junior subordinated debentures  12,887,000   12,887,000   12,887,000   12,887,000   12,887,000   12,887,000 
Accrued interest and other liabilities  2,965,118   3,394,779   2,779,934   2,525,250   2,773,063   3,092,536 
Total liabilities  488,838,600   468,397,259   459,675,862   493,283,298   506,804,980   470,669,378 
                        
Shareholders' Equity                        
Preferred stock, 1,000,000 shares authorized, 25 shares issued                        
and outstanding ($100,000 liquidation value)  2,500,000   2,500,000   2,500,000   2,500,000   2,500,000   2,500,000 
Common stock - $2.50 par value; 10,000,000 shares authorized,                        
4,813,289 shares issued at 09/30/10, 4,759,913 shares            
issued at 12/31/09 and 4,737,070 shares issued at 09/30/09  12,033,223   11,899,783   11,842,675 
4,860,113 shares issued at 03/31/11, 4,834,615 shares            
issued at 12/31/10, and 4,782,483 shares issued at 03/31/10  12,150,283   12,086,538   11,956,208 
Additional paid-in capital  26,592,727   26,192,359   26,068,637   26,833,255   26,718,403   26,308,634 
Accumulated deficit  (518,412)  (1,192,409)  (1,645,862)
Retained earnings (accumulated deficit)  618,976   368,848   (843,864)
Accumulated other comprehensive income  90,304   112,882   211,364   75,103   76,657   103,926 
Less: treasury stock, at cost; 210,101 shares at 09/30/10,            
12/31/09 and 09/30/09  (2,622,777)  (2,622,777)  (2,622,777)
Less: treasury stock, at cost; 210,101 shares at 03/31/11,            
12/31/10 and 03/31/10  (2,622,777)  (2,622,777)  (2,622,777)
Total shareholders' equity  38,075,065   36,889,838   36,354,037   39,554,840   39,127,669   37,402,127 
Total liabilities and shareholders' equity $526,913,665  $505,287,097  $496,029,899  $532,838,138  $545,932,649  $508,071,505 
            
The accompanying notes are an integral part of these consolidated financial statements.The accompanying notes are an integral part of these consolidated financial statements. 
 
The accompanying notes are an integral part of these consolidated financial statements.

Community Bancorp. and Subsidiary      
 Consolidated Statements of Income      
(Unaudited)      
 For The First Quarter Ended March 31, 2011  2010 
       
 Interest income      
   Interest and fees on loans $5,303,865  $5,451,021 
   Interest on debt securities        
     Taxable  70,810   112,281 
     Tax-exempt  261,889   307,450 
   Dividends  18,896   16,137 
   Interest on federal funds sold and overnight deposits  21,652   350 
        Total interest income  5,677,112   5,887,239 
         
 Interest expense        
   Interest on deposits  1,112,783   1,214,480 
   Interest on federal funds purchased and other borrowed funds  117,209   137,201 
   Interest on repurchase agreements  37,914   48,851 
   Interest on junior subordinated debentures  243,564   243,564 
        Total interest expense  1,511,470   1,644,096 
         
     Net interest income  4,165,642   4,243,143 
 Provision for loan losses  187,500   125,001 
     Net interest income after provision for loan losses  3,978,142   4,118,142 
         
 Non-interest income        
   Service fees  550,518   560,804 
   Income from sold loans  201,141   136,282 
   Income on bank owned life insurance  32,019   29,723 
   Other income  675,791   504,992 
        Total non-interest income  1,459,469   1,231,801 
         
 Non-interest expense        
   Salaries and wages  1,466,816   1,392,671 
   Employee benefits  540,437   555,856 
   Occupancy expenses, net  807,612   779,175 
   FDIC insurance  170,297   158,368 
   Amortization of core deposit intangible  106,522   133,152 
   Other expenses  1,257,830   1,269,599 
        Total non-interest expense  4,349,514   4,288,821 
         
    Income before income taxes  1,088,097   1,061,122 
 Income tax expense  143,229   122,210 
        Net income $944,868  $938,912 
         
 Earnings per common share $0.19  $0.20 
 Weighted average number of common shares        
  used in computing earnings per share  4,635,324   4,558,198 
 Dividends declared per common share $0.14  $0.12 
 Book value per share on common shares outstanding at March 31, $7.97  $7.63 
The accompanying notes are an integral part of these consolidated financial statements.


Community Bancorp. and Subsidiary      
Consolidated Statements of Cash Flows      
(Unaudited)      
For The Years Ended March 31, 2011  2010 
       
Cash Flow from Operating Activities:      
  Net income $944,868  $938,912 
  Adjustments to Reconcile Net Income to Net Cash Provided by        
   Operating Activities:        
    Depreciation and amortization, bank premises and equipment  253,061   264,548 
    Provision for loan losses  187,500   125,001 
    Deferred income tax  13,540   (86,466)
    Net gain on sale of loans  (201,141)  (136,282)
    Gain on sale of bank premises and equipment  0   (9,649)
    Gain on Trust LLC  (42,372)  (16,296)
    Amortization of bond premium, net  87,668   95,390 
    Write down of OREO  10,000   25,000 
    Proceeds from sales of loans held for sale  11,332,576   6,414,847 
    Originations of loans held for sale  (9,821,913)  (6,417,377)
    Decrease in taxes payable  (370,310)  (291,324)
    Increase in interest receivable  (176,468)  (223,112)
    Amortization of FDIC insurance assessment  153,480   146,408 
    Increase in mortgage servicing rights  (176,605)  (57,733)
    Increase in other assets  (165,224)  (118,085)
    Increase in cash surrender value of bank owned life insurance  (32,018)  (29,723)
    Amortization of core deposit intangible  106,522   133,152 
    Amortization of limited partnerships  122,147   123,897 
    Decrease in unamortized loan fees  (23,480)  (29,017)
    Decrease in interest payable  (16,415)  (24,620)
    Decrease in accrued expenses  (325,850)  (298,487)
    (Decrease) increase in other liabilities  (760)  23,116 
       Net cash provided by operating activities  1,858,806   552,100 
         
Cash Flows from Investing Activities:        
  Investments - held-to-maturity        
    Maturities and pay downs  7,121,895   9,092,359 
    Purchases  (7,629,846)  (11,484,044)
  Investments - available-for-sale        
    Maturities, calls, pay downs and sales  4,000,000   2,000,000 
    Purchases  (11,120,276)  (1,006,250)
  Decrease (increase) in loans, net  1,888,431   (1,698,119)
  Proceeds from sales of bank premises and equipment,        
    net of capital expenditures  (208,466)  134,543 
  Proceeds from sales of OREO  435,800   (81,650)
  Recoveries of loans charged off  21,573   14,734 
       Net cash used in investing activities  (5,490,889)  (3,028,427)
         
 
 

 
Community Bancorp. and Subsidiary      
 Consolidated Statements of Income      
(Unaudited)      
 For The Third Quarter Ended September 30, 2010  2009 
       
 Interest income      
   Interest and fees on loans $5,514,561  $5,439,689 
   Interest on debt securities        
     Taxable  73,272   155,964 
     Tax-exempt  347,666   375,155 
   Dividends  16,139   16,138 
   Interest on federal funds sold and overnight deposits  1   (653)
        Total interest income  5,951,639   5,986,293 
         
 Interest expense        
   Interest on deposits  1,163,470   1,498,395 
   Interest on federal funds purchased and other borrowed funds  161,640   88,254 
   Interest on repurchase agreements  41,584   57,708 
   Interest on junior subordinated debentures  243,564   243,564 
        Total interest expense  1,610,258   1,887,921 
         
     Net interest income  4,341,381   4,098,372 
 Provision for loan losses  433,334   175,001 
     Net interest income after provision for loan losses  3,908,047   3,923,371 
         
 Non-interest income        
   Service fees  577,514   580,293 
   Income from sold loans  216,788   207,953 
   Income on bank owned life insurance  29,797   30,845 
   Other income  406,683   562,666 
        Total non-interest income  1,230,782   1,381,757 
         
 Non-interest expense        
   Salaries and wages  1,521,763   1,467,638 
   Employee benefits  556,331   500,665 
   Occupancy expenses, net  738,838   715,773 
   FDIC insurance  158,031   142,855 
   Amortization of core deposit intangible  133,152   166,440 
   Other expenses  1,218,444   1,364,393 
        Total non-interest expense  4,326,559   4,357,764 
         
    Income before income taxes  812,270   947,364 
 Income tax expense (benefit)  24,465   (65,858)
        Net income $787,805  $1,013,222 
         
 Earnings per common share $0.16  $0.21 
 Weighted average number of common shares        
  used in computing earnings per share  4,591,530   4,514,460 
 Dividends declared per common share $0.12  $0.12 
 Book value per share on common shares outstanding at September 30, $7.73  $7.48 
The accompanying notes are an integral part of these consolidated financial statements.

Community Bancorp. and Subsidiary      
 Consolidated Statements of Income      
(Unaudited)      
For the Nine Months Ended September 30, 2010  2009 
       
 Interest income      
   Interest and fees on loans $16,446,720  $16,318,223 
   Interest on debt securities        
     Taxable  272,026   654,064 
     Tax-exempt  970,611   1,019,059 
   Dividends  48,415   48,413 
   Interest on federal funds sold and overnight deposits  228   404 
        Total interest income  17,738,000   18,040,163 
         
 Interest expense        
   Interest on deposits  3,610,516   4,819,285 
   Interest on federal funds purchased and other borrowed funds  456,747   227,564 
   Interest on repurchase agreements  136,886   193,052 
   Interest on junior subordinated debentures  730,693   730,693 
        Total interest expense  4,934,842   5,970,594 
         
     Net interest income  12,803,158   12,069,569 
 Provision for loan losses  858,334   425,003 
     Net interest income after provision for loan losses  11,944,824   11,644,566 
         
 Non-interest income        
   Service fees  1,700,021   1,606,971 
   Income from sold loans  536,471   901,497 
   Income on bank owned life insurance  89,406   91,932 
   Net realized gains on securities  0   471,055 
   Other income  1,323,117   1,314,309 
        Total non-interest income  3,649,015   4,385,764 
         
 Non-interest expense        
   Salaries and wages  4,354,779   4,358,104 
   Employee benefits  1,698,749   1,656,345 
   Occupancy expenses, net  2,282,320   2,280,055 
   FDIC insurance  474,265   644,378 
   Amortization of core deposit intangible  399,456   499,320 
   Write down of Fannie Mae preferred stock  0   94,446 
   Other expenses  3,766,269   4,080,338 
        Total non-interest expense  12,975,838   13,612,986 
         
    Income before income taxes  2,618,001   2,417,344 
 Income tax expense (benefit)  158,751   (286,696)
        Net income $2,459,250  $2,704,040 
         
 Earnings per common share $0.51  $0.57 
 Weighted average number of common shares        
  used in computing earnings per share  4,574,857   4,494,448 
 Dividends declared per common share $0.36  $0.36 
 Book value per share on common shares outstanding at September 30, $7.73  $7.48 
The accompanying notes are an integral part of these consolidated financial statements.


Community Bancorp. and Subsidiary      
Consolidated Statements of Cash Flows      
(Unaudited)      
For the Nine Months Ended September 30, 2010  2009 
       
Cash Flow from Operating Activities:      
  Net income $2,459,250  $2,704,040 
  Adjustments to Reconcile Net Income to Net Cash Provided by        
   Operating Activities:        
    Depreciation and amortization, premises and equipment  772,332   813,643 
    Provision for loan losses  858,334   425,003 
    Deferred income tax benefit  (389,653)  (393,950)
    Net gain on sale of securities  0   (471,055)
    Net gain on sale of loans  (536,471)  (901,497)
    Gain on sale of bank premises and equipment  (4,584)  0 
    Loss on sale of OREO  10,807   7,523 
    (Gain) loss on Trust LLC  (54,347)  20,511 
    Amortization of bond premium, net  288,561   152,691 
    Write down of Fannie Mae preferred stock  0   94,446 
    Write down of OREO  25,000   100,000 
    Proceeds from sales of loans held for sale  27,428,557   60,517,629 
    Originations of loans held for sale  (30,257,633)  (58,688,608)
    (Decrease) increase in taxes payable  (501,596)  7,253 
    (Increase) decrease in interest receivable  (31,416)  168,492 
    Decrease in prepaid FDIC insurance assessment  438,193   0 
    Increase in mortgage servicing rights  (13,105)  (8,754)
    (Increase) decrease in other assets  (204,150)  45,431 
    Increase in bank owned life insurance  (89,406)  (91,932)
    Amortization of core deposit intangible  399,456   499,320 
    Amortization of limited partnerships  371,691   737,928 
    Decrease in unamortized loan fees  (66,649)  (117,321)
    Decrease in interest payable  (31,924)  (36,777)
    Increase in accrued expenses  169,084   129,033 
    Increase (decrease) in other liabilities  56,372   (692,037)
       Net cash provided by operating activities  1,096,703   5,021,012 
         
Cash Flows from Investing Activities:        
  Investments - held-to-maturity        
    Maturities and pay downs  35,805,520   32,552,289 
    Purchases  (44,185,298)  (45,033,470)
  Investments - available-for-sale        
    Sales and maturities  5,160,000   20,747,245 
    Purchases  (4,021,959)  (14,691,675)
  Decrease in limited partnership contributions payable  (613,306)  (1,457,000)
  Increase in loans, net  (5,580,214)  (8,388,675)
  Proceeds from sales of bank premises and equipment,        
    net of capital expenditures  (92,287)  360,185 
  Proceeds from sales of OREO  170,843   167,477 
  Recoveries of loans charged off  48,147   60,710 
       Net cash used in investing activities  (13,308,554)  (15,682,914)

The accompanying notes are an integral part of these consolidated financial statements.




 2010  2009  2011  2010 
Cash Flows from Financing Activities:            
Net increase in demand, NOW, money market and savings accounts  21,705,166   4,572,540 
Net decrease in time deposits  (20,806,866)  (4,267,856)
Net decrease in demand, NOW, money market and savings accounts  (775,409)  (4,205,409)
Net increase (decrease) in time deposits  140,493   (14,594,062)
Net increase (decrease) in repurchase agreements  404,662   (1,976,446)  2,372,000   (1,227,051)
Net (decrease) increase in short-term borrowings  (3,401,000)  895,000 
Net decrease in short-term borrowings  0   (389,000)
Proceeds from long-term borrowings  28,000,000   10,000,000   0   23,000,000 
Repayments on long-term borrowings  (5,000,000)  0   (15,000,000)  0 
Decrease in capital lease obligations  (30,960)  (28,598)  (10,953)  (10,116)
Dividends paid on preferred stock  (140,625)  (140,625)  (46,875)  (46,875)
Dividends paid on common stock  (1,120,707)  (1,149,112)  (374,056)  (373,044)
Net cash provided by financing activities  19,609,670   7,904,903 
Net cash (used in) provided by financing activities  (13,694,800)  2,154,443 
                
Net increase (decrease) in cash and cash equivalents  7,397,819   (2,756,999)
Net decrease in cash and cash equivalents  (17,326,883)  (321,884)
Cash and cash equivalents:                
Beginning  9,603,143   11,269,628   51,448,287   9,603,143 
Ending $17,000,962  $8,512,629  $34,121,404  $9,281,259 
                
Supplemental Schedule of Cash Paid During the Period                
Interest $4,966,766  $6,007,371  $1,527,885  $1,668,716 
                
Income taxes $1,050,000  $100,000  $500,000  $500,000 
                
Supplemental Schedule of Noncash Investing and Financing Activities:                
Change in unrealized gain on securities available-for-sale $(34,210) $(487,114) $(2,356) $(13,570)
                
Loans and bank premises transferred to OREO $(534,150) $675,000  $0  $81,650 
                
Common Shares Dividends Paid                
Dividends declared $1,644,628  $1,616,556  $647,865  $543,492 
Decrease (increase) in dividends payable attributable to dividends declared  9,887   (11,663)
(Increase) decrease in dividends payable attributable to dividends declared  (95,212)  2,252 
Dividends reinvested  (533,808)  (455,781)  (178,597)  (172,700)
 $1,120,707  $1,149,112  $374,056  $373,044 

The accompanying notes are an integral part of these consolidated financial statements.
 
 

 

Notes to Consolidated Financial Statements

Note 1.  Basis of Presentation and Consolidation

     The interim consolidated financial statements of Community Bancorp. and Subsidiary are unaudited.  All significant intercompany balances and transactions have been eliminated in consolidation.  In the opinion of management, all adjustments necessary for fair presentation of the financial condition and results of operations of the Company contained herein have been made.  The unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto for the year ended December 31, 20092010 contained in the Company's Annual Report on Form 10-K/A.10-K.  The results of operations for the interim period are not necessarily indicative of the results of operations to be expected for the full annual period ending Dec emberDecember 31, 2010,2011, or for any other interim period.

     Certain amounts in the 2009 financial statements have been reclassified to conform to the current year presentation.

Note 2.  Recent Accounting Developments

     In June 2009, the Financial Accounting Standards Board (FASB) issued a change to Accounting Standards Codification (ASC) Topic 860, "Transfers and Servicing", to improve the reporting for the transfer of financial assets resulting from (1) practices that have developed since the issuance of a previous FASB statement that are not consistent with the original intent and key requirements of that statement and (2) concerns of financial statement users that many of the financial assets (and related obligations) that have been derecognized should continue to be reported in the financial statements of transferors. This ASC became effective for the Company on January 1, 2010.  Adoption of this Statement did not have a material impact on the Company’s consolidated financial statements.

     In June 2009, the FASB issued a change to ASC Topic 810, "Consolidation", to amend certain requirements of consolidation of variable interest entities, to improve financial reporting by enterprises involved with variable interest entities and to provide more relevant and reliable information to users of financial statements. The ASC became effective for the Company on January 1, 2010.  Adoption of this Statement did not have a material impact on the Company’s consolidated financial statements.

     In January 2010, the FASB issued Accounting Standards Update (ASU) 2010-06, "Fair Value Measurements and Disclosures (Topic 820) - Improving Disclosures about Fair Value Measurements," to amend the disclosure requirements related to recurring and nonrecurring fair value measurements.  The guidance requires new disclosures on the transfers of assets and liabilities between Level 1 (quoted prices in active market for identical assets or liabilities) and Level 2 (significant other observable inputs) of the fair value measurement hierarchy, including the reasons and the timing of the transfers.  Additionally, the guidance requires a roll forward of activities on purchases, sales, issuance, and settlements of the assets and liabilities measured using significant unobservable inputs (Level 3 fair value measurements).  The guidance became effective for the Company on January 1, 2010, except for the disclosure on the roll forward activities for any Level 3 fair value measurements, which will becomebecame effective withfor the reporting period beginningCompany on January 1, 2011.  Adoption of this new guidance requires additional disclosures of fair value measurements but did not have a material impact on the Company’s consolidated financial statements.

     In February 2010, the FASB issued ASU 2010-09, “Subsequent Events: Amendments to Certain Recognition and Disclosure Requirements,” related to events that occur after the balance sheet date but before financial statements are issued. This guidance amends existing standards to address potential conflicts with Securities and Exchange Commission (“SEC”) guidance and refines the scope of the reissuance disclosure requirements to include revised financial statements only. Under this guidance, SEC filers are no longer required to disclose the date through which subsequent events have been evaluated. The adoption of this update did not have a material effect on the Company’s consolidated financial statements.

     On July 21, 2010, the FASB issued ASU 2010-20, “Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses,” which requires significant new disclosures about the allowance for credit losses and the credit quality of financing receivables.  The ASU is intended to enhance transparency about an entity’s allowance for credit losses and the credit quality of loan and lease receivables by requiring disclosure of an evaluation of the nature of the credit risk inherent in the entity’s financing receivables portfolio, as well as disclosure of how that risk is analyzed and assessed in arriving at the allowance for credit losses and the changes and reasons for those changes in the allowance.  Under this standard, disclosures about the allowance for credit losses and fair value are to be presented by portfolio segment, while credit quality information, impaired financing receivables and nonaccrualnon-accrual status are to be presented by class of financing receivable.  In addition to existing requirements, ASU 2010-20 requires an entity to provide additional disclosures about (1) credit quality indicators of financing receivables at the end of the reporting period by class of financing receivables; (2) the aging of past due financing receivables at the end of the reporting period by class of financing receivable; (3) the nature and extent of troubled debt restructurings that occurred during the period, by class of financing receivable, and their effect on the allowance for credit losses; (4) the nature and extent of financing receivables modified as troubled debt restructurings within the previous 12 months that defaulted during the reporting period, by class of financing receivable, and their effect on the allowance for credit losses; and (5) significant purchases and sales of financing receivables during the reporting period, disaggregated by portfolio segment.  The disclosures are to be presented at the level of disaggregation that management uses when assessing and monitoring the portfolio’s risk and performance.  ASU 2010-20 will beis effective for interim and annual financial reporting periods ending after December 15, 2010, as it relates to disclosures required as of the end of a reporting period.  On January 19, 2011, the FASB issued ASU 2011-01, “Receivables (Topic 310): Deferral of the Effective Date of Disclosures that relateabout Troubled Debt Restructurings in Update No. 2010-20,” temporarily deferring the ASU 2010-20 effective date of the disclosure requirements for public entities about troubled debt restructurings.  The purpose of the delay is to activity duringmake the disclosure requirements concurrent with the effective date of the FASB’s guidance on determining what constitutes a reporting period willtroubled debt restructuring.  Currently, the guidance for determining what constitutes a troubled debt restructuring is anticipated to be requiredeffective for the Company’s consolidated financial statements that includeinterim and annual periods beginning on orending after January 1,June 15, 2011.  Other than requiring additional disclosures, the Company does not anticipate that adoption of this ASU willdid not have a material impact on the Company’s consolidated financial statementsstatements.  On April 5, 2011, the FASB issued ASU 2011-02 “A Creditor’s Determination of Whether a Restructuring is a Troubled Debt Restructuring”, which clarifies when creditors should classify loan modifications as troubled debt restructurings.  The guidance is effective for interim and accompanying footnotes.annual periods beginning on or after June 15, 2011, and applies retrospectively to restructurings occurring on or after the beginning of the year.  The guidance on measuring the impairment of a receivable restructured in a troubled debt restructuring is effective on a prospective basis.  The Company is currently evaluating the new guidance.

Note 3.  Earnings per Common Share

     Earnings per common share amounts are computed based on the weighted average number of shares of common stock issued during the period (retroactively adjusted for stock splits and stock dividends), including Dividend Reinvestment Plan shares issuable upon reinvestment of dividends, and reduced for shares held in treasury.


The following table illustrates the calculation for the periods ended September 30,March 31, as adjusted for the cash dividends declared on the preferred stock:

For The Third Quarter Ended September 30, 2010  2009 
For The First Quarter Ended March 31, 2011  2010 
            
Net income, as reported $787,805  $1,013,222  $944,868  $938,912 
Less: dividends to preferred shareholders  46,875   46,875   46,875   46,875 
Net income available to common shareholders $740,930  $966,347  $897,993  $892,037 
Weighted average number of common shares                
used in calculating earnings per share  4,591,530   4,514,460   4,635,324   4,558,198 
Earnings per common share $0.16  $0.21  $0.19  $0.20 

For the Nine Months Ended September 30, 2010  2009 
       
Net income, as reported $2,459,250  $2,704,040 
Less: dividends to preferred shareholders  140,625   140,625 
Net income available to common shareholders $2,318,625  $2,563,415 
Weighted average number of common shares        
   used in calculating earnings per share  4,574,857   4,494,448 
Earnings per common share $0.51  $0.57 

Note 4.  Comprehensive Income

     Accounting principles generally require recognized revenues, expenses, gains, and losses to be included in net income.  Certain changes in assets and liabilities, such as the after-tax effect of unrealized gains and losses on available-for-sale securities, are not reflected in the statement of income, but the cumulative effect of such items from period-to-period is reflected as a separate component of the equity section of the balance sheet (accumulated other comprehensive income or loss).  Other comprehensive income or loss, along with net income, comprises the Company's total comprehensive income.

The Company's total comprehensive income for the comparison periods is calculated as follows:

For The Third Quarter Ended September 30, 2010  2009 
       
Net income $787,805  $1,013,222 
Other comprehensive (loss) income, net of tax:        
     Change in unrealized holding gain on available-for-sale        
       securities arising during the period  (8,659)  54,554 
        Tax effect  2,944   (18,548)
        Other comprehensive (loss) income, net of tax  (5,715)  36,006 
               Total comprehensive income $782,090  $1,049,228 

For the Nine Months Ended September 30, 2010  2009 
For The First Quarter Ended March 31, 2011  2010 
            
Net income before write down of Fannie Mae preferred stock and tax effect thereof $2,459,250  $2,766,374 
Realized loss on write down of Fannie Mae preferred stock  0   94,446 
Tax effect  0   (32,112)
Net income after realized loss  2,459,250   2,704,040 
Net income $944,868  $938,912 
                
Other comprehensive loss, net of tax:                
Change in unrealized holding gain on available-for-sale                
securities arising during the period  (34,210)  (16,059)  (2,356)  (13,570)
Reclassification adjustment for gains realized in income  0   471,055 
Net change in unrealized gain  (34,210)  (487,114)
Tax effect  11,631   165,619   801   4,614 
Other comprehensive loss, net of tax  (22,579)  (321,495)  (1,555)  (8,956)
Total comprehensive income $2,436,671  $2,382,545  $943,313  $929,956 


Note 5.  Investment Securities

Securities available-for-sale (AFS) and held-to-maturity (HTM) consisted of the following:

    Gross  Gross        Gross  Gross    
 Amortized  Unrealized  Unrealized  Fair  Amortized  Unrealized  Unrealized  Fair 
Securities AFS Cost  Gains  Losses  Value  Cost  Gains  Losses  Value 
                        
September 30, 2010            
March 31, 2011            
U.S. Government sponsored enterprise (GSE) debt securities $17,270,721  $127,199  $0  $17,397,920  $23,277,044  $57,776  $71,815  $23,263,005 
U.S. Government securities  5,038,309   41,491   0   5,079,800   5,027,492   28,152   0   5,055,644 
U.S. GSE preferred stock  68,164   0   31,866   36,298   42,360   99,679   0   142,039 
 $22,377,194  $168,690  $31,866  $22,514,018  $28,346,896  $185,607  $71,815  $28,460,688 
December 31, 2009                
                
December 31, 2010                
U.S. GSE debt securities $18,686,949  $138,283  $18,582  $18,806,650  $16,234,676  $88,091  $9,377  $16,313,390 
U.S. Government securities  5,048,683   48,773   764   5,096,692   5,037,252   37,666   232   5,074,686 
U.S. GSE preferred stock  68,164   3,324   0   71,488   42,360   0   0   42,360 
 $23,803,796  $190,380  $19,346  $23,974,830  $21,314,288  $125,757  $9,609  $21,430,436 
September 30, 2009                
                
March 31, 2010                
U.S. GSE debt securities $18,692,738  $188,891  $0  $18,881,629  $17,598,571  $125,439  $6,323  $17,717,687 
U.S. Government securities  4,049,506   73,086   0   4,122,592   5,047,922   37,571   3,532   5,081,961 
U.S. GSE preferred stock  68,164   58,271   0   126,435   68,164   4,308   0   72,472 
 $22,810,408  $320,248  $0  $23,130,656  $22,714,657  $167,318  $9,855  $22,872,120 


     Gross  Gross    
  Amortized  Unrealized  Unrealized  Fair 
Securities HTM Cost  Gains  Losses  Value* 
             
March 31, 2011            
States and political subdivisions $37,948,665  $493,335  $0  $38,442,000 
                 
December 31, 2010                
States and political subdivisions $37,440,714  $716,286  $0  $38,157,000 
                 
March 31, 2010                
States and political subdivisions $47,157,935  $435,065  $0  $47,593,000 

     Gross  Gross    
  Amortized  Unrealized  Unrealized  Fair 
Securities HTM Cost  Gains  Losses  Value* 
             
September 30, 2010            
States and political subdivisions $53,146,028  $587,972  $0  $53,734,000 
                 
December 31, 2009                
States and political subdivisions $44,766,250  $776,750  $0  $45,543,000 
                 
September 30, 2009                
States and political subdivisions $49,769,540  $1,306,460  $0  $51,076,000 

The scheduled maturities of debt securities available-for-sale were as follows:

 Amortized  Fair  Amortized  Fair 
 Cost  Value  Cost  Value 
September 30, 2010      
March 31, 2011      
Due in one year or less $13,141,244  $13,222,390  $12,137,321  $12,200,055 
Due from one to five years  9,167,786   9,255,330   16,167,215   16,118,594 
 $22,309,030  $22,477,720  $28,304,536  $28,318,649 
December 31, 2009        
        
December 31, 2010        
Due in one year or less $8,229,400  $8,310,668  $14,172,100  $14,248,432 
Due from one to five years  15,506,232   15,592,674   7,099,828   7,139,644 
 $23,735,632  $23,903,342  $21,271,928  $21,388,076 
September 30, 2009        
        
March 31, 2010        
Due in one year or less $7,160,297  $7,285,570  $10,251,580  $10,308,291 
Due from one to five years  15,581,947   15,718,651   12,394,913   12,491,357 
 $22,742,244  $23,004,221  $22,646,493  $22,799,648 


The scheduled maturities of debt securities held-to-maturity were as follows:

 Amortized  Fair  Amortized  Fair 
 Cost  Value*  Cost  Value* 
September 30, 2010      
March 31, 2011      
Due in one year or less $44,048,956  $44,049,000  $28,814,724  $28,815,000 
Due from one to five years  3,965,459   4,112,000   4,439,601   4,563,000 
Due from five to ten years  1,308,094   1,455,000   782,407   906,000 
Due after ten years  3,823,519   4,118,000   3,911,933   4,158,000 
 $53,146,028  $53,734,000  $37,948,665  $38,442,000 
December 31, 2009        
        
December 31, 2010        
Due in one year or less $35,864,578  $35,865,000  $28,468,783  $28,469,000 
Due from one to five years  4,034,674   4,229,000   4,253,527   4,433,000 
Due from five to ten years  1,483,336   1,677,000   789,962   969,000 
Due after ten years  3,383,662   3,772,000   3,928,442   4,286,000 
 $44,766,250  $45,543,000  $37,440,714  $38,157,000 
September 30, 2009        
        
March 31, 2010        
Due in one year or less $41,083,534  $41,084,000  $38,844,223  $38,844,000 
Due from one to five years  4,217,762   4,544,000   4,458,048   4,567,000 
Due from five to ten years  1,306,505   1,633,000   1,345,755   1,455,000 
Due after ten years  3,161,739   3,815,000   2,509,909   2,727,000 
 $49,769,540  $51,076,000  $47,157,935  $47,593,000 

*Method used to determine fair value on held-to-maturityHTM securities rounds values to nearest thousand.

     All debt securities with unrealized losses are presented in the table below either as those with a continuous loss position for less than 12 months or as those with a continuous loss position for 12 months or more.below.  The Company had no debt securities with an unrealized loss at September 30, 2010 and September 30, 2009.  The debt securities at December 31, 2009 had no unrealized loss position of 12 months or more.more for the periods presented.

Debt securities with unrealized losses were as follows:

 Less than 12 months  Less than 12 months 
 Fair  Unrealized  Fair  Unrealized 
 Value  Loss  Value  Loss 
December 31, 2009      
March 31, 2011      
U.S. GSE debt securities $10,089,293  $71,815 
        
December 31, 2010        
U.S. GSE debt securities $2,055,018  $18,582  $2,037,894  $9,377 
U.S. Government securities  1,003,233   764   1,007,225   232 
 $3,058,251  $19,346  $3,045,119  $9,609 
        
March 31, 2010        
U.S. GSE debt securities $2,057,787  $6,323 
U.S. Government securities  1,002,445   3,532 
 $3,060,232  $9,855 

     At September 30,March 31, 2011 and 2010 and 2009 and December 31, 2009,2010, the Company’s available-for-sale portfolio included two classes of Fannie Mae preferred stock with an aggregate cost basis of $42,360 as of March 31, 2011 and December 31, 2010, and an aggregate cost basis of $68,164 which reflectedas of March 31, 2010.  The cost basis of those shares reflects an other-than-temporary impairment write down of $25,804 recorded by the Company in the fourth quarter of 2010 and two other-than-temporary impairment write downs on the investmentrecorded in prior periods.  The fair market value of the Fannie Mae preferred stock as of September 30, 2010March 31, 2011 was $36,298, a decrease$142,039, an increase of $35,190$99,679 from the December 31, 2009 fair market value of $71,488.  The September 30, 2010 fair market value reflected an increase of $5,570 from the June 30, 2010 fair market value of $30,728.  The value of the stock had declined shortly before the end of the second quarter, after the Federal Housing Finance Agency ordered Fannie Mae to delist its common and preferred stock from th e New York Stock Exchange.  Due to the fact that there was improvement in the stock’s market value during the third quarter and the Company has the ability and intention to hold the investment for the foreseeable future, management did not record an other-than-temporary impairment for the quarter ended September 30, 2010.$42,360.

     At DecemberMarch 31, 2009,2011, there were seven U.S. GSE debt securities in an unrealized loss position compared to two U.S. Government sponsored enterpriseGSE debt securities and one U.S. Government debt security in the investment portfolio in an unrealized loss position.position at December 31, 2010 and March 31, 2010.  The seven U.S. GSE debt securities in an unrealized loss position at March 31, 2011 included the two GSE debt securities in an unrealized loss position at December 31, 2010, but those two debt securities were not the same two in an unrealized loss at March 31, 2010.  These unrealized losses were principally attributable to changes in prevailing interest rates for similar types of securities, and not deterioration in the creditworthiness of the issuer.

     Management evaluates securities for other-than-temporary impairment at least on a quarterly basis, and more frequently when economic or market conditions, or adverse developments relating to the issuer, warrant such evaluation. Consideration is given to (1) the length of time and the extent to which the fair value has been less than the carrying value, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Company to retain its investment for a period of time sufficient to allow for any anticipated recovery in fair value.  In analyzing an issuer's financial condition, management considers whether the securities are issued by the federal government or its agencies, whether downgrades by rating agencies or other adverse developments in the status of the securities have occurred, and the results of reviews of the issuer's financial condition.

 
 

 
Note 6.  Loans, Allowance for Loan Losses and Credit Quality

The composition of net loans follows:

  March 31,  December 31, 
  2011  2010 
       
Commercial $32,212,288  $31,045,424 
Commercial real estate  134,172,888   133,494,431 
Residential real estate  209,107,512   213,834,818 
Consumer  12,515,066   13,058,124 
   388,007,754   391,432,797 
Deduct:        
Allowance for loan losses  3,709,918   3,727,935 
Unearned net loan fees  50,871   74,351 
Loans held for sale  1,054,416   2,363,938 
   4,815,205   6,166,224 
Net Loans $383,192,549  $385,266,573 

The following is an age analysis of past due loans by class:

     90 Days  Total        Over 90 Days 
March 31, 2011 30-89 Days  or More  Past Due  Current  Total Loans  and Accruing 
                   
Commercial $921,982  $7,177  $929,159  $31,283,129  $32,212,288  $7,177 
Commercial real estate  599,903   446,842   1,046,745   133,126,143   134,172,888   231,237 
Residential real estate  6,246,153   1,151,442   7,397,595   200,655,501   208,053,096   292,060 
Consumer  133,522   38,201   171,723   12,343,343   12,515,066   38,201 
Total $7,901,560  $1,643,662  $9,545,222  $377,408,116  $386,953,338  $568,675 
                         
      90 Days  Total          Over 90 Days 
December 31, 2010 30-89 Days  or More  Past Due  Current  Total Loans  and Accruing 
                         
Commercial $915,924  $54,376  $970,300  $30,075,124  $31,045,424  $29,446 
Commercial real estate  939,910   130,512   1,070,422   132,424,009   133,494,431   94,982 
Residential real estate  6,117,292   2,108,870   8,226,162   203,244,718   211,470,880   1,194,477 
Consumer  242,742   38,466   281,208   12,776,916   13,058,124   38,466 
Total $8,215,868  $2,332,224  $10,548,092  $378,520,767  $389,068,859  $1,357,371 

     The allowance for loan losses is established through a provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance.

     The allowance consists of specific, general and unallocated components. The specific component relates to the loans that are deemed impaired.  A specific allowance is established when the loan’s impaired basis is less than the carrying value of that loan.  The general component covers non-impaired loan pools and is based on historical loss experience adjusted for qualitative factors. An unallocated component is maintained to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio.  The entire allowance is available to absorb losses in the loan portfolio, regardless of specific, general and unallocated components considered in determining the amount of the allowance.

General component

     The general component of the allowance for loan losses is based on historical loss experience, adjusted for qualitative factors and stratified by the following loan segments: commercial, commercial real estate, residential real estate, and consumer loans. Management uses an average of historical losses based on a time frame appropriate to capture relevant loss data for each loan segment. This historical loss factor is adjusted for the following qualitative factors: levels of and trends in delinquencies and non-performing loans, levels of and trends in loan risk groups, trends in volumes and terms of loans, effects of any changes in loan related policies, experience, ability and the depth of management, documentation and credit data exception levels, national and local economic trends, external factors such as competition and regulation and lastly concentrations of credit risk in a variety of areas, including portfolio product mix, the level of loans to individual borrowers and their related interests, loans to industry segments, and the geographic distribution of commercial real estate loans. This evaluation is inherently subjective as it requires estimates that are susceptible to revision as more information becomes available. There were no changes in the Company’s policies or methodology pertaining to the general component for loan losses during the first quarter of 2011.

     The qualitative factors are determined based on the various risk characteristics of each loan segment. The Company has policies, procedures and internal controls commensurate with the risk profile of each of these segments. Risk characteristics relevant to each portfolio segment are as follows:

Commercial – Loans in this segment include commercial and industrial loans and to a lesser extent loans to finance agricultural production. Commercial loans are made to businesses and are generally secured by assets of the business, including trade assets and equipment. While not the primary collateral, in many cases these loans may also be secured by the real estate of the business. Repayment is expected from the cash flows of the business. A weakened economy, soft consumer spending, unfavorable foreign trade conditions and the rising cost of labor or raw materials are examples of issues that can impact the credit quality in this segment.

Commercial Real Estate – Loans in this segment are principally made to businesses and are generally secured by either owner-occupied, or non-owner occupied commercial real estate. A relatively small portion of this segment includes farm loans secured by farm land and buildings.  As with commercial loans, repayment of owner-occupied commercial real estate loans is expected from the cash flows of the business and the segment would be impacted by similar issues. The non-owner occupied commercial real estate portion includes both residential and commercial construction loans, vacant land and real estate development loans and multi-family dwelling and commercial rental property loans. Repayment of construction loans is expected from permanent financing takeout; the Company generally requires a commitment or eligibility for the take-out financing prior to construction loan origination. Real estate development loans are generally repaid from the sale of the subject real property as the project progresses. Construction and development lending run additional risks, including the project exceeding budget, not being constructed according to plans, not receiving permits, or the pre-leasing or occupancy rate not meeting expectations. Repayment of multi-family loans and commercial rental property loans is expected from the cash flow generated by rental payments received from the individuals or businesses occupying the real estate. Commercial real estate loans are impacted by issues such as competitive market forces, vacancy rates, cap rates, net operating incomes, lease renewals and overall economic demand. In addition, loans in the recreational and tourism sector can be affected by weather conditions, such as unseasonably low winter snowfalls. Commercial real estate lending also carries a higher degree of environmental risk than other real estate lending.

Residential Real Estate – All loans in this segment are collateralized by owner-occupied residential real estate and repayment is dependent on the credit quality of the individual borrower. The overall health of the economy, including unemployment rates and housing prices, has an impact on the credit quality of this segment.

Consumer Loans – Loans in this segment are made to individuals for consumer and household purposes.  This segment includes both loans secured by automobiles and other consumer goods, as well as loans that are unsecured.  This segment also includes overdrafts, which are extensions of credit made to both individuals and business to cover temporary shortages in their deposit accounts and are generally unsecured.  The Company maintains policies restricting the size and length of these extensions of credit.  The overall health of the economy, including unemployment rates, has an impact on the credit quality of this segment.

Specific component

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

     Impaired loans may also include troubled loans that are restructured. A troubled debt restructuring occurs when the Company, for economic or legal reasons related to the borrower’s financial difficulties, grants a concession to the borrower that would otherwise not be granted. Troubled debt restructurings may include the transfer of assets to the Company in partial satisfaction of a troubled loan, a modification of a loan’s terms, or a combination of the two.

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

Unallocated component

     An unallocated component is maintained to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio.

The changes in the allowance for loans losses for the period ended March 31 are summarized as follows:

  2011  2010 
       
Balance at beginning of year $3,727,935  $3,450,542 
Provision for loan losses  187,500   125,001 
Recoveries of amounts charged off  21,573   14,734 
   3,937,008   3,590,277 
Amounts charged off  (227,090)  (44,470)
Balance at end of period $3,709,918  $3,545,807 


The allowance for loan losses and select loan information by portfolio segment was as follows:

     Commercial  Residential          
March 31, 2011 Commercial  Real Estate  Real Estate  Consumer  Unallocated  Total 
  
Allowance for loan losses 
   Beginning balance $302,421  $1,391,898  $1,830,816  $151,948  $50,852  $3,727,935 
      Charge-offs  (700)  0   (188,800)  (37,590)  0   (227,090)
      Recoveries  8,106   1,090   0   12,377   0   21,573 
      Provision  (53,379)  3,958   114,103   25,130   97,688   187,500 
   Ending balance $256,448  $1,396,946  $1,756,119  $151,865  $148,540  $3,709,918 
                         
 Individually evaluated for impairment $14,500  $51,200  $254,100  $0  $0  $319,800 
 Collectively evaluated  for impairment  241,948   1,345,746   1,502,019   151,865   148,540   3,390,118 
Total $256,448  $1,396,946  $1,756,119  $151,865  $148,540  $3,709,918 
  
Loans 
 Individually evaluated for impairment $92,215  $1,325,271  $3,072,612  $0      $4,490,098 
Collectively evaluated for impairment  32,120,073   132,847,617   206,034,900   12,515,066      $383,517,656 
Total $32,212,288  $134,172,888  $209,107,512  $12,515,066      $388,007,754 

     Commercial  Residential          
December 31, 2010 Commercial  Real Estate  Real Estate  Consumer  Unallocated  Total 
  
Allowance for loan losses 
 Individually evaluated for impairment $3,700  $51,200  $337,800  $0  $0  $392,700 
 Collectively evaluated  for impairment  298,721   1,340,698   1,493,016   151,948   50,852   3,335,235 
Total $302,421  $1,391,898  $1,830,816  $151,948  $50,852  $3,727,935 
  
Loans 
 Individually evaluated for impairment $61,226  $1,145,194  $3,219,911  $0      $4,426,331 
Collectively evaluated for impairment  30,984,199   132,349,237   210,614,907   13,058,124       387,006,466 
Total $31,045,425  $133,494,431  $213,834,818  $13,058,124      $391,432,797 

As of March 31, 2011 and December 31, 2010, the Company had no acquired loans with deteriorated credit quality.

Impaired loans by portfolio segment were as follows:

     Unpaid     Average  Interest 
March 31, 2011 Recorded  Principal  Related  Recorded  Income 
  Investment  Balance  Allowance  Investment  Recognized 
                
With no related allowance recorded               
   Commercial $2,427  $2,531     $13,679  $0 
   Commercial real estate  180,077   180,077      90,038   0 
   Residential real estate  1,966,456   2,634,063      1,552,373   0 
                    
With an allowance recorded                   
   Commercial  89,788   95,034   14,500   63,042   0 
   Commercial real estate  1,145,194   1,145,672   51,200   1,145,195   0 
   Residential real estate  1,106,156   1,264,496   254,100   1,593,889   0 
                     
Total                    
   Commercial $92,215  $97,565  $14,500  $76,721  $0 
   Commercial real estate $1,325,271  $1,325,749  $51,200  $1,235,233  $0 
   Residential real estate $3,072,612  $3,898,559  $254,100  $3,146,262  $0 
                     
Total $4,490,098  $5,321,873  $319,800  $4,458,216  $0 


     Unpaid     Average  Interest 
December 31, 2010 Recorded  Principal  Related  Recorded  Income 
  Investment  Balance  Allowance  Investment  Recognized 
                
With no related allowance recorded               
   Commercial $24,930  $61,460  $0  $106,737  $0 
   Commercial real estate  0   0   0   494,150   0 
   Residential real estate  1,138,290   1,527,508   0   1,186,068   0 
                     
With an allowance recorded                    
   Commercial  36,296   39,856   3,700   37,300   0 
   Commercial real estate  1,145,194   1,145,672   51,200   1,158,924   0 
   Residential real estate  2,081,621   2,303,744   337,800   1,661,441   0 
                     
Total                    
   Commercial $61,226  $101,316  $3,700  $144,037  $0 
   Commercial real estate $1,145,194  $1,145,672  $51,200  $1,653,074  $0 
   Residential real estate $3,219,911  $3,831,252  $337,800  $2,847,509  $0 
                     
Total $4,426,331  $5,078,240  $392,700  $4,644,620  $0 

Interest income recognized on impaired loans is immaterial for both periods presented.

Credit Quality Grouping
     Credit quality grouping allows for the evaluation of trends in credit quality that are used in developing the allowance for loan losses. The Company groups credit risk into Groups A, B and C. The manner the Company utilizes to assign risk grouping is driven by loan purpose. Commercial purpose loans are individually risk graded while the retail portion of the portfolio is generally grouped by delinquency pool.
Group A loans - Acceptable Risk – are loans that are expected to perform as agreed under their respective terms.  Such loans carry a normal level of risk that does not require management attention beyond that warranted by the loan or loan relationship characteristics, such as loan size or relationship size. Group A loans include commercial loans that are individually risk rated and retail loans that are rated by pool. Group A retail loans include both performing consumer and residential real estate loans. Residential real estate loans are loans to individuals secured by 1-4 family homes, including first mortgages, home equity and home improvement loans. Loan balances fully secured by deposit accounts or that are fully guaranteed by the Federal Government are considered acceptable risk.
Group B loans – Management Involved - are loans that require greater attention than the acceptable loans in Group A. Characteristics of such loans may include, but are not limited to, borrowers that are experiencing negative operating trends such as reduced sales or margins, borrowers that have exposure to adverse market conditions such as increased competition or regulatory burden, or that have had unexpected or adverse changes in management. These loans have a greater likelihood of migrating to an unacceptable risk level if these characteristics are left unchecked. Group B is limited to commercial loans that are individually risk rated.
Group C loans – Unacceptable Risk – are loans that have distinct shortcomings that require a greater degree of management attention.  Examples of these shortcomings include a borrower's inadequate capacity to service debt, poor operating performance, or insolvency.  These loans are more likely to result in repayment through collateral liquidation. Group C loans range from those that are likely to sustain some loss if the shortcomings are not corrected, to those for which loss is imminent and non-accrual treatment is warranted. Group C loans include individually rated commercial purpose loans, and retail loans adversely rated in accordance with the Federal Financial Institutions Examination Council’s Uniform Retail Credit Classification Policy. Group C retail loans include 1-4 family residential real estate loans and home equity loans past due 90 days or more with loan-to-value ratios greater than 60%, home equity loans 90 days or more past due where bank does not hold first mortgage, irrespective of loan-to-value, loans in bankruptcy where repayment is likely but not yet established, and lastly consumer loans that are 90 days or more past due.
     Commercial purpose loan ratings are assigned by the commercial account officer; for larger and more complex commercial loans, the credit rating is a collaborative assignment by the lender and the credit analyst. The credit risk rating is based on the borrower's expected performance, i.e., the likelihood that the borrower will be able to service its obligations in accordance with the loan terms. Credit risk ratings are meant to measure risk versus simply record history.  Assessment of expected future payment performance requires consideration of numerous factors.  While past performance is part of the overall evaluation, expected performance is based on an analysis of the borrower's financial strength, and historical and projected factors such as size and financing alternatives, capacity and cash flow, balance sheet and income statement trends, the quality and timeliness of financial reporting, and the quality of the borrower’s management.  Other factors influencing the credit risk rating to a lesser degree include collateral coverage and control, guarantor strength and commitment, documentation, structure and covenants and industry conditions.  There are uncertainties inherent in this process.
     Credit risk ratings are dynamic and require updating whenever relevant information is received.  The risk ratings of larger or more complex loans, and Group B and C rated loans, are assessed at the time of their respective annual reviews, during quarterly updates, in action plans or at any other time that relevant information warrants update. Lenders are required to make immediate disclosure to the Chief Credit Officer of any increase in loan risk, even if considered temporary in nature.

The risk ratings within the loan portfolio by class were as follows:

Retail Loans 
          
     Residential    
March 31, 2011 Consumer  Real Estate  Total 
          
Group A $12,456,909  $195,142,982  $207,599,891 
Group C  58,157   3,024,408   3,082,565 
Total $12,515,066  $198,167,390  $210,682,456 

Retail Loans 
          
     Residential    
December 31, 2010 Consumer  Real Estate  Total 
          
Group A $12,997,587  $200,884,188  $213,881,775 
Group C  60,537   3,426,455   3,486,992 
Total $13,058,124  $204,310,643  $217,368,767 

Commercial Purpose Loans 
             
  Residential     Commercial    
March 31, 2011 Real Estate  Commercial  Real Estate  Total 
             
Group A $14,831,026  $29,165,570  $112,424,825  $156,421,421 
Group B  276,372   914,995   6,464,176   7,655,543 
Group C  2,235,214   2,131,723   8,881,397   13,248,334 
Total $17,342,612  $32,212,288  $127,770,398  $177,325,298 

Commercial Purpose Loans 
             
  Residential     Commercial    
December 31, 2010 Real Estate  Commercial  Real Estate  Total 
             
Group A $13,453,586  $28,148,611  $110,982,274  $152,584,471 
Group B  883,271   1,617,895   9,455,795   11,956,960 
Group C  2,297,324   1,278,919   5,946,355   9,522,598 
Total $16,634,182  $31,045,425  $126,384,424  $174,064,030 


Note 6.7.  Goodwill and Other Intangible Assets

     As a result of the merger with LyndonBank on December 31, 2007, the Company recorded goodwill amounting to $11.6 million.$11,574,269.  The goodwill is not amortizable and is not deductible for tax purposes.

     The Company also recorded $4.2 million$4,161,000 of acquired identified intangible assets representing the core deposit intangible which is subject to amortization as a non-interest expense over a ten year period using a double declining method and is deductible for tax purposes.method.

     Amortization expense for the core deposit intangible for the first ninethree months of 20102011 was $399,456.$106,522.  As of September 30, 2010,March 31, 2011, the remaining annual amortization expense related to core deposit intangible, absent any future impairment, is expected to be as follows:

2010 $133,152 
2011  426,086  $319,564 
2012  340,869   340,869 
2013  272,695   272,695 
2014  272,695   272,695 
2015  272,695 
Thereafter  818,087   545,392 
Total $2,263,584  $2,032,910 

     Management evaluates goodwill for impairment annually and the core deposit intangible for impairment if conditions warrant.  As of the date of the most recent such evaluationsevaluation (December 31, 2009)2010), management concluded that no impairment existed.

Note 7.  Income Taxes

     The Company receives tax credits for its investments in various low income housing partnerships which reduce taxes payable.  Periodically the Company has the opportunity to participate in a low income housing project that offers one-time historic tax credits.  In 2008, the Company was given this opportunity through a local project, with historic tax credit for 2009 amounting to $535,000, or $133,750 quarterly.  This one-time historic tax credit is reflected in the negative variance between the tax expense for both of the 2010 interim periods presented and the tax benefit for the same periods presented for 2009.

Note 8.  Fair Value

     FASB ASC Topic 820-10-20, Fair Value Measurements and Disclosures, provides a framework for measuring and disclosing fair value under U.S. Generally Accepted Accounting Principles (GAAP).  The ASC Topic 820-10-20 requires disclosures about the fair value of assets and liabilities recognized in the balance sheet in periods subsequent to initial recognition, whether the measurements are made on a recurring basis (for example, available-for-sale investment securities) or on a nonrecurring basis (for example, impaired loans).

     Fair value is the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date.  The ASC Topic 820-10-20 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.  The standard describes three levels of inputs that may be used to measure fair value:

Level 1Quoted prices in active markets for identical assets or liabilities.  Level 1 assets and liabilities include debt and equity securities and derivative contracts that are traded in an active exchange market, as well as U.S. Treasury, other U.S. Government and agency mortgage-backed debt securities that are highly liquid and are actively traded in over-the-counter markets.

Level 2Observable inputs other than Level 1 prices such as quoted prices for similar assets and liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.  Level 2 assets and liabilities include debt securities with quoted prices that are traded less frequently than exchange-traded instruments and derivative contracts whose value is determined using a pricing model with inputs that are observable in the market or can be derived principally from or corroborated by observable market data.  This category generally includes certain derivative contracts, residential mortgage servicing rights, impaired loans, and OREO which uses the market approach.OREO.

Level 3Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.  Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation.  For example, this category generally includes certain private equity investments, retained residual interest in securitizations, and highly-structured or long-term derivative contracts.

     A financial instrument’s categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement.  Assets measured at fair value on a recurring basis and reflected in the balance sheet at the dates presented are summarized below:

September 30, 2010 Level 1  Level 2  Total 
March 31, 2011 Level 1  Level 2  Total 
Assets:                  
U.S. GSE debt securities $0  $17,397,920  $17,397,920  $0  $23,263,005  $23,263,005 
U.S. Government securities  3,034,600   2,045,200   5,079,800   4,030,003   1,025,641   5,055,644 
U.S. GSE preferred stock  36,298   0   36,298   142,039   0   142,039 
Total $3,070,898  $19,443,120  $22,514,018 
                        
December 31, 2009            
December 31, 2010            
Assets:                        
U.S. GSE debt securities $0  $18,806,650  $18,806,650  $0  $16,313,390  $16,313,390 
U.S. Government securities  1,003,233   4,093,459   5,096,692   4,038,740   1,035,946   5,074,686 
U.S. GSE preferred stock  71,488   0   71,488   42,360   0   42,360 
Total $1,074,721  $22,900,109  $23,974,830 
                        
September 30, 2009            
March 31, 2010            
Assets:                        
U.S. GSE debt securities $0  $18,881,629  $18,881,629  $0  $17,717,687  $17,717,687 
U.S. Government securities  4,122,592   0   4,122,592   2,006,935   3,075,026   5,081,961 
U.S. GSE preferred stock  126,435   0   126,435   72,472   0   72,472 
Total $4,249,027  $18,881,629  $23,130,656 



Assets measured at fair value on a nonrecurring basis and reflected in the balance sheet at the dates presented comprised only of Level 2 and are summarized below:

September 30, 2010 Level 2 
   
March 31, 2011 Level 2 
Assets:   
Residential mortgage servicing rights $962,640  $1,362,331 
Impaired loans, net of related allowance  2,817,020   2,021,338 
OREO  1,070,500   764,500 
Total $4,850,160 
        
December 31, 2009    
    
December 31, 2010    
Assets:    
Residential mortgage servicing rights $1,011,360  $1,076,708 
Impaired loans, net of related allowance  2,186,171   2,870,411 
OREO  743,000   1,210,300 
Total $3,940,531 
    
September 30, 2009    
    
Residential mortgage servicing rights $968,864 
Impaired loans, net of related allowance  4,205,389 
OREO  585,000 
Total $5,759,253 
March 31, 2010 Level 2 
Assets:   
Residential mortgage servicing rights $1,029,799 
Impaired loans, net of related allowance  2,341,106 
OREO  718,000 

     The fair value of loans held-for-sale is based upon an actual purchase and sale agreement between the Company and an independent market participant.  The sale is executed within a reasonable period following quarter end at the stated fair value.

Real estate properties acquired through or in lieu of loan foreclosure are carried as OREO and are initially recorded at fair value less estimated selling cost at the date of foreclosure.  Any write-downs based on the asset's fair value at the date of acquisition are charged to the allowance for loan losses.  After foreclosure, these assets are carried at the lower of their new cost basis or fair value, less estimated cost to sell.  Costs of significant property improvements are capitalized, whereas costs relating to holding property are expensed.  Appraisals are then done periodically on properties that management deems significant, or evaluations may be performed by management on properties in the portfolio that are less vulnerable to market conditions.  Subsequent write-downs are rec ordedrecorded as a charge to operations, if necessary, to reduce the carrying value of a property to the lower of its cost or fair value, less estimated cost to sell.

There were no transfers between Levels 1 and 2 during the ninethree months ended September 30,March 31, 2011.  There were no Level 3 financial instruments at March 31, 2011, December 31, 2010, or March 31, 2010.


Fair values of financial instruments

The following methods and assumptions were used by the Company in estimating its fair value disclosures for financial instruments:

Cash and cash equivalents:  The carrying amounts reported in the balance sheet for cash and cash equivalents approximate their fair values.

Investment securities:  The fair value of securities available for sale equals quoted market prices, if available.  If quoted market prices are not available, fair value is determined using quoted market prices for similar securities.  Level 1 securities include certain U.S. Government Bondssecurities and U.S. GSE preferred stock.  Level 2 securities include asset-backed securities, including obligations of government sponsored entities,U.S. GSEs and certain U.S Government securities, mortgage-backed securities, municipal bonds and certain equity securities.

Restricted equity securities:  Restricted equity securities are comprised of Federal Reserve Bank of Boston (FRBB) stock and Federal Home Loan Bank of Boston (FHLBB) stock.  These securities are carried at cost, which is believed to approximate fair value, based on the redemption provisions of the FRBB and the FHLBB.  The stock is nonmarketable, and redeemable at par value.

Loans and loans held-for-sale:  For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying amounts.  The fair values for other loans (for example, fixed rate residential, commercial real estate, and rental property mortgage loans, and commercial and industrial loans) are estimated using discounted cash flow analyses, based on interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. Loan fair value estimates include judgments regarding future expected loss experience and risk characteristics.  The carrying amounts reported in the balance sheet for loans that are held-for-sale approximate their fair values.  Loans that areLoan impairment is deemed to be impaired are valued atexist when full repayment of principal and interest according to the lowercontractual terms of the loan’s carrying value or the loan’s impaired basis.  The impaired basisloan is measured using the impairment method that the Company has applied, be itno longer probable.  Impaired loans are reported based on one of three measures: the present value of expected future cash flows discounted at the loan’s effective interest rate; the loan’s observable market price,price; or the fair value of collateral. The Company selects the collateral if the loan is collateral dependent.  If the fair value is less than an impaired loan’s recorded investment, an impairment loss is recognized as part of the ALL.  Accordingly, certain impaired loans may be subject to measurement methodat fair value on a loan-by-loan basis, except that when a foreclosurenon-recurring basis.  Management has estimated the fair values of a collateral dependent loan is probable thenthese assets using Level 2 inputs, such as the fair value of collateral method is used. The fair value of real estate collateral is usually determined using independent appraisals and evaluations.   The Company considers impaired loans to be valued based on Level 2 inputs.independent third-party appraisals for collateral-dependent loans.

The fair value of loans held-for-sale is based upon an actual purchase and sale agreement between the Company and an independent market participant.  The sale is executed within a reasonable period following quarter end at the stated fair value.

Mortgage servicing rights:  Mortgage servicing rights are evaluated regularly for impairment based upon the fair   value of the servicing rights as compared to their amortized cost. The fair value of mortgage servicing rights is based on a valuation model that calculates the present value of estimated net servicing income, with loans divided into strata for valuation purposes based on their rates, terms and features. The Company obtains a third party valuation based upon loan level data, including note rate, type and term of the underlying loans. The model utilizes a variety of observable inputs for its assumptions, the most significant of which are loan prepayment assumptions and the discount rate used to discount future cash flows.  Mortgage s ervicingservicing rights are subject to measurement at fair value on a nonrecurring basis and are classified as Level 2 assets.

Deposits, federal funds purchased and borrowed funds:  The fair values disclosed for demand deposits (for example, checking and savings accounts) are, by definition, equal to the amount payable on demand at the reporting date (that is, their carrying amounts). The fair values for certificates of deposit and debt are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates and debt to a schedule of aggregated contractual maturities on such time deposits and debt.

Junior subordinated debentures:  Fair value is estimated using current rates for debentures of similar maturity.

Capital lease obligations:  Fair value is determined using a discounted cash flow calculation using current rates.  Based on current rates, carrying value approximates fair value.

Accrued interest:  The carrying amounts of accrued interest approximate their fair values.

Off-balance-sheet credit related instruments:  Commitments to extend credit were evaluated and fair value was estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present credit-worthiness of the counterparties.  For fixed-rate loan commitments, fair value also considers the difference between current levels of interest rates and the committed rates.


The estimated fair values of the Company's financial instruments were as follows:

 September 30, 2010  December 31, 2009  September 30, 2009  March 31, 2011  December 31, 2010  March 31, 2010 
 Carrying  Fair  Carrying  Fair  Carrying  Fair  Carrying  Fair  Carrying  Fair  Carrying  Fair 
 Amount  Value  Amount  Value  Amount  Value  Amount  Value  Amount  Value  Amount  Value 
 (in thousands)  (Dollars in Thousands) 
Financial assets:                                    
Cash and cash equivalents $17,001  $17,001  $9,603  $9,603  $8,513  $8,513  $34,121  $34,121  $51,448  $51,448  $9,281  $9,281 
Securities held-to-maturity  53,146   53,734   44,766   45,543   49,770   51,076   37,949   38,442   37,441   38,157   47,158   47,593 
Securities available-for-sale  22,514   22,514   23,975   23,975   23,131   23,131   28,461   28,461   21,430   21,430   22,872   22,872 
Restricted equity securities  3,907   3,907   3,907   3,907   3,907   3,907   4,309   4,309   4,309   4,309   3,907   3,907 
Loans and loans held-for-sale, net  386,228   400,373   378,656   388,199   368,877   380,012   384,247   393,310   387,631   397,123   380,464   390,874 
Mortgage servicing rights  946   963   933   1,011   969   969   1,253   1,362   1,077   1,056   991   1,030 
Accrued interest receivable  1,927   1,927   1,895   1,895   1,876   1,876   1,966   1,966   1,790   1,790   2,118   2,118 
                                                
Financial liabilities:                                                
Deposits  419,684   422,897   418,786   420,933   402,545   405,148   437,557   439,994   438,192   440,913   399,986   402,241 
Federal funds purchased and other                                                
borrowed funds  33,010   33,481   13,411   13,549   23,467   23,623   18,010   18,240   33,010   33,250   36,022   35,991 
Repurchase agreements  19,447   19,447   19,042   19,042   17,110   17,110   21,480   21,480   19,108   19,108   17,815   17,815 
Capital lease obligations  846   846   877   877   886   886   824   824   835   835   866   866 
Subordinated debentures  12,887   12,324   12,887   11,370   12,887   10,332   12,887   13,366   12,887   13,155   12,887   12,541 
Accrued interest payable  202   202   234   234   277   277   175   175   192   192   209   209 

The estimated fair values of commitments to extend credit and letters of credit were immaterial as of the dates presented in the above table.


Note 9.  Mortgage Servicing Rights

     The following table shows the changes in the carrying amount of the mortgage servicing rights for the periods indicated:

 September 30,  December 31,  September 30,  March 31,  December 31,  March 31, 
 2010  2009  2009  2011  2010  2010 
                  
Balance at beginning of year $932,961  $960,110  $960,110 
Balance at beginning of period $1,076,708  $932,961  $932,961 
Mortgage servicing rights capitalized  203,417   584,004   514,181   107,216   403,026   48,222 
Mortgage servicing rights amortized  (295,124)  (363,755)  (258,029)  (82,273)  (392,233)  (94,668)
Increase (decrease) in market value  104,812   (247,398)  (247,398)
Change in valuation allowance  151,662   132,954   104,179 
Balance at end of period $946,066  $932,961  $968,864  $1,253,313  $1,076,708  $990,694 

Note 10.  Legal Proceedings

     In the normal course of business the Company and its subsidiary are involved in litigation that is considered incidental to their business.  Management does not expect that any such litigation will be material to the Company's consolidated financial condition or results of operations.

Note 11.  Subsequent Event

     The Company has evaluated events and transactions subsequent to September 30, 2010March 31, 2011 for potential recognition or disclosure in these financial statements, as required by GAAP.  On September 14, 2010,March 22, 2011, the Company declared a cash dividend of $0.12$0.14 per share payable NovemberMay 1, 20102011 to shareholders of record as of OctoberApril 15, 2010.2011.  This dividend, amounting to $550,307,$647,865, was accrued at September 30, 2010.March 31, 2011.

 

 
ITEM 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
for the Period Ended September 30,March 31, 2011

    The following discussion analyzes the consolidated financial condition of Community Bancorp. (the “Company”) and its wholly-owned subsidiary, Community National Bank, as of March 31, 2011, December 31, 2010 and March 31, 2009, and its consolidated results of operations for the periods then ended.  The Company is considered a “smaller reporting company” under applicable regulations of the Securities and Exchange Commission (SEC) and is therefore eligible for relief from certain disclosure requirements.  In accordance with such provisions, the Company has elected to provide its audited consolidated statements of income, cash flows and changes in shareholders’ equity for two, rather than three, years.

     The following discussion should be read in conjunction with the Company’s audited consolidated financial statements and related notes.

FORWARD-LOOKING STATEMENTS

     The Company's Management's Discussion and Analysis of Financial Condition and Results of Operations contains certain forward-looking statements about the results of operations, financial condition and business of the Company and its subsidiary that may be considered forward-looking statements under the Private Securities Litigation Reform Act of 1995.subsidiary. When used therein, the words such as "believes," "expects," "anticipates," "intends," "estimates," “assumes,” "plans," "predicts," “should,” “could,” “may,” or similar expressions, which predict or indicate future events, trends or expectations, indicate that management of the Company is making forward-looking statements.

     Forward-looking statements are not guarantees of future performance.  They necessarily involve risks, uncertainties and assumptions.  Future results of the Company may differ materially from those expressed in these forward-looking statements.  Examples of forward-lookingforward looking statements included in this discussion include, but are not limited to, estimated contingent liability related to assumptions made within the asset/liability management process, management's expectations as to the future interest rate environment and the Company's related liquidity level, credit risk expectations relating to the Company's loan portfolio and its participation in the Federal Home Loan Bank of Boston (FHLBB) Mortgage Partnership Finance (MPF) program, and management's general outlook for the loc al and national economy and the future performance of the Company.Company, summarized below under "Overview". Although forward-looking statements are based on management's current expectations and estimates, many of the factors that could influence or determine actual results are unpredictable and not within the Company's control.  Readers are cautioned not to place undue reliance on such statements as they speak only as of the date they are made.  The Company does not undertake, and disclaims any obligation, to revise or update any forward-looking statements to reflect the occurrence or anticipated occurrence of events or circumstances after the date of this report,Report, except as required by applicable law.  The Company claims the protection of the safe harbor for forward-looking statements provided in the Private Securities Litigation Reform Act of 1995.

     Factors that may cause actual results to differ materially from those contemplated by these forward-looking statements include, among others, the following possibilities: (1) general economic or monetary conditions, either nationally, regionally or regionally,locally continue to deteriorate, resulting in a decline in credit quality or a diminished demand for the Company's products and services; (2) competitive pressures increase among financial service providers in the Company's northern New England market area or in the financial service industry generally, including competitive pressures from non-bank financial service providers, from increasing consolidation and integration of financial service providers, and from changes in technology and delivery systems; (3) interest rates change in such a way as to reduce the Company' sCompany's margins;  (4) enactment of new laws and adoption of new government regulations, including numerous regulations of various federal government agencies, such as a new Consumer Financial Protection Bureau, to implement the Dodd-Frank Wall Street Reform and Consumer Protection Act (“the Dodd-Frank Act”); (5) changes in existing laws or regulations,government rules, or the way in which courts and government agencies interpret or implement those laws or regulations,rules, increase our costs of doing business or otherwise adversely affect the Company's business; (6)(5) changes in federal or state tax policy; (7)(6) changes in the level of nonperforming assets and charge-offs; (8)(7) changes in estimates of future reserve requirements based upon relevant regulatory and accounting requirements; (9)(8) changes in consumer and business spending, borrowing and savings habits; and (10)(9) the effect of and changes in the United States monetary and fiscal policies, including the interest rate policies and regulation of the money supply by the Feder alFederal Reserve Board, which, in turn, may result in inflation and interest rate, securities market and monetary fluctuations.fluctuations and in changes in the demand for our loan and deposit products.

NON-GAAP FINANCIAL MEASURES

     Under Securities and Exchange Commission (SEC)SEC Regulation G, public companies making disclosures containing financial measures that are not in accordance with generally accepted accounting principles in the United States (U.S. GAAP or GAAP) must also disclose, along with each non-GAAP financial measure, certain additional information, including a reconciliation of the non-GAAP financial measure to the closest comparable GAAP financial measure, as well as a statement of the company’s reasons for utilizing the non-GAAP financial measure.  The SEC has exempted from the definition of non-GAAP financial measures certain commonly used financial measures that are not based on GAAP.  However, two non-GAAP financial measures commonly used by financial institutions, namely tax-equivalent ne tnet interest income and tax-equivalent net interest margin, have not been specifically exempted by the SEC, and may therefore constitute non-GAAP financial measures under Regulation G.  We are unable to state with certainty whether the SEC would regard those measures as subject to Regulation G.

     Management believes that these non-GAAP financial measures are useful in evaluating the Company’s financial performance and facilitate comparisons with the performance of other financial institutions.  However, that information should be considered supplemental in nature and not as a substitute for related financial information prepared in accordance with GAAP.

OVERVIEW

     The Company’s totalconsolidated assets at September 30, 2010on March 31, 2011 were $526.9 million compared to $505.3 million at$532,838,138, a decrease of $13,094,511, or 2.4% from December 31, 20092010, and $496.0 million at September 30, 2010, an increase of 4.3% and 6.2%, respectively.$24,766,633, or 4.9% from March 31, 2010.  The growthmost significant change in assets in both comparison periods is primarily from an increasewas in loans.  Loans and loans held-for-sale totaled $390.0 million at September 30, 2010,cash with an increase of $7.8 million$24,835,805 from December 31, 2009.  Loans held-for-sale contributed $3.4 millionyear to the increase.  Total deposits on September 30, 2010year and a decrease of $419.7 million were only slightly higher than December 31, 2009; however, a shift occurred within$17,325,801 from year end.  Much of the different types of deposit accounts.  Time deposits decreased $20.8 million; reflected in this decrease in time deposits was $15.1 mil lion maturingcash, during the first quarter of 20102011 was attributable to the pay off of a Federal Home Loan Bank of Boston (FHLBB) advance that matured in one way funds purchasedJanuary in the Certificateamount of Deposit Account Registry Service (CDARS) program of Promontory Interfinancial Network (PIN) (described below$15,000,000.  The increase in cash when comparing the Liquidity and Capital Resources section), which were replaced with long-term borrowingstwo quarters was from the FHLBB.  Also contributing to the decreasean increase in time deposits, is the competitive interest rate environment for certificate of deposit specials, resultingparticularly in a decrease in certificates of deposit of $5.6 million.  In spite of a cyclical decrease in municipal demandNOW and money market deposits of $15.0 million, the Company grew core deposit accounts, $21.7 million, which includeswithout a new NOW accountsignificant increase in loans and investments.  Approximately $19,000,000 of the Company's trust companyincrease in NOW accounts came from an increase in an account with the Company’s affiliate, Community Financial ServiceServices Group (CFSG) which was opened at the end of $19.1 million.  Thethe first quarter in 2010.  While there was a slight increase in municipal deposits year over year, the Company is now offeringalso experienced an insured cash sweep account (ICS) through PIN.  The ICS is a money market account that is fully insured by the Federal Deposit Insurance Corporation (FDIC), provided through PIN’s reciprocal deposit sweep service.  The Company considers these increasesincrease in core deposits as significantof approximately $8,000,000 or 4.0% for the same period.  Although gross loans increased $3,874,537 or 1.0% when comparing the first quarter 2010 to the overall balance sheetfirst quarter 2011, there was a decrease of $3,425,043 or 0.9% from year end 2010 to March 31, 2011.  Demand for 1-4 family residential loans was strong in 2011, with most of these loans sold in the secondary market.  Some of the liquidity was used to increase the available-for-sale securities portfolio.  The decrease in the securities held-to-maturity portfolio from March 31, 2010 to March 31, 2011, which is the municipal portfolio, is a result of the competitive nature of this business; the decrease was attributed primarily to two relationships each equal to approximately $5,000,000.

    Total liabilities increased $36,135,602, or 7.7%, from March 31, 2010 to December 31, 2010, but then decreased $13,521,682 or 2.7% by March 31, 2011 due to the pay down of the matured FHLBB advance.  Positive earnings, net of dividends declared, have resulted in increases in retained earnings and shareholders’ equity of $39,554,840 as a stable source of fundingMarch 31, 2011 compared to support asset growth.  Nevertheless, management recognizes that the low interest rates being paid$39,127,669 on certificatesDecember 31, 2010 and $37,402,127 on March 31, 2010, increases of deposits1.1% and other investment products have caused some depositors to place their money in non-maturing products such as money market and savings accounts.5.8% respectively.

     Net income for the thirdfirst quarter of 20102011 was $787,805$944,868 or $0.19 per common share compared to $1.0 million$938,912 or $0.20 per common share for the thirdfirst quarter of 2009, resulting2010.  Although earnings increased over the 2010 comparison period, an increase in the weighted average number of common shares of 77,126 resulted in a decrease of $0.01 in earnings per common share of $0.16 and $0.21 for the respective quarters.share.  Net interest income increased by $243,009 but was offset by a combination of an increase of $258,333lower in the provision for loan losses, a decrease in non-interest incomefirst quarter of $150,975 and a decrease in non-interest expenses and2011 compared to the provision for income taxesfirst quarter of $31,205 and $90,323, respectively, resulting in a decrease in net income of $225,317.  Interest rates have remained low with2010 due to the prime rate unchanged since January of 2009 and mortgage rates hitting record lows at quarter end.  The prolonged low interest rate environment makes it challenging to grow net interest income from the growth of the balance sheet.  Commercial and consumer loans that are tied to the prime rate continueenvironment.  The asset base continues to be replaced andor repriced at lower rates reducingwhile the opportunity to decrease interest rates on deposits is limited.  Non-interest income by $34,654 forwas also greater during the first quarter of 2011 than the first quarter 2010, due to fee income from the sale of residential loans, in the secondary market.  One of the more significant items that contributed to the positive variance was the valuation adjustment to mortgage servicing rights.  The increase in residential mortgage rates at the end of the quarter, ended September 30, 2010 compared totogether with normal net growth in the same quarter last year.  Although the reduced rates on deposit accountsservicing portfolio, partially offset by amortization of servicing rights resulted in a decreasenet increase of $151,662 in interest expenseservicing rights as of $277,663,March 31, 2011 versus a net increase of $104,179 as of March 31, 2010.  Income generated from the longer rates remain low, the less opportunity there will be to reduce funding cost in the future.

     The low mortgage interest rates fueled another round of refinancing activity in 2010.  The activity for the first nine months of 2010 has not been as robust as in 2009, with $26.9 million in mortgages soldservicing rights during the first nine monthsquarter of 2010,2011 was $24,944, compared to $59.6 million foran expense of $46,447 during the same period in 2009.  Sales for the thirdfirst quarter of 2010, were strong with $10.5 million, compared to $12.9 millioncreating a variance of $118,873 in the third quarter of 2009.  The Company reportedmortgage servicing rights impairment adjustments and net gains from the sales of these mortgages of $216,788 for the quarter compared to $207,953 for the third quarter of 2009.  This income is a component of non-interest income, which was $1.2 million for the quarter ended September 30, 2010 compared to $1.4 million for the quarter ended September 30, 2009.  Other compone nts of non-interest income that varied in comparison to 2009 were related to the Supplemental Executive Retirement Program (SERP) and income from the conversion of Canadian funds.  A decline in the stock market at quarter end resulted in a fair market value negative adjustment to the SERP of $60,768 for the quarter ended September 30, 2010 compared to a gain of $70,923 for the quarter ended September 30, 2009.  Fluctuations in the value of the Canadian dollar versus the U.S. dollar resulted in income of $35,000 for the quarter ended September 30, 2010 compared to income of $73,000 for the quarter ended September 30, 2009.

     Non-interest expense for the quarter ended September 30, 2010 was $4.3 million compared to $4.4 million for the same period in 2009.  Salaries, benefits and occupancyrevenues between periods.  Operating expenses have been manageable, increasing less than 5% combined when comparing the two quarters.  Expenses related to collections of past due and non-accruing loans have increased from $112,129 in the third quarter of 2009 to $169,431 for the third quarter ended September 30, 2010, an increase of 51.1%.  Other expenses declined$60,693, or 1.4% when comparing the two quarters, by $145,949.  During the quarter ended September 30, 2010, the Company recorded a loss on limited partnerships of $123,897 versus $248,148 in 2009, a decrease of $124,251.  The difference was due to a significant investment made by the Co mpany in a local senior housing project in 2009level that increased the losses in those partnerships for the year.  The amortization of the core deposit intangible from the acquisition of LyndonBank decreases every year, decreasing $33,288 for the third quarter of 2010 compared to the same period last year.management considers manageable.

     AnOn March 22, 2011, the Company's Board of Directors declared a quarterly cash dividend of $0.14 per common share, payable on May 1, 2011 to shareholders of record on April 15, 2011.  This represented an increase of $0.02 per share in non-performing loans and charge off activity required a provision for loan losses for the third quarter of 2010 of $433,334 compared to $175,001 for the third quarterquarterly cash dividend paid in 2009.  Despite trending higher, the Company’s level of non-performing assets, net of government guarantees, remains well below the Company’s national peer group.  The effects of the recession and the stagnant recovery continue to have a negative impact on the local economy.  Sectors of the loan portfolio most affected by the recession are construction and dairy farming.  Construction activity continues to be slow for commercial and residential markets and milk prices have yet to stabilize at a level sufficient to allow struggling farmers to recover.  On the positi ve side, there has been some improvement in manufacturing with some of the local furniture manufacturers hiring additional workers and increasing work hours.recent prior quarters.

    While there are signsThe Company is focused on increasing the profitability of the balance sheet, improving expense efficiency, and prudently managing risk, particularly as it pertains to credit in order to remain a well-capitalized bank in this challenging economic growthenvironment.

     Global economic indicators point toward a recovering U.S. economy; consumer confidence has improved and some evidencehousehold spending is increasing at a moderate pace.  Economic and labor market information indicates that the labor market may be stabilizing,State of Vermont is recovering, however slowly and cautiously.  Employers in the economic picture remains uncertainmanufacturing, professional and housing markets remain soft, indicating thatbusiness services and tourism industries are reporting significant over-the-year increases in employment.  While these trends are encouraging, it will take time before enough jobs are added to recoup the recovery shows substantive signsnumber of expansion.  The Company expectsjobs that were lost during the Federal Reserve will maintain the low levels of the federal funds rateeconomic downturn.  Particularly hard hit are those who have been unemployed for an extended period of time.  In this uncertain economic environment, unforeseen losses could present a challengeThe seasonally adjusted unemployment rate in Vermont in March 2011 was 5.4% compared to 6.6% in March 2010.  Conditions are generally better than 2010, however of great concern is the rising price of fuel and the impact it will have to the Company’s future core earnings.

     Local economic conditions are similar to national conditions.  Whileconsumer and all sectors of the economy.  The manufacturing industry was hardest hit early in 2010 the commercial pipeline showed strong demand, due to the sluggish economy, manyrecession, however reports from two local manufacturers of the transactions did not materializewood products indicate that production has increased and demand for commercial real estate loans has been low.  During the third quarter 2010, residential mortgage loan activity increased somewhat and is expected to continue into the fourth quarter, based on a strong pipeline of mortgage applications at the end of the quarter, although the refinancing activity is not expected to reach the levels of 2009.  Jobless claims in the local manufacturing sector have subsided and some factoriesthey have increased work hours for production crews;crews.  In the farming sector, milk prices increased during 2010 and are projected to remain at these levels for at least the first half of 2011; however production costs are a challenge with the dairy industry continues to struggle.  A positive summerrising cost of fuel and feed.  The 2010 construction season was very slow for local t ourism was beneficial toboth commercial and residential contractors, leaving many with depleted financial resources and less prepared for the slow winter season and their 2011 startup.  Some commercial contractors have found work at the local economy.  Aski resort that is undergoing a major expansion. Tourism activity during the 2010 fall foliage season and the 2010-11 winter season was good with local hotels reporting stable bookings.  The local real estate markets improved somewhat during 2010, sparked by the low interest rate environment.  Local real estate agents report that sales have increased across all price points.  Another positive note for the northeastern Vermont market area is athe local multi-phase ski area expansion project, of a local ski area,referred to above, where construction of two hotels, a hockey arena, an indoor water park and a golf club houseclubhouse are expected to transform the ski resort to a year-round indoor and outdoor recreation destination resort.  This project is expected to inject $90 million of construction funding into the local economy over the next two years utilizing Federal EB5 program capital from foreign investors.

     While there are some signs of a recovery, the number of people unemployed and the limited new job opportunities suggest that the recovery will be slow and the economy in the Company’s markets will remain constrained for the time being.  The recent poor economic conditionsrecession may continue to have a negative impact on the consumer, particularly as it relates to credit performance, which tends to lag economic cycles.  TheAlthough the Company saw an increase in past dues and non-performing loans during the first nine months of 2010 compared to 2009 indicates thatwhile customers continue to strugglestruggled to make their mortgage payments not only due to layoffs, and reduced income but in some instances due toand high levels of other consumer debt, as well.the situation moderated slightly during the first quarter of 2011, with the ratio of past dues and nonperforming loans to gross loans decreasing from 1.6% at the end of the first quarter 2010 to 1.3% at March 31, 2011.  These economic factors among others, are considered in assessing t hethe level of the Company’s reserve for loan losses in an effort to adequately reserve for probable losses due to the consequences of the recession. The Company recorded a provision for loan losses of $125,001 in the first quarter of 2010 compared to $187,500 in the first quarter of 2011.

     Recently majorThere were significant regulatory changes affecting banks in 2010, which are likely to impact all aspects of the financial services industry for many years to come.  In particular, the comprehensive Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Dodd-Frank Act”) enacted in July 2010 contains many new requirements and mandates applicable to banking institutions and authorizes numerous rulemakings by various agencies to implement its provisions.  Among other things, the Dodd-Frank Act: creates a new Consumer Financial Protection Bureau as an independent agency to implement and (with respect to larger institutions) enforce federal consumer protection laws; changes the method for calculating regulatory capital by bank holding companies and restricts the use of trust preferred securities as Tier 1 capital (subject to certain grandfathering); imposes new price controls on debit card interchange fees; imposes new disclosure, escrow, appraisal and other requirements applicable to mortgage servicers’ foreclosure procedures have come under scrutiny by federal agencies, resultinglending; adopts new disclosure and voting requirements for public companies relating to executive compensation arrangements (subject to a delayed effective date for smaller reporting companies); makes permanent the increase to $250,000 in the impositionamount of a voluntary moratoriummaximum FDIC insurance coverage; changes the assessment formula for FDIC insurance premiums from one based on foreclosures by somedeposits to one based on assets; provides permanent relief for smaller reporting companies such as the Company from the auditor attestation requirements of section 404 of the larger national financial institutions until it can be determined that borrowers are not being evicted from their homes unfairly dueSarbanes-Oxley Act; and extends through 2012 the temporary unlimited deposit insurance coverage for non-interest bearing accounts.  An amendment to improper documentation and foreclosure proceedings.  So far the interagency reviews byFederal Deposit Insurance Act enacted in December 2010 included interest on lawyer trust accounts (IOLTAs) within the federal banking regulators have not identified any industry-wide systemic issues; ratherdefinition of “non-interest bearing transaction account” for purposes of the issues appear to stem from the extreme volumes of foreclosures that the large services are experiencing.  Recognizing the trends that have led to an increase in foreclosures, the Company allocated additional resources and experienced staff to handle the increased activity without s acrificing due diligence and proper procedures required in foreclosure proceedings.Dodd-Frank Act’s unlimited deposit insurance coverage.

     On April 13, 2010,In the Board of Directors of the FDIC approved an interim rule to extend the Transaction Account Guarantee (TAG) program to December 31, 2010.  Under the current TAG program, customers of participating insured depository institutions are provided full deposit insurance coverage on noninterest-bearing transaction accounts, as well as NOW accounts where the interest rate is contractually limited to no more than 25 basis points and Interest on Lawyers Trust Accounts (IOLTAs).  In addition,short-term, the Dodd-Frank Act providesAct’s price controls on interchange fees, scheduled for unlimited FDIC insuranceimplementation by Federal Reserve Board rule in July 2011, are likely to have an adverse impact on bank fee income, even for noninterest-bearing transaction accounts in all banks effective December 31, 2010, through December 31, 2012.  However, this extended TAG coverage willsmaller institutions like the Company that are not applydirectly subject to interest-bearing NOW accounts or IOLTAs.  T he cost of this TAG deposit insurance coverage will be includedthe rule as part of the regular quarterly FDIC assessments, rather than through special assessments. The TAG program gives financial institutions who are participatingcompetitive pricing pressures in the TAG program an optionmarket place effectively drive down interchange fees for their customers with large dollar accounts who are looking for insured funds beyond the current FDIC coverage of $250,000.all banks.

     The regulatory environment continues to increase operating costs and place extensive burden on personnel resources to comply with rules such asa myriad of legal requirements, including those under the Dodd-Frank Act, the Sarbanes-Oxley Act of 2002, the USA Patriot Act, the Bank Secrecy Act, the Real Estate Settlement Procedures Act and the Truth in Lending Act,Act.  It is unlikely that these administrative costs and most recentlyburdens will moderate in the Dodd-Frank Act, which creates a new Consumer Financial Protection Bureau with comprehensive rulemaking authority.  Various federal agencies including the banking regulators and the SEC are charged with undertaking numerous administrative rulemakings under the Dodd-Frank Act that could take years to implement.

     On September 14, 2010, the Company's Board of Directors declared a quarterly cash dividend of $0.12 per common share, payable on November 1, 2010 to shareholders of record on October 15, 2010.  The Company is focused on increasing the profitability of the balance sheet, improving expense efficiency, and prudently managing risk, particularly as it pertains to credit in order to remain a well-capitalized bank in this challenging economic environment.

     The following pages describe our third quarter financial results in more detail. Please take the time to read them to more fully understand the quarter and nine months ended September 30, 2010 in relation to the 2009 comparison periods.  The discussion below should be read in conjunction with the Consolidated Financial Statements of the Company and related notes included in this report and with the Company's Annual Report on Form 10-K/A for the year ended December 31, 2009.

     This report includes forward-looking statements within the meaning of the Securities and Exchange Act of 1934 (the “Exchange Act”).future.

CRITICAL ACCOUNTING POLICIES

    The Company’s consolidated financial statements are prepared according to U.S.US GAAP.  The preparation of such financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities in the consolidated financial statements and related notes.  The SEC has defined a Company’scompany’s critical accounting policies as those that are most important to the portrayal of the Company’s financial condition and results of operations, and which require the Company to make its most difficult and subjective judgments, often as a result of the need to make estimates of matters that are inherently uncertain.  Because of the significance of these esti matesestimates and assumptions, there is a high likelihood that materially different amounts would be reported for the Company under different conditions or using different assumptions or estimates.  Management evaluates on an ongoing basis its judgment as to which policies are considered to be critical.

Allowance for Loan Losses - Management believes that the calculation of the allowance for loan losses (ALL) is a critical accounting policy that requires the most significant judgments and estimates used in the preparation of its consolidated financial statements.  In estimating the ALL, management considers historical experience as well as other qualitative factors, including the effect of current economic indicators and their probable impact on borrowers and collateral, trends in delinquent and non-performing loans, trends in criticized and classified assets, concentrations of credit, levels of exceptions, and the impact of competition in the market. Management’s estimates used in calculating the ALL may increase or decrease based on changes in these factors, which in turn will affect the amount of the Company’ ;sCompany’s provision for loan losses charged against current period income.  Actual results could differ significantly from these estimates under different assumptions, judgments or conditions.

Other Real Estate Owned - Occasionally, the Company acquires property in connection with foreclosures or in satisfaction of debts previously contracted, known as other real estate owned (OREO).  Such properties are initially recordedcarried at fair value, which is the market value less estimated cost of disposition, i.e., sales commissions and costs associated with the sale.  Market value is defined as the cash price that might reasonably be anticipated in a current sale that is within 12 months, under all conditions requisite to a fair sale.  A fair sale means that a buyer and seller are each acting prudently, knowledgeably, and under no necessity to buy or sell.  Market value is determined, as appropriate, either by obtaining a current appraisal or evaluation prepared by an independent, qualified appraiser, by obtaining a Broker’s Price Opinion, or third-party valuation firm, and finally if the Company has limited exposure and limited risk of loss, by the opinion of management as supported by an inspection of the property and its most recent tax valuation.  If the Company has a valid appraisal or an appropriate evaluation obtained in connection with the real estate loan, and there has been no obvious and material change in market conditions or physical aspects of the property, then the Company need not obtain another appraisal or evaluation when it acquires ownership of the property. Under recent and current market conditions, and during periods of declining market values, the Company will generally obtain a new appraisal or evaluation.

     The amount, if any, by which the recorded amount of the loan exceeds the fair value, less cost to sell, is a loss which is charged to the allowance for loan losses at the time of foreclosure or repossession. The recorded amount of the loan is the loan balance adjusted for any unamortized premium or discount and unamortized loan fees or costs, less any amount previously charged off, plus recorded accrued interest.

     The Company performsOther Than Temporary Impairment of Investment Securities - Companies are required to perform quarterly reviews of individual debt and equity securities in thetheir investment portfolioportfolios to determine whether a decline in the value of a security is other than temporary. A review of other-than-temporary impairment requires companies to make certain judgments regarding the materiality of the decline and the probability, extent and timing of a valuation recovery, the company’s intent to continue to hold the security and, in the case of debt securities, the likelihood that the company will not have to sell the security before recovery of its cost basis.  Pursuant to these requirements, management assesses valuation declines to determine the extent to which such changes are attributable to fundamental factors specific to the issuer, such as financial condition and business prospects, or to market-related or other factors, such as interest rates, and in the case of debt securities, the extent to which the impairment relates to credit losses of the issuer, as compared to other factors.  Declines in the fair value of securities below their cost that are deemed in accordance with GAAP to be other than temporary, and declines in fair value of debt securities below their cost that are related to credit losses, are recorded in earnings as realized losses.  The non-credit loss portion of an other than temporary decline in the fair value of debt securities below their cost basis (generally, the difference between the fair value and the estimated net present value of the debt security) is recognized in other comprehensive income as an unrealized loss.

Mortgage Servicing Rights - Mortgage servicing rights associated with loans originated and sold, where servicing is retained, are required to be initially capitalized at fair value and subsequently accounted for using the “fair value method” or the “amortization method”. Capitalized mortgage servicing rights are included in other assets in the consolidated balance sheet. Mortgage servicing rights are amortized into non-interest income in proportion to, and over the period of, estimated future net servicing income of the underlying financial assets.  The value of capitalized servicing rights represents the estimated present value of the future servicing fees arising from the right to service loans in the portfolio. The carrying value of the mortgage servicing rights is periodically reviewed for impair mentimpairment based on a determination of fair value compared to amortized cost, and impairment, if any, is recognized through a valuation allowance and is recorded as amortization of other assets.  Subsequent improvement (if any) in the estimated fair value of impaired mortgage servicing rights is reflected in a positive valuation adjustment and is recognized in other income up to (but not in excess of) the amount of anythe prior impairment. Critical accounting policies for mortgage servicing rights relate to the initial valuation and subsequent impairment tests. The methodology used to determine the valuation of mortgage servicing rights requires the development and use of a number of estimates, including anticipated principal amortization movement of principal balance within interest rate stratas, and prepayments of that principal balance. Factors that may significantly affect the estimates used are changes in interest rates and the payment performance of the underlying loans.  The Company analyz esanalyzes and accounts for the value of its servicing rights with the assistance of a third party consultant.

     The Company’s 2007Goodwill - Management utilizes numerous techniques to estimate the value of various assets held by the Company, including methods to determine the appropriate carrying value of goodwill.  In addition, goodwill from a purchase acquisition of LyndonBank required the applicationis subject to ongoing periodic impairment tests, which include an evaluation of the purchase method of accounting.  Under the purchase method, the Company is required to record the netongoing assets, liabilities and liabilities acquired throughrevenues from the acquisition at fair value, with the excessand an estimation of the purchase price over the fair valueimpact of the net assets recorded as goodwill and evaluated annually for impairment based on its fair value.  The determination of fair value requires the use of assumptions, including future profitability and discount rates, changes in which could significantly affect assigned fair values.business conditions.

Other - Management utilizes numerous techniques to estimate the carrying value of various assets held by the Company, including, but not limited to, bank premises and equipment and deferred taxes. The assumptions considered in making these estimates are based on historical experience and on various other factors that are believed by management to be reasonable under the circumstances.  The use of different estimates or assumptions could produce different estimates of carrying values and those differences could be material in some circumstances.

RESULTS OF OPERATIONS

    The Company’s net income for the thirdfirst quarter of 20102011 was $787,805,$944,868, representing a decreasean increase of $225,417$5,956 or 22.3% from0.6% over net income of $1.0 million$938,912 for the thirdfirst quarter of 2009.2010. This resulted in earnings per share of $0.16$0.19 and $0.21,$0.20, respectively, for the thirdfirst quarters of 20102011 and 2009.  Net income2010.  Core earnings (net interest income) for the first nine months of 2010 was $2.5 million, compared to $2.7 million for the same period in 2009, representing a decrease of $244,790 or 9.1%.  This resulted in earnings per share for the nine month periods of $0.51 for 2010 and $0.57 for 2009.  This decline in net income occurred despite an increase in net interest income for the third quarter of 2010 of $243,0092011 decreased $77,501 or 5.9%1.8% over the thirdfirst quarter of 2009.2010.  Although total interest income decreased $34,654$210,127 or jus t over 0.5%3.6%, this decrease was more thanpartially offset by a decrease in interest expense of $277,663$132,626 or 14.7% quarter over quarter, accounting for the overall increase in net interest income.  Net interest income for the first nine months of 2010 increased $733,589 or 6.1% over the first nine months of 2009.  Interest income decreased $302,163 or 1.7% but that decrease was more than offset by a decrease in interest expense of just over $1.0 million or 17.4%8.1% year over year.  Despite a $17.5 million$3,874,537 increase in loans at September 30, 2010 and compared to September 30, 2009,between periods, interest and fees on loans, the major component of interest income, showed onlydecreased by $147,156 or 2.7% due to a moderate increase of $128,497 or 0.8%decrease in rates between periods.  Interest on taxable investments which consisted of U.S. Government sponsored enterprise securities and U.S. Government securities decreased $382,038 or 58.4% year over year due to declining rates on securities purchased to replace maturing securities.  Interest p aidexpense on deposits, the major component of interest expense, decreased $1.2 million$101,697 or 25.1%8.4% between the first nine months of 2010 and 2009, reflecting the combined effect ofperiods, attributable in part to a decrease of $20.8 million$8,804,187 in time deposits as well as a decrease in the rates paid on these deposit accounts.  The Company has chosen to not compete as aggressively for time deposits as inNOW and money market accounts increased $38,230,128 or 27.2% while the past due to the availability of low rate funds through FHLBB borrowings.  This funding strategy has contributedpaid on these accounts decreased, contributing to the decrease in time deposits and the increase in borrowed funds of $9.5 million or 40.7% year over year.  Additionally, when $15.1 million in one-way CDARS funds matured during the first quarter of 2010, the Company replaced them with long-term borrowings through FHLBB.interest expense on deposits.

     As a result of the 2007 LyndonBank merger, the Company is required to amortize the fair value adjustments of the acquired loans and time deposits against net interest income and the core deposit intangible against non-interest expense.  The loan fair value adjustment was a net premium, creating a decrease in interest income of $11,662$12,716 for the third quarterfirst three months of 20102011 compared to a decrease of $41,359$11,978 recorded for the third quarterfirst three months of 2009 and year to date decreases of $44,396 and $103,422, respectively, for 2010 and 2009.2010.  The certificate of deposit fair value adjustment was fully amortized as of July,December 31, 2010, thus resulting in no earnings impact in the first quarter of 2011, compared to an interest expense of $26,000 for the third quarter of 2010, compared to $65,000$78,000 for the same period in 2009 and year to date interest expense of $182,000 and $195,000, respectively, for 2 010 and 2009.last year.  The amortization of the core deposit intangible amounted to a non-interest expense of $106,522 for the first three months of 2011, compared to $133,152 for the thirdfirst three months of 2010.

    Other income, a component of non-interest income, increased $170,799 or 33.8% for the first three months of 2011, compared to the first three months of 2010.  Mortgage servicing rights was the major component of the increase, with a net increase of $118,873 year over year. The Company recognized income of $80,513 from its Supplemental Executive Retirement Program (SERP) investment assets during the first quarter of 2011, compared to income of $32,934 for the first quarter of 2010, reflecting improved market conditions between periods.  Salaries and wages, a component of non-interest expense, increased $74,145 due to normal salary increases during the first three months of 2011, compared to $166,440 for the third quarter of 2009 and year to date non-interest expense of $399,456 for 2010 and $499,320 for the same period in 2009.

     The Company sold its entire portfolio of mortgage backed securities (MBS) in the first half of 2009, resulting in net realized gains of $471,055 for the first nine months of 2009 compared to no gains or losses in the first nine months of 2010, contributing to a major portion of the decrease in non-interest income.  The decrease in non-interest expense is attributable not only to a $170,113 decrease in FDIC insurance premiums (discussed in the non-interest income and non-interest expense section) but also to a $366,237 decrease in the loss on limited partnerships. Loss on limited partnerships totaled $737,928 for the first nine months of 2009 compared to $371,691 for the first nine months of 2010.  This decrease in expense from 2009 to 2010 was due to one-time losses on one of the partne rships totaling $533,317 that the Company amortized over the 2009 calendar year.  The Company also recorded a one-time tax benefit of $549,378 on the same partnership over the 2009 calendar year, resulting in a tax benefit of $286,696 for the first nine months of 2009 compared to a tax expense of $158,751 for the first ninethree months of 2010.

      Return on average assets (ROA), which is net income divided by average total assets, measures how effectively a corporation uses its assets to produce earnings.  Return on average equity (ROE), which is net income divided by average shareholders' equity, measures how effectively a corporation uses its equity capital to produce earnings.  The Company’s ROA and ROE beganhave remained fairly level over the past year with slight decreases for March 31, 2011 compared to return to more normal levels in 2009 following the immediate impact of the LyndonBank acquisition in 2007, but have decreased during the third quarter of 2010 as a result of the decrease in income in both periods.March 31, 2010.  The following table shows these ratios annualized for the comparison periods.

For the third quarter ended September 30,2010 2009 
For the quarter ended March 31,2011 2010   
    
Return on Average Assets0.60%0.81%0.70%0.76%
Return on Average Equity8.19%11.07%9.67%10.18%
  

For the nine months ended September 30,2010 2009 
   
Return on Average Assets0.65%0.74%
Return on Average Equity8.70%10.16%

The following table summarizes the earnings performance and balance sheet data of the Company for the 2011 and 2010 comparison periods.
SELECTED FINANCIAL DATA 
  
Balance Sheet Data March 31,  December 31, 
  2011  2010 
       
Net loans $384,246,965  $387,630,511 
Total assets  532,838,138   545,932,649 
Total deposits  437,557,347   438,192,263 
Federal funds purchased and other borrowed funds  18,010,000   33,010,000 
Total liabilities  493,283,298   506,804,980 
Total shareholders' equity  39,554,840   39,127,669 
         
Three Months Ended March 31,  2011   2010 
         
Total interest income $5,677,112  $5,887,239 
Less:        
Total interest expense  1,511,470   1,644,096 
  Net interest income  4,165,642   4,243,143 
Less:        
Provision for loan losses  187,500   125,001 
         
Non-interest income  1,459,469   1,231,801 
Less:        
Non-interest expense  4,349,514   4,288,821 
  Income before income taxes  1,088,097   1,061,122 
Less:        
Applicable income tax expense  143,229   122,210 
         
   Net Income $944,868  $938,912 
         
Per Share Data        
         
Earnings per common share $0.19  $0.20 
Dividends declared per common share $0.14  $0.12 
Book value per common shares outstanding $7.97  $7.63 
Weighted average number of common shares outstanding  4,635,324   4,558,198 
Number of common shares outstanding  4,650,012   4,572,382 

INTEREST INCOME LESSVERSUS INTEREST EXPENSE (NET INTEREST INCOME)

     NetThe largest component of the Company’s operating income is net interest income, which is the difference between interest earned on loans and investments versus the interest paid on deposits and other sources of funds (i.e. other borrowings).  The Company’s level of net interest income can fluctuate over time due to changes in the level and interest expense, represents the largest portion of the Company's earnings, and is affected by the volume, mix and rate sensitivity of earning assets, and interest bearing liabilities, market interest ratessources of funds (volume) and from changes in the amountyield earned and costs of non-interest bearing funds which support earning assets.  The three(rate).  A portion of the Company’s income from municipal investments is not subject to income taxes.  Because the proportion of tax-exempt items in the Company's portfolio varies from year-to-year, to improve comparability of information across years, the non-taxable income shown in the tables below provide a visual comparison of the consolidated figures, and are stated onhave been converted to a tax equivalent basis assuming a federal tax rate of 34%.basis. The Company’s corporate tax rate is 34%; therefore, to equalize tax-free and taxable income in the comparison, we divide the tax-free income is divided by 66%, with the result that every tax-free dollar is equalequivalent to $1.52 in taxable income.

     Tax-exempt income is derived from municipal investments which comprised the entire held-to-maturity portfolio of $53.1 million$37,948,665 at September 30, 2010,March 31, 2011, and $49.8 million$47,157,935 at September 30, 2009.  The Company acquired municipal investments through the merger with LyndonBank amounting to approximately $1.1 million, which were sold in January 2009, for a net loss of $12,122.  Included in the Company’s available-for-sale portfolio at both September 30, 2009 and 2010 are two classes of Fannie Mae preferred stock acquired in the merger, which, until the last quarter of 2008, carried a 70% tax exemption on dividends received.  Dividend payments on the Fannie Mae preferred stock ceased following the federal government’s action in September 2008, placing Fannie Mae under conser vatorship.  Dividend payments on the Company’s holdings of FHLBB stock also ceased during the last quarter of 2008, as the FHLBB adopted measures to conserve its capital, including suspension of dividend payments.  Resumption of dividend payments on the Fannie Mae and FHLBB stock in 2010, and possibly beyond, is unlikely.March 31, 2010.

     The following table shows the reconciliation between reported net interest income and tax equivalent, net interest income for the ninethree month comparison periods of 20102011 and 2009.2010.

For the nine months ended September 30, 2010  2009 
For the Three Months Ended March 31: 2011  2010 
            
Net interest income as presented $12,803,158  $12,069,569  $4,165,642  $4,243,143 
Effect of tax-exempt income  500,012   525,193   134,913   158,383 
Net interest income, tax equivalent $13,303,170  $12,594,762  $4,300,555  $4,401,526 

     The following table presents average earning assets and average interest-bearing liabilities supporting earning assets.  Interest income (excluding interest on non-accrual loans) and interest expense are both expressed on a tax equivalent basis, both in dollars and as a rate/yield for the 20102011 and 20092010 comparison periods.

Average Balances and Interest RatesAverage Balances and Interest Rates Average Balances and Interest Rates 
                                    
 For the Nine Months Ended September 30:  For the Three Months Ended March 31: 
    2010        2009        2011        2010    
 Average  Income/  Rate/  Average  Income/  Rate/  Average  Income/  Rate/  Average  Income/  Rate/ 
 Balance  Expense  Yield  Balance  Expense  Yield  Balance  Expense  Yield  Balance  Expense  Yield 
Interest-Earning Assets                                    
                                    
Loans (1) $386,040,376  $16,446,720   5.70% $368,182,304  $16,318,223   5.93% $389,001,889  $5,303,865   5.53% $382,812,068  $5,451,021   5.77%
Taxable investment securities  22,910,411   272,026   1.59%  26,271,374   654,064   3.33%  23,703,792   70,810   1.21%  23,606,738   112,281   1.93%
Tax exempt investment securities  48,582,239   1,470,623   4.05%  44,366,863   1,544,252   4.65%  36,604,441   396,802   4.40%  46,423,263   465,833   4.07%
Federal funds sold and overnight deposits  68,891   228   0.44%  185,923   404   0.29%
Sweep and interest earning accounts  37,541,055   21,652   0.23%  110,943   350   1.28%
Other investments  975,150   48,415   6.64%  975,150   48,413   6.64%  4,695,550   18,896   1.63%  975,150   16,137   6.71%
Total $458,577,067  $18,238,012   5.32% $439,981,614  $18,565,356   5.64% $491,546,727  $5,812,025   4.80% $453,928,162  $6,045,622   5.40%
                                                
Interest-Bearing Liabilities                                                
                                                
NOW and money market funds $144,877,709  $992,733   0.92% $121,217,130  $969,134   1.07% $177,943,228  $353,516   0.81% $136,775,027  $319,199   0.95%
Savings deposits  55,861,326   128,634   0.31%  53,348,406   121,477   0.30%  57,848,479   30,170   0.21%  53,209,384   40,569   0.31%
Time deposits  151,045,760   2,489,149   2.20%  171,444,792   3,728,674   2.91%  144,073,247   729,097   2.05%  157,259,018   854,712   2.20%
Federal funds purchased and other borrowed funds  34,074,183   404,471   1.59%  21,401,855   172,925   1.08%  22,410,000   100,416   1.82%  33,970,678   119,572   1.43%
Repurchase agreements  19,161,995   136,886   0.96%  18,231,292   193,052   1.42%  20,379,073   37,914   0.75%  19,336,027   48,851   1.02%
Capital lease obligations  859,500   52,276   8.11%  899,311   54,639   8.12%  827,642   16,793   8.12%  869,919   17,629   8.11%
Junior subordinated debentures  12,887,000   730,693   7.58%  12,887,000   730,693   7.58%  12,887,000   243,564   7.66%  12,887,000   243,564   7.66%
Total $418,767,473  $4,934,842   1.58% $399,429,786  $5,970,594   2.00% $436,368,669  $1,511,470   1.40% $414,307,053  $1,644,096   1.61%
                                                
Net interest income     $13,303,170          $12,594,762          $4,300,555          $4,401,526     
Net interest spread (2)          3.74%          3.64%          3.40%          3.79%
Net interest margin (3)          3.88%          3.83%          3.55%          3.93%
                                                
(1) Included in gross loans are non-accrual loans with an average balance of $4,962,392 and $2,884,849 for the nine months ended 
2010 and 2009, respectively. Loans are stated before deduction of unearned discount and allowance for loan losses. 
(1) Included in gross loans are non-accrual loans with an average balance of $4,594,164 and $4,719,812 for the three months ended(1) Included in gross loans are non-accrual loans with an average balance of $4,594,164 and $4,719,812 for the three months ended 
March 31, 2011 and 2010, respectively. Loans are stated before deduction of unearned discount and allowance for loan losses. March 31, 2011 and 2010, respectively. Loans are stated before deduction of unearned discount and allowance for loan losses. 
(2) Net interest spread is the difference between the yield on earning assets and the rate paid on interest-bearing liabilities.(2) Net interest spread is the difference between the yield on earning assets and the rate paid on interest-bearing liabilities. (2) Net interest spread is the difference between the yield on earning assets and the rate paid on interest-bearing liabilities. 
(3) Net interest margin is net interest income divided by average earning assets.(3) Net interest margin is net interest income divided by average earning assets. (3) Net interest margin is net interest income divided by average earning assets. 

    The average volume of earning assets for the first ninethree months of 20102011 increased $18.6 million$37,618,565 or 4.2%8.3% compared to the same period of 2009,2010, while the average yield decreased 3260 basis points.  The average volume of loans increased $17.9 million$6,189,821 or 4.9%1.6%, while the average yield decreased 2324 basis points.  Interest earned on the loan portfolio comprised 90.2%91.3% of total interest income for the first ninethree months of 20102011 and 87.9%90.2% for the 20092010 comparison period.  Loan activity was steady during the latter part of 2009 and into the first nine months of 2010, primarily in the residential and commercial real estate portfolios, contributing to the increase in the average loan portfolio.  The average volume of sweep and interest earning accounts increased $37,430,112.  Sweep and interest earning assets consists primarily of excess funds held in the taxable investme nt portfolio (classified as available-for-sale) decreased approximately $3.4 million or 12.8% between periods, andCompany’s account at the average yield decreased 174 basis points.FRBB.  The FRBB began paying interest to financial institutions on balances left in their accounts overnight at a much higher rate than that of the Company’s other correspondent banks causing the Company sold its entire collateralized mortgage obligation and MBS investment portfolio classified as available-for-sale, for approximately $14.6 million duringto leave the funds in this account instead of selling the funds overnight to these other correspondent banks.  Other investments now include FHLBB stock which began paying a modest dividend in the first halfquarter of 2009, and replaced it with $13.0 million in U.S. Government Agency securities, accounting2011 after not paying dividends for a portion of the decrease in the average balances of the investment portfolio.  All maturities during 2010 were replaced with similar investments but with lower yields, contributing to the decrease in the average yield year over year.past two years. The average volume of the tax exempt investment portfolio (classified as held-to-maturity) increased $4.2 milliondecreased $9,818,822 or 9.5%21.1%, due to new municipal investment for the Company, and the average tax equivalent yield decreased 60increased 33 basis points.  Interest earned on tax exempt investments (which is presented on a tax equivalent basis) comprised 8.1%6.8% of total interest income for the first ninethree months of 20102011 compared to 8.3%7.7% for the same period in 2009.2010.  The Company has experienced additional competition from other local financial institutions in our municipal market, which is reflected in the decrease of our tax exempt investment portfolio.

     In comparison, the average volume of interest bearing liabilities for the first ninethree months of 20102011 increased $19.3 million$22,061,616 or 4.8%5.3% over the 20092010 comparison period, while the average rate paid on these accounts decreased 4221 basis points.  The average volume of NOW and money market funds increased $23.7 million$41,168,201 or 19.5%30.1% and the average rate paid decreased 1514 basis points.  This increase in volume was due in large part to a new NOW account held by the Company’s affiliate, CFSG, which had an increase in municipal deposits that correspond toaverage balance of $24,964,005 during the new municipal investments mentioned in the prior paragraph.first quarter of 2011. The Company began offering a new money market product, ICS,insured cash sweep account (ICS), during the second half of 2010 which gives customers more thanat March 31, 2011 carried an average balance of $8,422,550, contributing to the standard $250,000 FDIC coverage with rates higher than our regularincrease in NOW and money market accounts.funds.  This product has brough tbrought in new funds but most of the interest has come from the Company’s CDARS customers who are looking for alternatives to placing their money in time deposit accounts that are not as easily accessible. For the nine months ended September 30, 2010, the average volume of ICS accounts totaled $678,233 with an actual balance of just over $3.0 million.  Additionally, the new money market account established in the first quarter of 2010 by the Company’s affiliate, CFSG, had an average balance of $10.6 million for the nine months ended September 30, 2010.liquid.  The average volume of time deposits decreased $20.4 million,$13,185,771 or 11.9%8.4%, and the average rate paid on time deposits decreased 7115 basis points.  As mentioned earlierOf the decrease in this discussion,time deposits, $6,730,321 was due to the Company has chosen to not pay up on these deposits and instead to replace them with other funding sources, primarily borrowingsshift of customer’s from the FHLBB.  The Company also choseCDARS program to replace $15.1 million in one-way CDARS funds at maturity du ring the first quarter with FHLBB advances.ICS program.  The average volume of federal funds purchased and other borrowed funds increased $12.7 milliondecreased $11,560,678 or 59.2%34.0% from an average volume of $21.4 million$33,970,678 for the first ninethree months of 20092010 to $34.1 million$22,410,000 for the same period in 2010.  Given2011.  As the borrowings have matured, the funds held at our FRBB account were used to pay off these borrowings.

    The prolonged low interest rate environment has resulted in the Company’s earning assets being replaced and repriced to lower interest rates, while the opportunity to reduce rates on borrowed funds, bothinterest-bearing deposits is more limited which is evident in overnight funds purchased and in long-term borrowings, the Company extended somedecrease of its overnight funds into two, three and five year advances60 basis points on the average yield on earning assets versus a decrease of 21 basis points on the average rate paid on the interest bearing liabilities during the first quarter of 2011 compared to supplement its deposit funding.

the same period last year. The cumulative result of all these changes was an increasea decrease of 1039 basis points in the net interest spread and an increasea decrease of five38 basis points in the net interest margin.  The increase inFurther opportunity does exist to reallocate the loan portfolio andexcess funds held at the change inFRBB to fund loans with would improve both the mix of interest bearing liabilities, primarily time deposits versus borrowed funds, helped to increase net interest income and maintain a positive net interest spread and net interest margin despite a sustained low rate environment.margin.

    The following table summarizes the variances in interest income and interest expense on a fully tax-equivalent basis for the first ninethree months of 20102011 and 20092010 resulting from volume changes in average assets and average liabilities and fluctuations in rates earned and paid.

Changes in Interest Income and Interest Expense 
  Variance  Variance    
Rate / Volume Due to  Due to  Total 
  Rate (1)  Volume (1)  Variance 
Interest-Earning Assets         
 Loans $(663,565) $792,062  $128,497 
 Taxable investment securities  (342,068)  (39,970)  (382,038)
 Tax-exempt investment securities  (220,237)  146,608   (73,629)
 Federal funds sold and overnight deposits  209   (385)  (176)
 Other investments  2   0   2 
     Total $(1,225,659) $898,315  $(327,344)
             
Interest-Bearing Liabilities            
 NOW and money market funds $(165,757) $189,356  $23,599 
 Savings deposits  1,518   5,639   7,157 
 Time deposits  (903,863)  (335,662)  (1,239,525)
 Federal funds purchased and other borrowed funds  129,181   102,365   231,546 
 Repurchase agreements  (66,051)  9,885   (56,166)
 Capital lease obligations  52   (2,415)  (2,363)
 Junior subordinated debentures  0   0   0 
     Total $(1,004,920) $(30,832) $(1,035,752)
             
       Changes in net interest income $(220,739) $929,147  $708,408 

(1) Items which have shown a year-to-year increase in volume have variances allocated as follows:
          Variance due to rate = Change in rate x new volume
          Variance due to volume = Change in volume x old rate
     Items which have shown a year-to-year decrease in volume have variances allocated as follows:
          Variance due to rate = Change in rate x old volume
          Variances due to volume = Change in volume x new rate
Changes in Interest Income and Interest Expense 
          
  Variance  Variance    
Rate / Volume Due to  Due to  Total 
  Rate (1)  Volume (1)  Variance 
Interest-Earning Assets         
 Loans $(235,221) $88,065  $(147,156)
 Taxable investment securities  (41,933)  462   (41,471)
 Tax exempt investment securities  37,496   (106,527)  (69,031)
 Sweep and interest earning accounts  (96,834)  118,136   21,302 
 Other investments  (58,796)  61,555   2,759 
     Total $(395,288) $161,691  $(233,597)
             
Interest-Bearing Liabilities            
 NOW and money market funds $(62,118) $96,435  $34,317 
 Savings deposits  (13,945)  3,546   (10,399)
 Time deposits  (58,964)  (66,651)  (125,615)
 Federal funds purchased and other borrowed funds  32,725   (51,881)  (19,156)
 Repurchase agreements  (13,560)  2,623   (10,937)
 Capital lease obligations  10   (846)  (836)
 Junior subordinated debentures  0   0   0 
     Total $(115,852) $(16,774) $(132,626)
             
       Changes in net interest income $(279,437) $178,465  $(100,971)
             
(1) Items which have shown a year-to-year increase in volume have variances allocated as follows: 
          Variance due to rate = Change in rate x new volume            
          Variance due to volume = Change in volume x old rate            
Items which have shown a year-to-year decrease in volume have variances allocated as follows: 
          Variance due to rate = Change in rate x old volume            
Variances due to volume = Change in volume x new rate         

NON-INTEREST INCOME AND NON-INTEREST EXPENSE

Non-interest Income: The Company's non-interest income decreased $150,975increased $227,668 or 10.9%18.5% for the thirdfirst quarter of 20102011 compared to the third quarter of 2009, from $1.4 million to $1.2 million.  Currency exchange income of $35,000 was reported for the third quarter of 2010 versus $73,000 for the third quarter of 2009.  The Company recognized a loss of $60,768 for the thirdfirst quarter of 2010, from its SERP investment assets compared$1,231,801 to a gain of $70,923 in the third quarter of 2009.  Both changes in SERP$1,459,469.  The income (loss) reflect the volatile movements with stock market conditions between periods.  Non-interest income decreased $736,749from loan sales increased $64,859 or 16.8%47.6% for the first ninethree months of 2010 compared to2011, with income from sold loans totaling $201,141 versus $136,282 for the same period in 2009 from $4.4 million2010.  The volume of loans sold during the first three months of 2011 was $11,332,576 compared to $3.6 million.$6,414,847 in the same period in 2010.  The low interest rate environment that prevailed througho ut 2009 and into 2010continued to not only helpedhelp the Company build its commercial and residential real estate mortgage loan portfolios, but also generated secondary market residential mortgage loan activity.  Although secondary market activity was not as strong as a year ago, non-interest income from loan sales was still significant reporting an increase of $8,835 or 4.3% for the third quarter of 2010 with income of $216,788 compared to $207,953 for the same period in 2009.  Income from loans sold in the secondary market for the first nine months of 2010 decreased $365,026 or 40.5% with $536,471 reported compared to $901,497 for the first nine months in 2009.  The volume of loans sold during the first nine months of 2009 was $60.5 million compared to $27.4 million in the same period in 2010.  This decrease in income from the sale of loans in the secondary market, together with the absence of any gain from the sale of investments from the Company’s investment portfolio, supp orts the overall decrease in non-interest income.

     Non-interest expense decreased $31,205 or 0.7% to $4.3 million for the third quarter of 2010 compared to $4.4 million for the second quarter of 2009.  A combined increase of $109,791 or 5.6% in salaries and employee benefits for the third quarter of 2010 compared to the third quarter in 2009 was more than offset by a decrease of $145,949 or 10.7% in other expenses for the same comparison periods.  Loss on limited partnerships,Mortgage servicing rights, a component of other expenses, decreased $124,251income, increased $118,873 or 50.1% accounting for most205.9% year over year, due in part to a positive valuation adjustment of the decrease for the third quarter of 2010$151,662 at March 31, 2011 compared to the third quartera positive valuation adjustment of 2009.  $104,179 at March 31, 2010.  Another component of other income, investment income on SERP assets held in a rabbi trust, increased $47,579 or 144.5% from $32,934 in 2010 to $80,513 in 2011.

Non-interest Expense: The Company's non-interest expense increased $60,693 or 1.4% to $4,349,514 for the first ninequarter of 2011 compared to $4,288,821 for the 2010 comparison period.  Salaries and wages increased from $1,392,671 to $1,466,816, accounting for the largest increase in non-interest expense at $74,145 or 5.3% during the first three months of 2010 decreased $637,148 or 4.7%2011, compared to the first nine months of 2009 with expense figures of $13.0 million and $13.6 million, respective ly. Decreases were noted in most of the components of non-interest expense for this comparison period with the most significant decreases noted in FDIC insurance expense with a decrease of $170,113 or 26.4% and loss on limited partnerships with a decrease amounting to $366,237 or 49.6%.  During the first nine months of 2009, the Company recorded a special FDIC assessment fee of $233,500 in addition to the regular FDIC insurance expense of $410,878, compared to FDIC insurance expense of $474,265 during the first ninethree months of 2010.  ThereOccupancy expenses increased $28,437 or 3.7% from $779,175 to $807,612 year over year. This increase was no special FDIC assessment duringdue primarily to maintenance on buildings, which includes heating and snow removal, attributable to the severe weather conditions experienced in the Northeast Kingdom this winter.  The amortization of the core deposit intangible associated with the LyndonBank acquisition decreased $26,603 or 20.0% to $106,522 for the first nine monthsquarter of 2010.  The decrease in2011 compared to $133,152 for the loss in limited partnerships was due tofirst quarter of 2010, offsetting a one-time loss expensed monthly during the 2009 calendar year on oneportion of the newer investments the Company holds.increases noted above.

     Management monitors all componentsTotal losses relating to various limited partnership investments for affordable housing in our market area constitute a portion of other non-interest expense; additionally, a quarterly review is performedexpenses.  These losses amounted to assure that$122,147 in the accruals forfirst quarter of 2011 compared to $123,897 in the first quarter of 2010. These investments provide tax benefits, including tax credits, and are designed to yield between 8% and 10%.The Company amortizes its investments in these expenses are accurate and timely.  This helps alleviatelimited partnerships under the need to make significant adjustments to these accounts thateffective yield method, resulting in turn affect the net income ofasset being amortized consistent with the Company.periods in which the Company receives the tax benefit.

APPLICABLE INCOME TAXES

     A tax benefit of $65,858 versus a taxThe provision for income taxes expense of $24,465 was reported for the third quarter of 2009 and 2010, respectively.  Figures for the nine month comparison period include a tax benefit of $286,696 for 2009 and a tax expense of $158,751 for 2010.  The Company receives tax credits for its investments in various low income housing partnerships which reduce taxes payable.  From timeincreased to time, the Company has the opportunity to participate in a low income housing project that offers one-time historic tax credits.  In 2008, the Company was given this opportunity through a local project, with historic tax credits for 2009 amounting to $535,000, or $133,750 quarterly.  Total tax credits, including the one-time historic tax credit, recorded for the third quart er of 2009 and$143,229 for the first nine months amounted to $263,343 and $766,719, respectively,quarter of 2011 compared to regular$122,210 for the first quarter of 2010, an increase of $21,109 or 17.2%. This increase is due primarily to the lower proportion of tax exempt income.  Although in prior periods the limited partnership tax credits have been contributing factors to the shift between tax benefit and expense, no such shifts occurred between comparison periods, with tax credits for the thirdfirst quarter of 2010 and2011 of $133,518, compared to $133,701 for the first nine monthsquarter of $133,701 and $401,103, respectively.2010.

CHANGES IN FINANCIAL CONDITION

     The following table reflects the composition of the Company's major categories of assets and liabilities as a percent of total assets or liabilities and shareholders’ equity, as the case may be, as of the dates indicated:

 September 30, 2010  December 31, 2009  September 30, 2009  March 31, 2011  December 31, 2010  March 31, 2010 
Assets                                    
Loans (gross)* $390,020,128   74.02% $382,259,106   75.65% $372,542,696   75.10% $388,007,754   72.82% $391,432,797   71.70% $384,133,217   75.61%
Available for Sale Securities  22,514,018   4.27%  23,974,830   4.74%  23,130,656   4.66%
Held to Maturity Securities  53,146,028   10.09%  44,766,250   8.86%  49,769,540   10.03%
Securities available-for-sale  28,460,688   5.34%  21,430,436   3.93%  22,872,120   4.50%
Securities held-to-maturity  37,948,665   7.12%  37,440,714   6.86%  47,157,935   9.28%
*includes loans held for sale                                                

 
  September 30, 2010  December 31, 2009  September 30, 2009 
Liabilities                  
 Time Deposits $146,463,974   27.80% $167,270,840   33.10% $171,070,472   34.49%
 Savings Deposits  56,933,717   10.81%  52,448,863   10.38%  53,487,971   10.78%
 Demand Deposits  56,816,997   10.78%  52,821,573   10.45%  53,332,196   10.75%
 NOW & Money Market Funds  159,469,342   30.26%  146,244,454   28.94%  124,654,825   25.13%
 Federal Funds Purchased  0   0.00%  3,401,000   0.67%  13,457,000   2.71%
 Long-term Borrowings  33,010,000   6.26%  10,010,000   1.98%  10,010,000   2.02%
  March 31, 2011  December 31, 2010  March 31, 2010 
Liabilities                  
 Time deposits $143,872,591   27.00% $143,732,098   26.33% $152,676,778   30.05%
 Savings deposits  61,151,720   11.48%  56,461,370   10.34%  55,259,464   10.88%
 Demand deposits  53,917,918   10.12%  55,570,893   10.18%  51,665,027   10.17%
 Now & money market funds  178,615,118   33.52%  182,427,902   33.42%  140,384,990   27.63%
 Federal funds purchased  0   0.00%  0   0.00%  3,012,000   0.59%
 Long-term borrowings  18,010,000   3.38%  33,010,000   6.05%  33,010,000   6.50%

     The Company's loan portfolio increased $7.8 million,decreased $3,425,043 or 2.0%0.9%, from December 31, 20092010 to September 30, 2010,March 31, 2011, and $17.5 million, or 4.7%increased $3,874,537or 1.0%, from September 30, 2009March 31, 2010 to September 30, 2010.March 31, 2011.  A portion of the decrease is attributable to in-house residential loans that were refinanced and sold in the secondary market.  Securities available-for-sale increased $7,030,252 or 32.8% through purchases from December 31, 2010 to March 31, 2011, and $5,588,568 or 24.4% year over year.  The decreaseCompany has begun purchasing investments to cover future maturities that will occur over the next several months of 2011.  Securities held-to-maturity increased $507,951 or 1.4% during the first three months of 2011, and decreased $9,209,270 or 19.5% year to year.  As noted earlier in mortgage interest rates throughout 2009 triggeredthis discussion, an increase in new loan activity during 2009, with an even larger increase in refinancing activity, especially in the residential loan portfolio.  During the last quarter of 2009 and into the first quarter of 2010, the Company experienced an increase in loan activity within the commercial and residential mortgage loan portfolio that the Company retains in-house.  Residential mortgage loan activity decreased briefly during the second quarter of 2010 but has picked up during the third quarter of 2010 and into the current quarter, whil e commercial mortgage loan activity remained steady throughout the first half of 2010 but has now decreased.  Available-for-sale investments decreased $1.5 million or 6.1% through maturities from December 31, 2009 to September 30, 2010, and $616,638 or 2.7% year over year.  Most of the maturities and sales during 2009 were used to fund loan growth and reinvestment in U.S. Government Agency securities while most maturities in 2010 funded reinvestment in U.S. Government Agency securities.  Held-to-maturity securities increased $8.4 million or 18.7% during the first nine months of 2010, and $3.4 million or 6.8% year to year.  The increase in the held-to-maturity portfolio, which consists entirely ofcompetition for municipal investments is duethe primary reason for the decrease year to the renewal earlyyear in the third quarter of 2010 of municipal investments that matured at the end of the second quarter of 2010, as well as to the addition of some new municipal investments.this portfolio.

     Time deposits decreased $20.8 millionincreased $140,493 or 12.4%0.1% from December 31, 20092010 to September 30,March 31, 2011 and decreased $8,804,187 or  5.8% from March 31, 2010 and $24.6 million or 14.4% from September 30, 2009 to September 30, 2010.  Competitive interest rate programs at other financial institutions accounted for some of the decrease as the Company chose to seek alternate sources of funding (primarily FHLBB borrowings) to replace these higher cost deposits.  Also affecting the time deposit balances in the comparison was the decline in the balance of one-way purchased funds in the CDARS program.  At September 30, 2010, there were no funds in the one-way purchased funds program compared to $15.1 million on DecemberMarch 31, 2009 and $5.4 million on September 30, 2009.  During the first quarter of 2010, as $15.1 million in purchased CDARS f unds matured, they were replaced with FHLBB advances, which are included in the $23.0 million increase in long-term borrowings compared to year end 2009.  The new ICS deposit product mentioned throughout various sections of this discussion also contributed2011 due primarily to the decrease in time deposits as customers currently inshift of customer’s from the CDARS program chose to shift their maturing funds intothe ICS accounts.program.  Savings deposits increased $4.5 million$4,690,350 or 8.6%8.3% during the first ninethree months of 20102011 and $3.4 million$5,892,256 or 6.4%10.7% year to year.  Demand deposits increased $4.0 milliondecreased $1,652,975 or 7.6%3.0% during the first ninethree months of 2010, and $3.5 million2011, compared to an increase of $2,252,891 or 6.5%4.4% year to year.  NOW and money market funds reported an increasea decrease of $13.2 million$3,812,784 or just over 9.0%2.1% for the first ninethree months of 2010, and2011, while year over year an increase of $34.8 million$38,230,128 or 27.9%27.2% was reported.  Thereported due primarily to the NOW account held by the Company’s municipal accounts, which are primarily a component of NOW and money market funds, tend to increase duringaffiliate, CFSG.  Long-term borrowings as presented for the last part of the calendar year due to normal cyclical activity and then during the first six months of the year they gradually decrease to volumes well below the year end totals accounting for a portion of the changetable above decreased $15,000,000 or 45.4% in both comparison periods.  In the first quarter 2010, the Company established a new money market account with its affiliate, CFSG, which at September 30, 2010 had a balance of $19.1 million, accounting for more than half of the increase year over year.  The new ICS product also accounted for a portion of this increase with a balance as of September 30, 2010 of just over $3.0 million.  Federal funds purchased started with a balance of $13.5 million at September 30, 2009, decreased $10.1 million or 74.7% to $3.4 million at December 31, 2009 and then decreased to $0 as of September 30, 2010.  Long-term borrowings increased $23.0 million or 229.8% compared to December 31, and September 30, 2009.  The average cost of funds from FHLBB during 2009 and into 2010 w as approximately 0.31%, causing the Company to rely more heavily on this source of funding as opposed to offering higher rates in order to replace maturing time deposits, including the $15.1 million in purchased CDARS deposits.  While the Company strives to keep its core customers, there was not as much emphasis placed on attracting rate shoppers during 2010.

RISK MANAGEMENT

Interest Rate Risk and Asset and Liability Management - Management actively monitors and manages its interest rate risk exposure and attempts to structure the balance sheet to maximize net interest income while controlling its exposure to interest rate risk.  The Company's Asset/Liability Management Committee (ALCO) is made up of the Executive Officers and all the Vice Presidents of the Bank.  The ALCO formulates strategies to manage interest rate risk by evaluating the impact on earnings and capital of such factors as current interest rate forecasts and economic indicators, potential changes in such forecasts and indicators, liquidity and various business strategies.  The A LCOALCO meets monthly to review financial statements, liquidity levels, yields and spreads to better understand, measure, monitor and control the Company’s interest rate risk.  In the ALCO process, the committee members apply policy limits set forth in the Asset Liability, Liquidity and Investment policies approved and periodically reviewed by the Company’s Board of Directors.  The ALCO's methods for evaluating interest rate risk include an analysis of the effects of interest rate changes on net interest income and an analysis of the Company's interest rate sensitivity "gap", which provides a static analysis of the maturity and repricing characteristics of the entire balance sheet.

     Interest rate risk represents the sensitivity of earnings to changes in market interest rates.  As interest rates change, the interest income and expense streams associated with the Company’s financial instruments also change, thereby impacting net interest income (NII), the primary component of the Company’s earnings.  Fluctuations in interest rates can also have an impact on liquidity.  The ALCO uses an outside consultant to perform rate shock simulations to the Company's net interest income, as well as a variety of other analyses.  It is the ALCO’s function to provide the assumptions used in the modeling process.  The ALCO utilizes the results of this simulation model to quantify the estimated exposure of NII and liquidity to sustained interest rate changes.  The simulation model captures the impact of changing interest rates on the interest income received and interest expense paid on all interest-earning assets and interest-bearing liabilities reflected inon the Company’s balance sheet.  Furthermore, the model simulates the balance sheet’s sensitivity to a prolonged flat rate environment. All rate scenarios are simulated assuming a parallel shift of the yield curve; however further simulations are performed utilizing a flattening and steepening yield curve as well. This sensitivity analysis is compared to the ALCO policy limits which specify a maximum tolerance level for NII exposure over a 1-year horizon, assuming no balance sheet growth, given a 200 basis point (bp) shift upward and a 100 bp shift downward shifts in interest rates depending on the current rate environment.rates.  The analysis also provides a summary of the Company's liquidity position. Furthermore, the analysis provides testing of the assumptions used in previous simulation models by comparing the projected NII with actual NII.  The asset/liability simulation model provides m anagementmanagement with an important tool for making sound economic decisions regarding the balance sheet.

     The Company’s Asset/Liability Policy has been enhanced with a contingency funding plan to help management prepare for unforeseen liquidity challenges, with modeling based onrestrictions to include hypothetical severe liquidity crisis scenarios.crises.

     While management’s assumptions are developed based upon current economic and local market conditions, the Company cannot provide any assurances as to the predictive nature of these assumptions, including how customer preferences or competitor influences might change.  This is especially true in light of the continued significant market volatility since the collapse of the financial markets in 2008 and the unprecedented, sustained low interest rate environment.

Credit Risk - A primary challenge of management is to reduce the exposure to credit loss within the loan portfolio. Management follows loan policy andestablished underwriting guidelines, and exceptions to the policy must be approved in accordance with limits prescribed by the Board of Directors.  The adequacy of the loan loss coverage is reviewed quarterly by the risk management committee of the Board of Directors and then presented to the full Board of Directors for approval.  This committee meets to discuss, among other matters, potential exposures, historical loss experience, and overall economic conditions.  Existing or potential pr oblemsproblems are noted and addressed by senior management in order to assess the risk of probable loss.loss or delinquency.  A variety of loans are reviewed periodically by an independent loan review firm in order to assure accuracy of the Company's internal risk ratings and compliance with various internal policies and procedures as well as those set by theand regulatory authorities.guidance. The Company also hasmaintains a Credit Administration department whose function includes credit analysis and monitoring and reporting on the status of the loan portfolio, including delinquent and non-performing loans. Credit risk mayThe Company also arise from geographicmonitors concentration of loans.  While the Company’s loancredit risk in a variety of areas, including portfolio is derived primarily from its primary market area in northern Vermont, geographic concentration is partially mitigated by the continued growth of the Company’s loan portfolio in central Vermont, and through the year-end 2007 LyndonBank acquisition, which increasedproduct mix, the level of loans particularly in Caledonia County, and to a lesser extent in Lamoille and Franklin Counties.  The Company also monitors concentrations of credit to individual borrowers and their related interests, loans to various industries,industry segments, and to owner and non-owner occupiedthe geographic distribution of commercial real estate.estate loans.  The Company has seen an increase in commercial loans as a percent of the total loan portfolio, intends to continue this strategy of commercial portfolio growth, and is committed to adding additional resources to the commercial credit function to manage the risk as this growth materializes.


The following table reflects the composition of the Company's loan portfolio as of the dates indicated:

  September 30, 2010  December 31, 2009 
  Total Loans  % of Total  Total Loans  % of Total 
             
Construction & Land Development $16,893,222   4.33% $16,868,447   4.41%
Secured by Farm Land  9,760,413   2.50%  10,038,998   2.63%
1-4 Family Residential  219,628,057   56.31%  216,458,286   56.62%
Commercial Real Estate  100,663,981   25.81%  97,620,300   25.54%
Loans to Finance Agricultural Production  1,190,956   0.31%  952,305   0.25%
Commercial & Industrial Loans  28,156,081   7.22%  26,496,269   6.93%
Consumer Loans  13,318,865   3.42%  13,634,490   3.57%
All other loans  408,553   0.10%  190,011   0.05%
     Total Gross Loans  390,020,128   100.00%  382,259,106   100.00%
Reserve for loan losses  (3,706,434)      (3,450,542)    
Unearned loan fees  (85,539)      (152,188)    
      Net Loans $386,228,155      $378,656,376     

  March 31, 2011  December 31, 2010 
  Total Loans  % of Total  Total Loans  % of Total 
             
Construction & land development $17,747,597   4.57% $19,125,953   4.89%
Secured by farm land  10,585,319   2.73%  10,555,596   2.70%
1 - 4 family residential  209,107,512   53.89%  213,834,818   54.61%
Commercial real estate  105,839,972   27.28%  103,812,882   26.52%
Loans to finance agricultural production  1,230,728   0.32%  1,158,201   0.30%
Commercial & industrial loans  30,981,560   7.98%  29,887,223   7.64%
Consumer loans  12,515,066   3.23%  13,058,124   3.34%
     Total gross loans  388,007,754   100.00%  391,432,797   100.00%
Deduct:                
Reserve for loan losses  3,709,918       3,727,935     
Unearned loan fees  50,871       74,351     
Loans held-for-sale  1,054,416       2,363,938     
   4,815,205       6,166,224     
      Net loans $383,192,549      $385,266,573     

Allowance for Loan Lossesloan losses and Provisionsprovisions - The Company maintains an allowance for loan losses at a level that management believes is appropriate to absorb losses inherent in the loan portfolio (See “Critical Accounting Policies”)Policies). Although the Company, in establishing the allowance, considers the inherent losses in individual loans and pools of loans, the allowance is a general reserve available to absorb all credit losses in the loan portfolio.  No part of the allowance is segregated for, or allocated to, any particular loan or pools of loans.

     When establishing the allowance each quarter the Company applies a combination of historical loss factors and qualitative factors to poolssegments of loans, including the residential mortgage, commercial real estate, commercial and industrial, and consumer loan and overdraft portfolios.  The Company will shorten or lengthen its look back period for determining average portfolio historical loss rates as the economy either contracts or expands; during a period of economic contraction a shortening of the look back period may more conservatively reflect the current economic climate.  In light of the recent recession, in late 2008 the Company modified its allowance methodology by shortening its historical look back period from five years to one to two years, and by also comparing loss rates to losses experienced during the last economic downturn, from 1999 to 2002. The highest loss rates experienced for these look back periods are applied to the various pools in establishing the allowance.

     The Company then applies numerous qualitative factors to each of these segments of the loan portfolio. Those factors include the levels of and trends in delinquencies and non-accrual loans;loans, criticized and classified assets;loans, volumes and terms of loans;loans, and the impact of any loan policy changes. Experience, ability and depth of lending personnel, levels of policy and documentation exceptions, national and local economic trends, the competitive environment, and regulatory environments,geographic and industry concentrations of credit are also factors considered.

     Specific allocations to the reserve are made for impaired loans.  Impaired loans are those that have been placed in non-accrual status. Commercial and commercial real estate loans are placed in non-accrual status when there is deterioration in the financial position of the borrower, payment in full of principal and interest is not expected, and/or principal or interest has been in default for 90 days or more. Such a loan need not be placed in non-accrual status if it is both well secured and in the process of collection.  Residential mortgages and home equity loans are considered for non-accrual status at 90 days past due and are evaluated on a case by case basis to assure that the Company’s net income is not materially overstated. Once the loan is deemed impaired, theThe Company obt ainsobtains current property appraisals and valuations on significant properties and considers the cost to carry and sell collateral in order to assess the level of specific allocationallocations required. Consumer loans are generally not normally placed in non-accrual but are charged off by the time they reach 120 days past due.

     The Company’s impaired loans increased $772,762 or 20.1% duringA portion of the first nine months from $3.8 million at December 31, 2009allowance (termed "unallocated") is established to $4.6 millionabsorb inherent losses that exist as of September 30, 2010, reflecting the recent recession and measured recovery.  The Company was encouragedvaluation date although not specifically identified through management's process for estimating credit losses.  While the allowance is described as consisting of separate allocated portions, the entire allowance is available to report that although this is a year to date increase, $4.6 million in impaired loans represents a decreasesupport loan losses, regardless of approximately $400,000 over the figure reported for June 30, 2010 of $5.0 million.  The increase is principally related to two commercial real estate loans to one borrower totaling approximately $1.1 million.  The two loans carry 90% USDA Rural Development government guarantees amounting to $998,699.  Specific allocations to the reserve increased for the same period, from $232,900 to $423,400. While sever al impaired loans were resolved during the third quarter through a combination of property liquidations and further write downs, those were replaced in the impaired portfolio with several newly impaired residential real estate loans carrying specific allocations that reflect real estate values at recessionary market value lows.  The impaired portfolio mix as of September 30, 2010 includes approximately 74% in residential real estate and 25% in commercial real estate compared to December 31, 2009 totals of approximately 65% residential real estate and 30% commercial real estate. The increase in the percentage of residential impaired loans was principally driven by the reclassification of a commercial real estate loan to residential after the sale of underlying commercial real estate.  Loans rewritten through a troubled debt restructuring in 2009 consisted of three loans to one borrower with a balance of $629,457 as of December 31, 2009 and $573,919 as of September 30, 2010. The combined re structured loan is being repaid according to the restructured terms. One loan was restructured during the third quarter of 2010 with an outstanding balance of $1,130,516 and repayment under the new terms scheduled to commence in February, 2011. Troubled debt restructurings totaled $1,704,435 as of September 30, 2010.category.

     Management reportsThe Company works actively with customers early in the delinquency process to help them to avoid default and foreclosure. As a result of the recession that began in 2008, the Company has experienced increasing trends in delinquencies and the levels of non-performing loans and criticized and classified assets, in 2010, which is consistent with the length and depth of the most recent economic recession and the current measured recovery. Delinquency levels onAccordingly, during 2009 the other hand have remained relatively stable during 2010. Management believesCompany had carried the maximum qualitative factor adjustment for economic conditions and is now slowly decreasing that factor as the manageable level of impairedrecovery progresses. The factors for trends in delinquency and non-accrual loans and delinquency levels are in partcriticized and classified assets were similarly increased and have now leveled off as the resultrecovery takes hold. The sluggish pace of collection efforts and problem loan resolutions including collateral liquidationsthe economic recovery and the recognitionlack of related losses.  The related qualitative factorsnational economic stimulus funding in 2011 will likely translate into a slow and measured reversal of the negative trends experienced in the loan lossportfolio since the onset of the 2008 recession.

     The Company’s non-performing assets decreased $1,170,798 or 16.7% during the quarter from $6,994,117 at December 31, 2010 to $5,823,319 as of March 31, 2011.  The improvement is due to several factors, including the sale of two residential OREO properties that had combined carrying values of $445,800 at December 31, 2010, a $164,800 partial charge off of a residential mortgage loan, and the improved payment performance of several residential mortgage loans, which typically occurs during income tax refund season.

     The Company’s non-accruing loans increased $63,767 or 1.4% during the quarter from $4,426,331 at December 31, 2010 to $4,490,098 as of March 31, 2011.  Specific allocations to the reserve analysis have been adjusted accordingly.decreased for the same period, from $392,700 to $319,800 largely due to the $164,800 residential loan partial charge off. Non-accrual loans include 5 loans totaling $2,612,275 classified as Troubled Debt Restructurings (“TDRs”), down from $2,795,588 at December 31, 2010.  The reduction in TDR balances is principally due to the default of two of those loans totaling $965,716 and the related partial charge off of $164,800. Two other loans totaling $1,109,655 are scheduled to begin payments in April 2011 after completing a forbearance period; the last TDR loan is performing as agreed under its restructured terms. The impaired portfolio mix as of December 31, 2010 includes approximately 68% residential real estate, 30% commercial real estate, and 2% in commercial or installment loans not secured by real estate, compared to 73%, 26%, and 1%, at December 31, 2010.

     The Company is not contractually committed to lend additional funds to debtors with impaired, non-accrual or modified loans.

     As of September 30, 2010March 31, 20011 and December 31, 2009,2010, the OREO balance was $1,070,500$764,500 and $743,000,$1,210,300 respectively.  The Company’s OREO portfolio at September 30, 2010March 31, 2011 consisted of three properties acquired through the normal foreclosure process, amounting to $510,500with a carrying value of $271,000 and one former LyndonBank branch property in Derby, Vermont with a carryingan estimated fair value of $560,000. During the first nine months of 2010 the Company sold two foreclosed OREO properties that had carrying values totaling $181,650 and recorded a loss on one of the properties of $10,807. At December 31, 2009, the OREO portfolio consisted of two properties acquired through the normal foreclosure process amounting to $158,000 and the former LyndonBank branch property in Derby, Vermont.$493,500.  This property was placed in OREO a short time afte rafter the merger, when that branch was consolidated with the Company’s main office.other offices located in close proximity.

     During the first quarter of 2011, the Company sold two OREO properties for $444,500 and has entered into purchase and sale agreements on the former LyndonBank property, one residential property and one commercial property. The September 30, 2010Company recorded an additional $10,000 write-down in 2011 as a result of one of the 2011 sales and does not expect further write-downs in connection with the other purchase and sale agreements. Upon closing of these transactions the Company expects to be left with one of the properties that it held at March 31, 2011, a residential OREO property with a carrying value of the former branch property reflects a first quarter write down of $25,000.  The property is being actively marketed for sale.$58,000.

      The Company is committed to a conservative lending philosophy and maintains high credit and underwriting standards. As of September 30, 2010,March 31, 2011, the Company maintained a residential loan portfolio of $219.6 million$209,107,512 compared to $216.5 million$213,834,818 as of December 31, 20092010 and a commercial real estate portfolio (including construction, land development and farm land loans) of $127.3 million$134,172,888 as of September 30, 2010March 31, 2011 and $124.5 million$133,494,431 as of December 31, 2009,2010, together accounting for approximately 90% of the total loan portfolio as offor each date.period.

     The residential mortgage portfolio makes up the largest partsegment of the overall loan portfolio and while it continues to have the lowest historical loss ratioas a result of the portfolio segments, portfolioseverity and depth of the recent recession it has recently seen the greatest degree of collection and foreclosure activity and losses. The Company however, has not experienced delinquencies and losses have been increasing with higher delinquencies, foreclosures and lower property values.  Theto the extent of national peers as the Company maintains a mortgage loan portfolio of traditional mortgage products and has not engaged in higher risk loans such as option adjustable rate mortgageARM products, high loan-to-value products, interest only mortgages, subprime loans and products with deeply discounted teaser rates. In areas of the country where such risky products were originated, borrowers with little or no equity in their property have been defaulting on mortgages they can no longer afford, and are walking away from those pro pertiesproperties as real estate values have fallen precipitously.  While real estate values have declined in the Company’s market area, the sound underwriting standards historically employed by the Company have mitigated the trends in defaults and property surrenders to the extent experienced elsewhere.  The Company generally requires private mortgage insurance (PMI) on residentialResidential mortgages with loan-to-values exceeding 80% are generally covered by private mortgage insurance (PMI).  A 90% loan-to-value residential mortgage product without PMI is only available to borrowers with excellent credit and low debt-to-income ratios and has not been widely originated.  Junior lien home equity products make up 22% of the Company’s residential mortgage portfolio with maximum loan-to-value ratios (including seniorprior liens) of 80%.  While experiencing increasing delinquency and losses in this area, theThe residential mortgage portfolio has performed well in light of the extentdepth of the severity of therecent recession and problem loan lev els remain manageable.the slow recovery.

     Risk in the Company’s commercial and commercial real estate loan portfolios is mitigated in part by using government guarantees issued by federal agencies such as the US Small Business Administration and USDA Rural Development. At September 30, 2010,March 31, 2011 the Company had $21.3 million$22,343,004 in guaranteed loans, compared to $17.8 million$22,074,715 at December 31, 2009.2010.
 
 

 
The following table summarizes the Company's loan loss experience for the ninethree months ended September 30,March 31,

  2010  2009 
       
Loans Outstanding End of Period $390,020,128  $372,542,696 
Average Loans Outstanding During Period $386,040,376  $368,182,304 
Non-Accruing Loans $4,616,582  $4,550,489 
         
Loan Loss Reserve, Beginning of Period $3,450,542  $3,232,932 
Loans Charged Off:        
  Residential Real Estate  402,441   57,214 
  Commercial Real Estate  148,605   5,063 
  Commercial Loans not Secured by Real Estate  32,266   59,118 
  Consumer Loans  67,277   115,587 
       Total Loans Charged Off  650,589   236,982 
Recoveries:        
  Residential Real Estate  4,065   1,028 
  Commercial Real Estate  7,104   17,337 
  Commercial Loans not Secured by Real Estate  9,033   9,665 
  Consumer Loans  27,945   32,680 
        Total Recoveries  48,147   60,710 
Net Loans Charged Off  602,442   176,272 
Provision Charged to Income  858,334   425,003 
Loan Loss Reserve, End of Period $3,706,434  $3,481,663 
         
Net Charge Offs to Average Loans Outstanding  0.156%  0.048%
Provision Charged to Income as a Percent of Average Loans  0.222%  0.115%
Loan Loss Reserve to Average Loans Outstanding  0.960%  0.946%
Loan Loss Reserve to Non-Accruing Loans*  80.285%  76.512%
  2011  2010 
       
Loans outstanding end of period $388,007,754  $384,133,217 
Average loans outstanding during period $389,001,889  $382,812,068 
Non-accruing loans $4,490,098  $5,306,490 
         
Loan loss reserve, beginning of period $3,727,935  $3,450,542 
Loans charged off:        
  Residential real estate  (188,800)  (17,000)
  Commercial real estate  0   0 
  Commercial loans not secured by real estate  (700)  (40)
  Consumer loans  (37,590)  (27,430)
       Total loans charged off  (227,090)  (44,470)
Recoveries:        
  Residential real estate  0   1,078 
  Commercial real estate  1,090   1,022 
  Commercial loans not secured by real estate  8,106   1,539 
  Consumer loans  12,377   11,095 
        Total recoveries  21,573   14,734 
Net loans charged off  (205,517)  (29,736)
Provision charged to income  187,500   125,001 
Loan loss reserve, end of period $3,709,918  $3,545,807 
         
Net charge offs to average loans outstanding  0.053%  0.008%
Provision charged to income as a percent of average loans  0.048%  0.033%
Loan loss reserve to average loans outstanding  0.954%  0.926%
Loan loss reserve to non-accruing loans *  82.624%  66.820%

*The percentage for 2010 includes two loans that were transferred to non-accrual status during the first quarter of 2010 carrying 90% guarantees by USDA Rural Development which, if the guaranteed portion were deducted, would increase the coverage to 102.4%106.3% as of September 30,March 31, 2011 and 82.3% as of March 31, 2010.

     Given loan portfolio trends and the recent recession and stagnantmeasured recovery, the provision for loan losses was $858,334$187,500 for the ninethree months ended September 30, 2010March 31, 2011 compared to $425,003$125,001 for the ninethree months ended September 30, 2009.March 31, 2010. Charge offs during the first quarter of 2011 totaled $227,090, compared to $44,470 for the same period last year.  The higher level of 20102011 charge off activity is attributable largely to the resolution of numerous non-performing loans. The higher provision takes into account both the higher level ofone residential loan charge off activity and the increased level of specific allocations attributable to impaired loans.$168,400.  Management will continue to monitor the activity of non-performing loans, carefully assess the reserve requirement and adjust the provision in future periods as circumstances warrant. The Company has an experienced collections department that continues to actively work with borrowers to r esolveresolve problem loans.

Non-performing assets for the comparison periods were as follows:

 September 30, 2010  December 31, 2009  March 31, 2011  December 31, 2010 
    Percent     Percent     Percent     Percent 
 Balance  of Total  Balance  of Total  Balance  of Total  Balance  of Total 
            
Non-accrual loans $4,616,582   70.66% $3,843,820   74.71%
Loans past due 90 days or more and still accruing  846,213   12.95%  557,976   10.85%
Non-accrual loans:            
Commercial loans $92,215   1.58% $61,226   0.88%
Commercial real estate  1,325,271   22.76%  1,145,194   16.37%
Residential real estate  3,072,612   52.76%  3,219,911   46.04%
Loans past due 90 days or more and still accruing:                
Commercial loans  7,177   0.12%  29,446   0.42%
Commercial real estate  231,237   3.97%  94,982   1.36%
Residential real estate  292,060   5.02%  1,194,477   17.08%
Consumer  38,201   0.66%  38,466   0.55%
Other real estate owned  1,070,500   16.39%  743,000   14.44%  764,500   13.13%  1,210,300   17.30%
Total $6,533,295   100.00% $5,144,796   100.00% $5,823,273   100.00% $6,994,002   100.00%

Market Risk - In addition to credit risk in the Company’s loan portfolio and liquidity risk in its loan and deposit-taking operations, the Company’s business activities also generate market risk.  Market risk is the risk of loss in a financial instrument arising from adverse changes in market prices and rates, foreign currency exchange rates, commodity prices and equity prices.  ChangesDeclining capital markets can result in fair value adjustments necessary to record decreases in the capital markets result from events and conditions outsidevalue of the Company’s control or ability to predict withinvestment portfolio for other-than-temporary-impairment.  The Company does not have any certainty, such as changes in general economic conditions of growth or recession, inflation, regulatory or other government actions and changes in interest rates and government monetary policy.  Marke tmarket risk comprises many individual risks that, when combined, create a macroeconomic impact.

sensitive instruments acquired for trading purposes.  The Company’s market risk arises primarily from interest rate risk inherent in its lending and deposit taking activities. During times of recessionary periods, a declining housing market can result in an increase in loan loss reserves or ultimately an increase in foreclosures.  Interest rate risk is directly related to the different maturities and repricing characteristics of interest-bearing assets and liabilities, as well as to loan prepayment risks, early withdrawal of time deposits, and the fact that the speed and magnitude of responses to interest rate changes vary by product.  The recent deterioration of the economy and disruption in the financial markets has heightenedduring recent years may heighten the Company’s market risk.  TheAs discussed above under "Interest Rate Risk and Asset and Liability Management", the Company actively monitors and manages its inter estinterest rate risk through the ALCO process.

     Early in 2010, the market rates used to determine the fair value of the Company’s mortgage servicing rights remained relatively stable and at levels which indicated fair values were higher than at the end of 2009.  Subsequently, mortgage interest rates decreased throughout the second and third quarter and hit record low levels by September 30, 2010.  The low interest rates spurred another round of refinancing activity which resulted in a shift of the loans within the portfolio of sold mortgages to lower interest rates, thereby reducing prepayment speeds and bringing the value of the servicing rights of those loans closer to market rates.  Given this factor and the secondary market volume within the residential mortgage loan portfolio, the Company recorded a net increase in market value since December 31, 2009 of $104,812, which reflects a third quarter increase of $67,633.

     At September 30, 2010 and December 31, 2009, the Company’s available-for-sale portfolio included two classes of Fannie Mae preferred stock with an aggregate book value of $68,164, which reflected two other-than-temporary impairment write downs on the investment in prior periods.  The fair market value of the Fannie Mae preferred stock as of September 30, 2010 was $36,298, a decrease of $35,190 from the December 31, 2009 fair market value of $71,488.  The September 30, 2010 fair market value reflected an increase of $5,570 from the June 30, 2010 fair market value of $30,728.  The value of the stock had declined shortly before the end of the second quarter, after the Federal Housing Finance Agency ordered Fannie Mae to delist its common and preferred stock from the New Yor k Stock Exchange.  Due to the fact that there was improvement in the stock’s market value during the third quarter and the Company has the ability and intention to hold the investment for the foreseeable future, management did not record an other-than-temporary impairment on September 30, 2010.

FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEETOFF-BALANCE SHEET RISK

    The Company is a party to financial instruments with off-balance-sheetoff-balance sheet risk in the normal course of business to meet the financing needs of its customers.  These financial instruments include commitments to extend credit, standby letters of credit and risk-sharing commitments on certain sold loans.  Such instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the balance sheet.  The contract or notional amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments. During the first three months of 2011, the Company did not engage in any activity that created any additional types of off-balance sheet risk.

    The Company is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers and to reduce its own exposure to fluctuations in interest rates.  These financial instruments include commitments to extend credit (including commercial and construction lines of credit), standby letters of credit and risk-sharing commitments on certain sold loans.   Such instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the balance sheet.  The contract or notional amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments.  During the first nine months of 2010, the Company did not engage in any activity that created any additional types of off-balance-sheet risk.


     The Company generally requires collateral or other security to support financial instruments with credit risk.  The Company's financial instruments or commitments whose contract amount represents credit risk as of September 30, 2010March 31, 2011 were as follows:

 Contract or  Contract or 
 Notional Amount  Notional Amount 
      
Unused portions of home equity lines of credit $18,471,161  $18,752,616 
Other commitments to extend credit  40,167,170   34,569,549 
Residential construction lines of credit  2,159,577   1,225,874 
Commercial real estate and other construction lines of credit  9,884,234   8,634,518 
Standby letters of credit and commercial letters of credit  1,231,100   1,222,459 
Recourse on sale of credit card portfolio  383,130   401,500 
MPF credit enhancement obligation, net of liability recorded  1,645,552   1,876,364 

     Since some commitments expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements.  The recourse provision under the terms of the sale of the Company’s credit card portfolio in 2007 is based on total lines, not balances outstanding.  The remaining recourse, which consists of business customers and Canadian customers, is subject to increase, but only to the extent that the Company, in its discretion, approves a requested increase by a customer whose credit line wasis still active and included in the recourse portfolio.  Based on historical losses, and adjusting for current economic conditions, the Company does not expect any significant losses from this commitment.

LIQUIDITY AND CAPITAL RESOURCES

     Managing liquidity risk is essential to maintaining both depositor confidence and stability in earnings.  Liquidity management refers to the ability of the Company to adequately cover fluctuations in assets and liabilities.  Meeting loan demand (assets) and covering the withdrawal of deposit funds (liabilities) are two key components of the liquidity management process.  The Company’s principal sources of funds are deposits, amortization and prepayment of loans and securities, maturities of investment securities, sales of loans available for sale, and earnings and funds provided from operations.  Maintaining a relatively stable funding base, which is achieved by diversifying funding sources, competitively pricing deposit products, and extending the contractual maturity of liabilities, reduces the Company’s exposure to roll over risk on deposits and limits reliance on volatile short-term borrowed funds.  Short-term funding needs arise from declines in deposits or other funding sources and funding ofrequirements for loan commitments.  The Company’s strategy is to fund assets to the maximum extent possible with core deposits that provide a sizable source of relatively stable and low-cost funds.  When funding needs, including loan demand, outpace deposit growth,funds; however, it is necessary forincreasingly more challenging to fund the Company to use alternative funding sources, such as investment portfolio maturities, FHLBB borrowings and outside deposit funding such as CDARS deposits (described below), to meet these funding needs.balance sheet with core deposits.

     In order to attract deposits, the Company has from time to time taken the approach of offering deposit specials at competitive rates, in varying terms that fit within the balance sheet mix.  The strategy of offering specials is meant to provide a means to retain deposits while not having to reprice the entire deposit portfolio.  The Company recognizes that with increasing competition for deposits, it may at times be desirable to utilize alternative sources of deposit funding to augment retail deposits and borrowings.  One-way deposits purchased through the CDARSCertificate of Deposit Account Registry Service (CDARS) of Promontory Interfinancial Network provide an alternative funding source when needed.  Such deposits are generally considered a form of brokered deposits.  The Company had no one-way funds on September 30, 2010 and $15.1 million on D ecember 31, 2009.  In addition, two-way CDARS deposits allow the Company to provide FDIC deposit insurance to its customers in excess of account coverage limits by exchanging deposits with other CDARS members.  At September 30, 2010,March 31, 2011, the entire balance of $1.5 millionCompany reported $1,216,381 in CDARS deposits, representedrepresenting exchanged deposits with other CDARS participating banks compared to $2.1 million$1,313,834 in exchange deposits at December 31, 2009.  During the first quarter of 2010, as the $15.1 million in purchased deposits matured, they were replaced with FHLBB advances, which are included in the $19.6 million increase in borrowed funds compared to year end 2009.  Anticipating a possible increase in long-term rates due to a steepening yield curve, the Company extended $18.0 million of short-term funding into longer-term FHLBB advances with two, three and five year maturities.  Management believes this will help protect the balance sheet from interest-rate risk in the event of a rising rate environment.  This reall ocation of funds contributed to the decrease in certificates of deposit during the comparison period.

     During the first nine months of 2010, the Company's loan portfolio increased $7.8 million or 2.0%.  Demand for residential mortgages has increased steadily during the first nine months of 2010 including refinancing within the in-house loan portfolio while commercial mortgage demand increased during the beginning of 2010, but moderated during the second and third quarters of 2010.  The available-for-sale investment portfolio decreased $1.5 million or 6.1% and the held-to-maturity investment portfolio increased $8.4 million or 18.7% compared to 2009 year end levels.  Maturities in the available-for-sale portfolio were primarily reinvested into US Government Agency securities.  The increase in the held-to-maturity investments, which are municipal investments, is attribu table to the annual municipal finance cycle.  Short-term municipal investments generally mature at the end of the second quarter and are then replaced in the beginning of the third quarter.  During July, these investments increased approximately $22 million with both renewals and new municipal investments.

     On the liability side, savings deposits increased $4.5 million or 8.6%, and NOW and money market accounts increased $13.2 million or just over 9.0% while time deposits decreased $20.8 million or 12.4%.  Aggressive pricing from other financial institutions for time deposits, as well as a shift of maturing one-way CDARS to alternate sources of funding, were both factors in the decrease in time deposits, while the new ICS product contributed to a portion of the increase in money market accounts and the decrease in time deposits.  Other borrowed funds (the alternate funding source) increased $19.6 million or 146.1% for the first nine months of 2010.  The low cost of funds at FHLBB, which remains at approximately 0.31%, caused the Company to utilize this source of funding over the higher cost time deposits.

     In 2009 the Company established a borrowing line with the Federal Reserve Bank of Boston (FRBB)FRBB to be used as a contingency funding source.  To secureFor this Borrower-in-Custody arrangement, the Company pledged eligible commercial loans, commercial real estate loans and home equity loans, resulting in an available line of $66.5 million as of September 30, 2010$71,944,928 and $71.0 million as of$70,695,535, respectively at March 31, 2011 and December 31, 2009.2010.  Credit advances in the FRBB lending program are overnight advances with interest chargeable at the Primary Creditprimary credit rate (generally referred to as the discount rate), currently 75 basis points.  As of September 30, 2010At March 31, 2011 and December 31, 2009,2010, the Company did not have anyhad no outstanding borrowingsadvances against this line.

     As a member of the FHLBB, theThe Company has access to pre-approved lines of credit.  The Company had a $500,000an unsecured Federal Funds line with the FHLBB with an available balance of the same amount$500,000 at September 30, 2010March 31, 2011 and year end 2009.2010.  Interest is chargeable at a rate determined daily approximately 25 basis points higher than the rate paid on federal funds sold.  As of September 30, 2010March 31, 2011 and December 31, 2009,2010, additional borrowing capacity of approximately $88.3 million$86,663,490 and $90.9 million,$85,552,034, respectively, less outstanding advances,was available through the FHLBB was secured by the Company's qualifying loan portfolio.portfolio (generally, residential mortgages).

     Given the Federal Funds rate prevailing in 2010, the Company extended a portion of its overnight funding into $28 million in long-term advances scheduled to mature within five years, with the remainder falling into short-term FHLBB advances and overnight funding at this time.


     The following table reflects the Company’s outstanding FHLBB advances against the respective lines as of the dates indicated:

 September 30,  December 31,  September 30,  March 31,  December 31,  March 31, 
 2010  2009  2009  2011  2010  2010 
Long-Term Advances                  
FHLBB term borrowing, 2.13% fixed rate, due January 31, 2011 $10,000,000  $10,000,000  $10,000,000  $0  $10,000,000  $10,000,000 
Community Investment Program borrowing, 7.67% fixed rate,            
FHLBB Community Investment Program borrowing, 7.67% fixed rate,            
due November 16, 2012  10,000   10,000   10,000   10,000   10,000   10,000 
FHLBB term borrowing, 0.31% fixed rate, due July 23, 2010  0   0   5,000,000 
FHLBB term borrowing, 1.00% fixed rate, due January 27, 2012  6,000,000   0   0   6,000,000   6,000,000   6,000,000 
FHLBB term borrowing, 1.71% fixed rate, due January 27, 2013  6,000,000   0   0   6,000,000   6,000,000   6,000,000 
FHLBB term borrowing, 2.72% fixed rate, due January 27, 2015  6,000,000   0   0   6,000,000   6,000,000   6,000,000 
  28,010,000   10,010,000   10,010,000   18,010,000   28,010,000   33,010,000 
Short-Term Advances                        
FHLBB term borrowing, 0.39% fixed rate, due January 19, 2011  5,000,000   0   0   0   5,000,000   0 
                        
Overnight Borrowings                        
Federal funds purchased (FHLBB), 0.3125% and .2800%, respectively  0   3,401,000   13,457,000 
Federal funds purchased (FHLBB), 0.28%  0   0   3,012,000 
                        
Total $33,010,000  $13,411,000  $23,467,000 
Total Borrowings $18,010,000  $33,010,000  $36,022,000 

     Under a separate agreement, with the FHLBB, the Company has the authority to collateralize public unit deposits up to its FHLBB borrowing capacity ($88.3 million86,663,490 and $85,552,034 at September 30,March 31, 2011 and December 31, 2010, respectively, less outstanding advances noted above),advances) with letters of credit issued by the FHLBB.  The Company offers a Government Agency Account to the municipalities collateralized with these FHLBB letters of credit.  At September 30,March 31, 2011 and December 31, 2010, approximately $19.3 million$18,600,000 and $40,550,000, respectively, of eligible collateralqualifying residential real estate loans was pledged as collateral to the FHLBB to secure the Company’s obligations relating tofor these letters of credit.collateralized governmental unit deposits.

     Other alternative sourcesOn March 22, 2011, the Company declared a cash dividend of funding come from unsecured Federal Funds lines with one unaffiliated correspondent bank$0.14 on common stock payable on May 1, 2011, to shareholders of record as of April 15, 2011, which was accrued in the amount of $3.5 million.  There was no balance outstanding on this linefinancial statements at September 30, 2010 and DecemberMarch 31, 2009.2011.

The following table illustrates the changes in shareholders' equity from December 31, 20092010 to September 30, 2010:March 31, 2011:

Balance at December 31, 2009 (book value $7.56 per common share) $36,889,838 
    Net income  2,459,250 
    Issuance of stock through the Dividend Reinvestment Plan  533,808 
    Dividends declared on common stock  (1,644,628)
    Dividends declared on preferred stock  (140,625)
    Change in unrealized gain on available-for-sale securities, net of tax  (22,578)
       Balance at September 30, 2010 (book value $7.73 per common share) $38,075,065 

     On September 14, 2010, the Company declared a cash dividend of $0.12 on common stock payable on November 1, 2010, to shareholders of record as of October 15, 2010, which was accrued in the financial statements at September 30, 2010.
Balance at December 31, 2010 (book value $7.63 per common share) $39,127,669 
    Net income  944,868 
    Issuance of stock through the Dividend Reinvestment Plan  178,597 
    Dividends declared on common stock  (647,865)
    Dividends declared on preferred stock  (46,875)
    Change in unrealized gain on available-for-sale securities, net of tax  (1,554)
    Balance at March 31, 2011 (book value $7.97 per common share) $39,554,840 

     The primary source of funds for the Company's payment of dividends to its shareholders is dividends paid to the Company by the Bank.  The Bank, as a national bank, is subject to certainthe dividend restrictions undercontained in the National Bank Act and regulations of the Comptroller of the Currency (OCC).Act.  Under such restrictions, the Bank may not, without the prior approval of the OCC,Comptroller of the Currency (“OCC”), declare dividends in excess of the sum of the current year's earnings (as defined) plus the retained earnings (as defined) from the prior two years.

     The Company is(on a consolidated basis) and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies.  Failure to meet minimum capital requirements can initiate certain mandatory - and possibly additional discretionary - actions by regulators that, if undertaken, could have a direct material effect on the Company's and the Bank's financial statements.  Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance-sheet items, as calculated under regulatory accounting practices. Capital amounts and classifications are also subject to regulatory restrictionsqualitative judgments by the regulators about components, risk weightings, and other factors.  Prompt corrective action capital requirements are applicable to payment of dividends bybanks, but not bank holding companies, some circumstances, such as where dividends would exceed current period earnings, or where the bank holding company is in a troubled financial condition.companies.

     Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios (set forth in the table below) of total and Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined), and a so-called leverage ratio of Tier 1 capital (as defined) to average assets (as defined).  Under current guidelines, banks must maintain a risk-basedThe Company’s Series A preferred stock ($2,500,000 liquidation preference) is includable without limitation in its Tier 1 capital.  For 2010 and prior annual and quarterly periods the Company’s trust preferred junior subordinated debentures have been includable in Tier 1 capital ratio of 8.0%, of which at least 4.0% must be in the formup to 25% of core capital (as defined).elements, with the balance includable in Tier 2 capital.

     RegulatorsIn accordance with changes in the regulatory requirements for calculating capital ratios, beginning March 31, 2011, the Company is required to deduct the amount of goodwill, net of deferred tax liability ($2,061,772 at March 31, 2011), for purposes of calculating the amount of trust preferred junior subordinated debentures includable in Tier 1 capital ($10,004,100).  Under the previous method the amount of trust preferred junior subordinated debentures includable in Tier 1 capital would have also established minimum capital ratio guidelines for FDIC-insured banks under the prompt corrective action provisions of the Federal Deposit Insurance Act, as amended.  These minimums arebeen $12,887,000, resulting in a total risk-based capital ratio of 10.0%,Tier 1 capital to risk-weighted assets of 11.39% and a Tier I risk-based capital ratio of 6%,Tier 1 capital to average assets of 7.64%.  Management believes, as of March 31, 2011, that the Company and a leverage ratio of 5%.the Bank met all capital adequacy requirements to which they are subject.

     As of September 30, 2010,March 31, 2011 the Company’s SubsidiaryBank was deemedconsidered well capitalized under the regulatory capital framework for prompt corrective action. There are no conditions or events since that time that management believes have changedPrompt Corrective Action and the Subsidiary's classification.Company exceeded applicable consolidated regulatory capital guidelines.


     The regulatory capital ratios of the Company and its subsidiary as of September 30, 2010March 31, 2011 and December 31, 20092010 exceeded regulatory guidelines and are presented in the following table.

    Minimum
   MinimumTo Be Well
   For CapitalCapitalized Under
   AdequacyPrompt Corrective
 ActualPurposes:Action Provisions:
 AmountRatio AmountRatioAmountRatio
 (Dollars in Thousands)
As of September 30, 2010:      
Total capital (to risk-weighted assets)      
   Consolidated$42,53211.93%$28,5228.00%N/AN/A
   Bank$41,93211.79%$28,4648.00%$35,58010.00%
Tier I capital (to risk-weighted assets)      
   Consolidated$38,80010.88%$14,2614.00%N/AN/A
   Bank$38,19910.74%$14,2324.00%$21,3486.00%
Tier I capital (to average assets)      
   Consolidated$38,8007.66%$20,2554.00%N/AN/A
   Bank$38,1997.55%$20,2284.00%$25,2855.00%
       
As of December 31, 2009:      
Total capital (to risk-weighted assets)      
   Consolidated$40,32611.57%$27,8778.00%N/AN/A
   Community National Bank$40,33611.60%$27,8118.00%$34,76410.00%
Tier I capital (to risk-weighted assets)      
   Consolidated$36,87510.58%$13,9394.00%N/AN/A
   Community National Bank$36,88510.61%$13,9064.00%$20,8586.00%
Tier I capital (to average assets)      
   Consolidated$36,8757.50%$19,6744.00%N/AN/A
   Community National Bank$36,8857.51%$19,6434.00%$24,5545.00%
     Minimum
   MinimumTo Be Well
   For CapitalCapitalized Under
   AdequacyPrompt Corrective
 ActualPurposes:Action Provisions:
 AmountRatio AmountRatioAmountRatio
 (Dollars in Thousands)
As of March 31, 2011:
Total capital (to risk-weighted assets)
   Company$44,58412.45%$28,6488.00%N/AN/A
   Bank$43,98512.30%$28,6098.00%$35,76210.00%
 
Tier I capital (to risk-weighted assets)
   Company$37,92010.59%$14,3244.00%N/AN/A
   Bank$40,20411.24%$14,3054.00%$21,4576.00%
 
Tier I capital (to average assets)
   Company$37,9207.25%$20,9264.00%N/AN/A
   Bank$40,2047.69%$20,9094.00%$26,1375.00%
 
As of December 31, 2010:
Total capital (to risk-weighted assets)
   Company$43,94212.33%$28,5058.00%N/AN/A
   Bank$43,36412.20%$28,4398.00%$35,54910.00%
 
Tier I capital (to risk-weighted assets)
   Company$40,18711.28%$14,2534.00%N/AN/A
   Bank$39,61011.14%$14,2204.00%$21,3296.00%
 
Tier I capital (to average assets)
   Company$40,1877.52%$21,3764.00%N/AN/A
   Bank$39,6107.42%$21,3454.00%$26,6815.00%


     The Company intends to maintaincontinue the past policy of maintaining a strong capital resource position in excessto support its asset size and level of the minimums shown above.operations.  Consistent with that policy, management will continue to anticipate the Company's future capital needs and will adjust its dividend payment practices consistent with those needs.

     From time to time the Company may make contributions to the capital of Community National Bank.  At present, regulatory authorities have made no demand on the Company to make additional capital contributions.

ITEM 3. Quantitative and Qualitative Disclosures about Market Risk

     The Company's management of the credit, liquidity and market risk inherent in its business operations is discussed in Part 1, Item 2 of this report under the captions "RISK MANAGEMENT" and “FINANCIAL INSTRUMENTS WITH OFF BALANCE SHEET RISK”, which are incorporated herein by reference.  Management does not believe that there have been any material changes in the nature or categories of the Company's risk exposures from those disclosed in the Company’s 20092010 annual report on form 10-K/A.10-K.



ITEM 4. Controls and Procedures

Disclosure Controls and Procedures

     Management is responsible for establishing and maintaining effective disclosure controls and procedures, as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”).  As of September 30, 2010,March 31, 2011, an evaluation was performed under the supervision and with the participation of management, including the principal executive officer and principal financial officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures.  Based on that evaluation, management concluded that its disclosure controls and procedures as of September 30, 2010March 31, 2011 were effective in ensuring that material information required to be disclosed in the reports it files with the Commission under the Exchange Act was recorded, processed, , summarized, and reported on a timely basis.

     For this purpose, the term “disclosure controls and procedures” means controls and other procedures of the Company that are designed to ensure that information required to be disclosed by it in the reports that it files or submits under the Exchange Act (15 U.S.C. 78a et seq.) is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms.  Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the Company’s management, including its principal executive and principa lprincipal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Control Over Financial Reporting

     There were no changes in the Company’s internal control over financial reporting that occurred during the quarter ended September 30, 2010March 31, 2011 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II. OTHER INFORMATION

ITEM 1. Legal Proceedings

     In the normal course of business the Company and its subsidiary are involved in litigation that is considered incidental to their business.  Management does not expect that any such litigation will be material to the Company's consolidated financial condition or results of operations.

ITEM 2. Unregistered Sales of Equity Securities and Use of Proceeds

     The following table provides information as to purchases of the Company’s common stock during the quarter ended September 30, 2010,March 31, 2011, by the Company and by any affiliated purchaser (as defined in SEC Rule 10b-18):

           Maximum Number of 
        Total Number of  Shares That May Yet 
  Total Number  Average  Shares Purchased  Be Purchased Under 
  of Shares  Price Paid  as Part of Publicly  the Plan at the End 
For the period: Purchased(1)(2)  Per Share  Announced Plan  of the Period 
             
July 1 – July 31  1,900  $9.63   N/A   N/A 
August 1 – August 30  4,000   9.70   N/A   N/A 
September 1 – September 30  0   0.00   N/A   N/A 
     Total  5,900  $9.68   N/A   N/A 

           Maximum Number of 
        Total Number of  Shares That May Yet 
  Total Number  Average  Shares Purchased  Be Purchased Under 
  of Shares  Price Paid  as Part of Publicly  the Plan at the End 
For the period: Purchased(1)(2)  Per Share  Announced Plan  of the Period 
             
January 1 – January 31  0  $0.00   N/A   N/A 
February 1 – February 28  14,423   8.85   N/A   N/A 
March 1 – March 31  9,228   8.82   N/A   N/A 
     Total  23,651  $8.84   N/A   N/A 

(1)  All 5,90023,651 shares were purchased for the account of participants invested in the Company Stock Fund under the Company’s Retirement Savings Plan by or on behalf of the Plan Trustee, the Human Resources Committee of Community National Bank.  Such share purchases were facilitated through CFSG, which provides certain investment advisory services to the Plan.  Both the Plan Trustee and CFSG may be considered affiliates of the Company under Rule 10b-18.

(2)  Shares purchased during the period do not include fractional shares repurchased from time to time in connection with the participant's election to discontinue participation in the Company's Dividend Reinvestment Plan.


ITEM 6. Exhibits

The following exhibits are filed with this report:
Exhibit 31.1 - Certification from the Chief Executive Officer of the Company pursuant to section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 31.2 - Certification from the Chief Financial Officer of the Company pursuant to section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 32.1 - Certification from the Chief Executive Officer of the Company pursuant to 18 U.S.C., Section 1350, as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002*
Exhibit 32.2 - Certification from the Chief Financial Officer of the Company pursuant to 18 U.S.C., Section 1350, as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002*

*This exhibit shall not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, or otherwise subject to the liability of that section, and shall not be deemed to be incorporated by reference into any filing under the Securities Act of 1933 or the Securities Act of 1934.

 
 

 

Index

SIGNATURES

     Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

COMMUNITY BANCORP.


DATED:  NovemberMay 10, 20102011/s/ Stephen P. Marsh                     
 Stephen P. Marsh, President & 
 Chief Executive Officer 
   
DATED:  NovemberMay 10, 20102011/s/ Louise M. Bonvechio                 
 Louise M. Bonvechio,  Vice President 
 & Chief Financial Officer