Suffolk Bancorp (SCNB) 10-Q 2014 Q3 Quarterly report

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended: SEPTEMBER 30, 2014

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 No. 000-13580

SUFFOLK BANCORP

(Exact Name of Registrant as Specified in Its Charter)

NEW YORK	11-2708279
(State or Other Jurisdiction of Incorporation or Organization)	(I.R.S. Employer Identification No.)

4 WEST SECOND STREET, P.O. BOX 9000, RIVERHEAD, NY 11901

(Address of Principal Executive Offices) (Zip Code)

(631) 208-2400

(Registrant’s Telephone Number, Including Area Code)

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

Yes x    No ¨

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

Yes x    No ¨

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 x
Non-accelerated filer ¨	Smaller reporting company ¨

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

Yes ¨    No x

As of October 15, 2014, there were 11,667,752 shares of registrant’s Common Stock outstanding.

SUFFOLK BANCORP

Form 10-Q

For the Quarterly Period Ended September 30, 2014

Table of Contents

		Page
	PART I
Item 1.	Financial Statements
	Condensed Consolidated Statements of Condition (Unaudited) as of September 30, 2014 and December 31, 2013	2
	Condensed Consolidated Statements of Operations (Unaudited) for the Three and Nine Months Ended September 30, 2014 and 2013	3
	Condensed Consolidated Statements of Comprehensive Income (Loss) (Unaudited) for the Three and Nine Months Ended September 30, 2014 and 2013	4
	Condensed Consolidated Statements of Changes in Stockholders’ Equity (Unaudited) for the Nine Months Ended September 30, 2014 and 2013	4
	Condensed Consolidated Statements of Cash Flows (Unaudited) for the Nine Months Ended September 30, 2014 and 2013	5
	Notes to Unaudited Condensed Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	30
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	42
Item 4.	Controls and Procedures	43
	PART II
Item 1.	Legal Proceedings	43
Item 1A.	Risk Factors	43
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	43
Item 3.	Defaults upon Senior Securities	43
Item 4.	Mine Safety Disclosures	43
Item 5.	Other Information	43
Item 6.	Exhibits	44
	Signatures	45

1

PART I

ITEM 1. – FINANCIAL STATEMENTS

SUFFOLK BANCORP AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CONDITION (UNAUDITED)

September 30, 2014 and December 31, 2013

(dollars in thousands, except per share data)

	September 30, 2014			December 31, 2013
ASSETS
Cash and cash equivalents
Cash and non-interest-bearing deposits due from banks	$	49,618		$	69,065
Interest-bearing deposits due from banks		20,534			62,287
Federal funds sold		1,000			1,000
Total cash and cash equivalents		71,152			132,352
Interest-bearing time deposits in other banks		10,000			10,000
Federal Reserve Bank,  Federal Home Loan Bank and other stock		3,200			2,863
Investment securities:
Available for sale, at fair value		308,589			400,780
Held to maturity (fair value of $63,942 and $12,234, respectively)		62,323			11,666
Total investment securities		370,912			412,446
Loans		1,262,061			1,068,848
Allowance for loan losses		18,800			17,263
Net loans		1,243,261			1,051,585
Loans held for sale		-			175
Premises and equipment, net		23,901			25,261
Bank owned life insurance		44,791			38,755
Deferred taxes		13,217			13,953
Income tax receivable		252			-
Accrued interest and loan fees receivable		6,227			5,441
Goodwill and other intangibles		2,987			2,978
Other assets		3,142			4,007
TOTAL ASSETS	$	1,793,042		$	1,699,816
LIABILITIES & STOCKHOLDERS' EQUITY
Demand deposits	$	681,306		$	628,616
Saving, N.O.W. and money market deposits		675,037			656,366
Time certificates of $100,000 or more		165,337			158,337
Other time deposits		59,089			66,742
Total deposits		1,580,769			1,510,061
Borrowings		10,000			-
Capital leases		4,538			4,612
Other liabilities		14,538			17,945
TOTAL LIABILITIES		1,609,845			1,532,618
COMMITMENTS AND CONTINGENT LIABILITIES
STOCKHOLDERS' EQUITY
Common stock (par value $2.50; 15,000,000 shares authorized; 13,833,328 shares and 13,738,752 shares issued at September 30, 2014 and December 31, 2013, respectively; 11,667,590 shares and 11,573,014 shares outstanding at September 30, 2014 and December 31, 2013, respectively)		34,583			34,348
Surplus		43,934			43,280
Retained earnings		112,803			102,273
Treasury stock at par (2,165,738 shares)		(5,414	)		(5,414	)
Accumulated other comprehensive loss, net of tax		(2,709	)		(7,289	)
TOTAL STOCKHOLDERS' EQUITY		183,197			167,198
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY	$	1,793,042		$	1,699,816

See accompanying notes to unaudited condensed consolidated financial statements.

2

SUFFOLK BANCORP AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)

For the Three and Nine Months Ended September 30, 2014 and 2013

(dollars in thousands, except per share data)

	Three Months Ended September 30,					Nine Months Ended September 30,
	2014		2013			2014			2013
INTEREST INCOME
Loans and loan fees	$	13,396	$	11,464		$	39,476		$	33,796
U.S. Government agency obligations		553		592			1,772			1,405
Obligations of states and political subdivisions		1,428		1,477			4,422			4,466
Collateralized mortgage obligations		198		386			672			1,767
Mortgage-backed securities		474		518			1,475			1,357
Corporate bonds		38		92			215			305
Federal funds sold and interest-bearing deposits due from banks		35		140			123			502
Dividends		42		36			115			111
Total interest income		16,164		14,705			48,270			43,709
INTEREST EXPENSE
Saving, N.O.W. and money market deposits	��	291		308			870			888
Time certificates of $100,000 or more		227		280			695			874
Other time deposits		95		145			309			486
Borrowings		2		-			7			-
Total interest expense		615		733			1,881			2,248
Net interest income		15,549		13,972			46,389			41,461
Provision for loan losses		250		-			750			-
Net interest income after provision for loan losses		15,299		13,972			45,639			41,461
NON-INTEREST INCOME
Service charges on deposit accounts		887		964			2,834			2,839
Other service charges, commissions and fees		778		928			2,349			2,451
Fiduciary fees		265		279			824			815
Net gain (loss) on sale of securities available for sale		11		3			(12	)		395
Net gain on sale of portfolio loans		217		-			217			445
Net gain on sale of mortgage loans originated for sale		51		142			214			973
Net gain on sale of premises and equipment		-		-			752			-
Gain on Visa shares sold		-		3,836			-			3,836
Income from bank owned life insurance		316		357			1,036			399
Other operating income		25		78			106			215
Total non-interest income		2,550		6,587			8,320			12,368
OPERATING EXPENSES
Employee compensation and benefits		8,628		8,709			25,977			24,037
Occupancy expense		1,295		1,585			4,141			4,787
Equipment expense		418		616			1,301			1,745
Consulting and professional services		693		735			1,883			1,881
FDIC assessment		202		373			737			1,414
Data processing		549		607			1,681			1,823
Branch consolidation costs		-		460			(449	)		460
Reserve and carrying costs related to Visa shares sold		57		474			172			474
Other operating expenses		1,394		1,531			4,254			4,962
Total operating expenses		13,236		15,090			39,697			41,583
Income before income tax expense		4,613		5,469			14,262			12,246
Income tax expense		875		1,557			3,033			2,856
NET INCOME	$	3,738	$	3,912		$	11,229		$	9,390
EARNINGS PER COMMON SHARE - BASIC	$	0.32	$	0.34		$	0.97		$	0.81
EARNINGS PER COMMON SHARE - DILUTED	$	0.32	$	0.34		$	0.96		$	0.81
WEIGHTED AVERAGE COMMON SHARES - BASIC		11,661,544		11,573,014	��		11,611,790			11,569,961
WEIGHTED AVERAGE COMMON SHARES - DILUTED		11,716,286		11,606,702			11,667,991			11,583,044

See accompanying notes to unaudited condensed consolidated financial statements.

3

SUFFOLK BANCORP AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (UNAUDITED)

For the Three and Nine Months Ended September 30, 2014 and 2013

(in thousands)

	Three Months Ended September 30,						Nine Months Ended September 30,
	2014			2013			2014		2013
Net income	$	3,738		$	3,912		$	11,229	$	9,390
Other comprehensive (loss) income, net of tax and reclassification adjustments:
Net change in unrealized (loss) gain on securities available for sale arising during the period		(601	)		(1,445	)		4,580		(11,887	)
Pension and post-retirement plan benefit obligation		-			-			-		(277	)
Total other comprehensive (loss) income, net of tax		(601	)		(1,445	)		4,580		(12,164	)
Total comprehensive income (loss)	$	3,137		$	2,467		$	15,809	$	(2,774	)

See accompanying notes to unaudited condensed consolidated financial statements.

SUFFOLK BANCORP AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF

CHANGES IN STOCKHOLDERS' EQUITY (UNAUDITED)

For the Nine Months Ended September 30, 2014 and 2013

(in thousands, except per share data)

	Nine Months Ended September 30,
	2014			2013
Common stock
Balance, January 1	$	34,348		$	34,330
Dividend reinvestment		5			-
Stock options exercised		46			18
Stock-based compensation		184			-
Ending balance		34,583			34,348
Surplus
Balance, January 1		43,280			42,628
Dividend reinvestment		38			-
Stock options exercised		200			74
Stock-based compensation		416			367
Ending balance		43,934			43,069
Retained earnings
Balance, January 1		102,273			89,555
Net income		11,229			9,390
Cash dividend on common stock ($0.06 per share in 2014)		(699	)		-
Ending balance		112,803			98,945
Treasury stock
Balance, January 1		(5,414	)		(5,414	)
Ending balance		(5,414	)		(5,414	)
Accumulated other comprehensive (loss) income, net of tax
Balance, January 1		(7,289	)		2,886
Other comprehensive income (loss)		4,580			(12,164	)
Ending balance		(2,709	)		(9,278	)
Total stockholders' equity	$	183,197		$	161,670

See accompanying notes to unaudited condensed consolidated financial statements.

4

SUFFOLK BANCORP AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

For the Nine Months Ended September 30, 2014 and 2013

(in thousands)

	Nine Months Ended September 30,
	2014			2013
NET INCOME	$	11,229		$	9,390
ADJUSTMENTS TO RECONCILE NET INCOME TO NET CASH PROVIDED BY OPERATING ACTIVITIES
Provision for loan losses		750			-
Depreciation and amortization		1,775			2,221
Stock-based compensation		600			367
Net amortization of premiums		889			1,002
Originations of mortgage loans for sale		(10,745	)		(38,438	)
Proceeds from sale of mortgage loans originated for sale		11,134			43,378
Gain on sale of mortgage loans originated for sale		(214	)		(973	)
Gain on sale of portfolio loans		(217	)		(445	)
Increase in other intangibles		(9	)		(313	)
Deferred tax (benefit) expense		(1,914	)		2,434
(Increase) decrease in income tax receivable		(252	)		363
Increase in accrued interest and loan fees receivable		(786	)		(1,083	)
Decrease in other assets		865			2,337
Decrease in other liabilities		(3,407	)		(1,447	)
Income from bank owned life insurance		(1,036	)		(399	)
Gain on Visa shares sold		-			(3,836	)
Gain on sale of premises and equipment		(752	)		-
Loss on sale of other real estate owned ("OREO")		-			47
Loss (gain) on sale of securities available for sale		12			(395	)
Net cash provided by operating activities		7,922			14,210
CASH FLOWS FROM INVESTING ACTIVITIES
Principal payments on investment securities		9,692			49,307
Proceeds from sale of investment securities - available for sale		20,604			13,427
Maturities of investment securities - available for sale		20,807			22,001
Purchases of investment securities - available for sale		(800	)		(115,803	)
Maturities of investment securities - held to maturity		994			1,481
Purchases of investment securities -  held to maturity		(3,434	)		(600	)
Increase in interest-bearing time deposits in other banks		-			(10,000	)
(Increase) decrease in Federal Reserve Bank, Federal Home Loan Bank and other stock		(337	)		127
Proceeds from sale of portfolio loans		25,371			1,349
Loan originations - net		(217,580	)		(223,288	)
Proceeds from sale of Visa shares		-			3,836
Proceeds from sale of premises and equipment		1,064			-
Proceeds from sale of OREO		-			1,525
Increase in bank owned life insurance		(5,000	)		(38,000	)
Purchases of premises and equipment - net		(727	)		(917	)
Net cash used in investing activities		(149,346	)		(295,555	)
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase in deposit accounts		70,708			106,136
Net increase in borrowings		10,000			-
Proceeds from stock options exercised		246			92
Cash dividends paid on common stock		(699	)		-
Proceeds from shares issued under the dividend reinvestment plan		43			-
Decrease  in capital lease payable		(74	)		(53	)
Net cash provided by financing activities		80,224			106,175
NET DECREASE IN CASH AND CASH EQUIVALENTS		(61,200	)		(175,170	)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD		132,352			385,806
CASH AND CASH EQUIVALENTS, END OF PERIOD	$	71,152		$	210,636
SUPPLEMENTAL DATA:
Interest paid	$	1,892		$	2,263
Income taxes paid	$	5,264		$	53
Loans transferred to held-for-sale	$	25,221		$	-
Investment securities transferred from available for sale to held to maturity	$	48,147		$	-

See accompanying notes to unaudited condensed consolidated financial statements.

5

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1. FINANCIAL STATEMENT PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES

The unaudited interim condensed consolidated financial statements include the accounts of Suffolk Bancorp (the “Company”) and its wholly owned subsidiaries, the Suffolk County National Bank of Riverhead and its subsidiaries (the “Bank”) and Suffolk Trust Company. The Bank formed Suffolk Greenway, Inc. (the “REIT”), a real estate investment trust, and owns 100% of an insurance agency and two corporations used to acquire foreclosed real estate. The insurance agency and the two corporations used to acquire foreclosed real estate are immaterial to the Company’s operations. Suffolk Bancorp and subsidiaries are collectively referred to hereafter as the “Company.” All material intercompany accounts and transactions have been eliminated in consolidation.

In the opinion of the Company’s management, the preceding unaudited interim condensed consolidated financial statements contain all adjustments, consisting of normal accruals, necessary for a fair presentation of its condensed consolidated statements of condition as of September 30, 2014 and December 31, 2013, its condensed consolidated statements of operations for the three and nine months ended September 30, 2014 and 2013, its condensed consolidated statements of comprehensive income (loss) for the three and nine months ended September 30, 2014 and 2013, its condensed consolidated statements of changes in stockholders’ equity for the nine months ended September 30, 2014 and 2013 and its condensed consolidated statements of cash flows for the nine months ended September 30, 2014 and 2013.

The preceding unaudited interim condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X, as well as in accordance with predominant practices within the banking industry. They do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. The preparation of the financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and the accompanying notes. Actual results could differ from those estimates. The results of operations for the three and nine months ended September 30, 2014 are not necessarily indicative of the results of operations to be expected for the remainder of the year. For further information, please refer to the audited consolidated financial statements and footnotes thereto included in the Company’s 2013 Annual Report on Form 10-K.

Earnings Per Share - Basic earnings per share is computed based on the weighted average number of common shares and unvested restricted shares outstanding for each period. The Company’s unvested restricted shares are considered participating securities as they contain rights to non-forfeitable dividends and thus they are included in the basic earnings per share computation. Diluted earnings per share includes the dilutive effect of additional potential common shares issuable under stock options. In the event a net loss is reported, restricted shares and stock options are excluded from earnings per share computations.

The reconciliation of basic and diluted weighted average number of common shares outstanding for the three and nine months ended September 30, 2014 and 2013 follows.

	Three Months Ended September 30,				Nine Months Ended September 30,
	2014		2013		2014		2013
Weighted average common shares outstanding		11,586,564		11,573,014		11,578,350		11,569,961
Weighted average unvested restricted shares		74,980		-		33,440		-
Weighted average shares for basic earnings per share		11,661,544		11,573,014		11,611,790		11,569,961
Additional diluted shares:
Stock options		54,742		33,688		56,201		13,083
Weighted average shares for diluted earnings per share		11,716,286		11,606,702		11,667,991		11,583,044

Loans and Loan Interest Income Recognition - Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are reported at the principal balance outstanding, net of unearned discounts, deferred loan fees and costs. Unearned discounts on installment loans are credited to income using methods that result in a level yield. Loan origination fees, net of certain direct origination costs, are deferred and recognized in interest income over the respective term of the loan without anticipating prepayments.

6

Interest income is accrued on the unpaid loan principal balance. Recognition of interest income is discontinued when reasonable doubt exists as to whether principal or interest due can be collected. Loans of all classes will generally no longer accrue interest when over 90 days past due unless the loan is well-secured and in process of collection. When a loan is placed on non-accrual status, all interest previously accrued, but not collected, is reversed against current-year interest income. Interest received on such loans is applied against principal or interest, according to management’s judgment as to the collectability of the principal, until qualifying for return to accrual status. Loans may start accruing interest again when they become current as to principal and interest for at least six months, and when, after a well-documented analysis by management, it has been determined that the loans can be collected in full.  For all classes of loans, an impaired loan is defined as a loan for which it is probable that the lender will not collect all amounts due under the contractual terms of the loan agreement. Loans for which the terms have been modified resulting in a concession, and for which the borrower is experiencing financial difficulties are considered troubled debt restructurings (“TDRs”) and are classified as impaired. Generally, TDRs are initially classified as non-accrual until sufficient time has passed to assess whether the restructured loan will continue to perform. For impaired, accruing loans, interest income is recognized on an accrual basis with cash offsetting the recorded accruals upon receipt.

Allowance for Loan Losses - The allowance for loan losses is a valuation allowance for probable incurred losses, increased by the provision for loan losses and recoveries, and decreased by loan charge-offs. For all classes of loans, when a loan, in full or in part, is deemed uncollectible, it is charged against the allowance for loan losses. This happens when the loan is past due and the borrower has not shown the ability or intent to make the loan current, or the borrower does not have sufficient assets to pay the debt, or the value of the collateral is less than the balance of the loan and is not considered likely to improve soon. The allowance for loan losses is determined by a quarterly analysis of the loan portfolio. Such analysis includes changes in the size and composition of the portfolio, the Company’s own historical loan losses, industry-wide losses, current and anticipated economic trends, and details about individual loans. It also includes estimates of the actual value of collateral, other possible sources of repayment and estimates that are susceptible to significant changes due to changes in appraisal values of collateral, national and regional economic conditions and other relevant factors. All non-accrual loans over $250 thousand in the commercial and industrial, commercial real estate and real estate construction loan classes and all TDRs are evaluated individually for impairment. All other loans are generally evaluated as homogeneous pools with similar risk characteristics. In assessing the adequacy of the allowance for loan losses, management reviews the loan portfolio by separate classes that have similar risk and collateral characteristics. These classes are commercial and industrial, commercial real estate, multifamily, mixed use commercial, real estate construction, residential mortgages, home equity and consumer loans.

The allowance for loan losses consists of specific and general components. The specific component relates to loans that are individually classified as impaired. Specific reserves are established based on an analysis of the most probable sources of repayment or liquidation of collateral. Impaired loans that are collateral dependent are reviewed based on the fair market value of collateral and the estimated time required to recover the Company’s investment in the loans, as well as the cost of doing so, and the estimate of the recovery. Non-collateral dependent impaired loans are reviewed based on the present value of estimated future cash flows, including balloon payments, if any, using the loan’s effective interest rate. While every impaired loan is evaluated individually, not every loan requires a specific reserve. Specific reserves fluctuate based on changes in the underlying loans, anticipated sources of repayment, and charge-offs. The general component covers non-impaired loans and is based on historical loss experience for each loan class from a rolling twelve quarter period and modifying those percentages, if necessary, after adjusting for current qualitative and environmental factors that reflect changes in the estimated collectability of the loan class not captured by historical loss data.  These factors augment actual loss experience and help estimate the probability of loss within the loan portfolio based on emerging or inherent risk trends. These qualitative factors are applied as an adjustment to historical loss rates and require judgments that cannot be subjected to exact mathematical calculation. These adjustments reflect management’s overall estimate of the extent to which current losses on a pool of loans will differ from historical loss experience. These adjustments are subjective estimates and management reviews them on a quarterly basis. TDRs are also considered impaired with impairment generally measured at the present value of estimated future cash flows using the loan’s effective interest rate at inception or using the fair value of collateral, less estimated costs to sell, if repayment is expected solely from the collateral.

Loans Held For Sale – Loans held for sale are carried at the lower of aggregate cost or fair value, based on observable inputs in the secondary market. Changes in fair value of loans held for sale are recognized in earnings.

Bank Owned Life Insurance (“BOLI”) - BOLI is recorded at the lower of the cash surrender value or the amount that can be realized under the insurance policy and is included as an asset in the consolidated statements of condition. Changes in the cash surrender value and insurance benefit payments are recorded in non-interest income in the consolidated statements of operations.

Derivatives- Derivatives are contracts between counterparties that specify conditions under which settlements are to be made. The only derivatives held by the Company are swap contracts with the purchaser of its Visa Class B shares. The Company records its derivatives on the balance sheet at fair value. The Company’s derivatives do not qualify for hedge accounting. As a result, changes in fair value are recognized in earnings in the period in which they occur. (See also Note 3. Investment Securities contained herein.)

7

Recent Accounting Guidance – In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-09, Revenue from Contracts with Customers (Topic 606), “Revenue from Contracts with Customers,” which supersedes nearly all existing revenue recognition guidance under U.S. GAAP. The core principle of the ASU is to recognize revenues when promised goods or services are transferred to customers in an amount that reflects the consideration to which an entity expects to be entitled for those goods or services. The ASU defines a five step process to achieve this core principle and, in doing so, more judgment and estimates may be required within the revenue recognition process than are required under existing U.S. GAAP. The ASU is effective for annual periods beginning after December 15, 2016, and interim periods therein, using either of the following transition methods: (i) a full retrospective approach reflecting the application of the standard in each prior reporting period with the option to elect certain practical expedients, or (ii) a retrospective approach with the cumulative effect of initially adopting the ASU recognized at the date of adoption (which includes additional footnote disclosures). The Company has not yet determined the method by which it will adopt ASU 2014-09 in 2017 and does not believe that the adoption will have a material effect on the Company’s consolidated financial statements.

In January 2014, the FASB issued ASU 2014-04, Receivables—Troubled Debt Restructurings by Creditors (Topic 310), “Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure,” to clarify when an in substance repossession or foreclosure occurs, that is, when a creditor should be considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan such that the loan receivable should be derecognized and the real estate property recognized. The ASU requires interim and annual disclosure of both (1) the amount of foreclosed residential real estate property held by the creditor and (2) the recorded investment in consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure according to local requirements of the applicable jurisdiction. The ASU is effective for fiscal years, and interim periods within those years, beginning after December 15, 2014. Management intends to adopt ASU 2014-04 on January 1, 2015 and does not believe that the adoption will have a material effect on the Company’s consolidated financial statements.

In July 2013, the FASB issued ASU 2013-11, Income Taxes (Topic 740), “Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists,” to clarify the balance sheet presentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. The ASU requires an unrecognized tax benefit, or a portion of an unrecognized tax benefit, to be presented in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward, except as follows. To the extent a net operating loss carryforward, a similar tax loss, or a tax credit carryforward is not available at the reporting date under the tax law of the applicable jurisdiction to settle any additional income taxes that would result from the disallowance of a tax position or the tax law of the applicable jurisdiction does not require the entity to use, and the entity does not intend to use, the deferred tax asset for such purpose, the unrecognized tax benefit should be presented in the financial statements as a liability and should not be combined with deferred tax assets. The ASU is effective for fiscal years, and interim periods within those years, beginning after December 15, 2013. The Company’s adoption of ASU 2013-11 on January 1, 2014 did not have a material effect on the Company’s consolidated financial statements.

Reclassifications — Certain reclassifications have been made to prior period information in order to conform to the current period’s presentation. Such reclassifications had no impact on the Company’s consolidated results of operations or financial condition.

2. ACCUMULATED OTHER COMPREHENSIVE INCOME (“AOCI”)

The changes in the Company’s AOCI by component, net of tax, for the three and nine months ended September 30, 2014 and 2013 follow (in thousands).

	Three Months Ended September 30, 2014									Three Months Ended September 30, 2013
	Unrealized Gains and Losses on Available for Sale Securities			Pension and Post- Retirement Plan Items			Total			Unrealized Gains and Losses on Available for Sale Securities			Pension and Post- Retirement Plan Items			Total
Beginning balance	$	1,086		$	(3,194	)	$	(2,108	)	$	111		$	(7,944	)	$	(7,833	)
Other comprehensive loss before reclassifications		(594	)		-			(594	)		(1,443	)		-			(1,443	)
Amounts reclassified from AOCI		(7	)		-			(7	)		(2	)		-			(2	)
Net other comprehensive loss		(601	)		-			(601	)		(1,445	)		-			(1,445	)
Ending balance	$	485		$	(3,194	)	$	(2,709	)	$	(1,334	)	$	(7,944	)	$	(9,278	)

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	Nine Months Ended September 30, 2014									Nine Months Ended September 30, 2013
	Unrealized Gains and Losses on Available for Sale Securities			Pension and Post- Retirement Plan  Items			Total			Unrealized Gains and Losses on Available for Sale Securities			Pension and Post- Retirement Plan Items			Total
Beginning balance	$	(4,095	)	$	(3,194	)	$	(7,289	)	$	10,553		$	(7,667	)	$	2,886
Other comprehensive income (loss) before reclassifications		4,573			-			4,573			(11,635	)		(277	)		(11,912	)
Amounts reclassified from AOCI		7			-			7			(252	)		-			(252	)
Net other comprehensive income (loss)		4,580			-			4,580			(11,887	)		(277	)		(12,164	)
Ending balance	$	485		$	(3,194	)	$	(2,709	)	$	(1,334	)	$	(7,944	)	$	(9,278	)

The table below presents reclassifications out of AOCI for the three and nine months ended September 30, 2014 and 2013 (in thousands).

	Amount Reclassified from AOCI
	Three Months Ended September 30,						Affected Line Item in the Statement
Details about AOCI Components	2014			2013			Where Net Income is Presented
Unrealized gains and losses on available for sale securities	$	11		$	3		Net gain (loss) on sale of securities available for sale
		(4	)		(1	)	Income tax expense
Total reclassifications, net of tax	$	7		$	2

	Amount Reclassified from AOCI
	Nine Months Ended September 30,						Affected Line Item in the Statement
Details about AOCI Components	2014			2013			Where Net Income is Presented
Unrealized gains and losses on available for sale securities	$	(12	)	$	395		Net gain (loss) on sale of securities available for sale
		5			(143	)	Income tax expense
Total reclassifications, net of tax	$	(7	)	$	252

3. INVESTMENT SECURITIES

At the time of purchase of a security, the Company designates the security as either available for sale or held to maturity, depending upon investment objectives, liquidity needs and intent. Securities held to maturity are stated at cost, adjusted for premium amortized or discount accreted, if any. The Company has the positive intent and ability to hold such securities to maturity. Securities available for sale are stated at estimated fair value. Unrealized gains and losses are excluded from income and reported net of tax in AOCI as a separate component of stockholders’ equity until realized. Changes in unrealized gains and losses are reported, net of tax, in the consolidated statements of comprehensive income (loss). Interest earned on securities is included in interest income. Realized gains and losses on the sale of securities are reported in the consolidated statements of operations and determined using the adjusted cost of the specific security sold.

During the first nine months of 2014, investment securities totaling $48 million were transferred from available for sale to held to maturity. At the time of transfer, the securities were carried at unrealized losses. In accordance with ASC 320-10-35-10, the securities were transferred at fair value, which became the amortized cost. The discount will be accreted to interest income over the remaining life of the security. The unrealized holding losses at the date of transfer remained in AOCI and will be amortized simultaneously against interest income. Those entries will offset or mitigate each other. For regulatory capital purposes, the unamortized AOCI related to these securities is treated in the same manner as an available for sale debt security.

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The amortized cost, estimated fair value and gross unrealized gains and losses of the Company’s investment securities available for sale and held to maturity at September 30, 2014 and December 31, 2013 were as follows (in thousands):

	September 30, 2014									December 31, 2013
			Gross		Gross			Estimated				Gross		Gross			Estimated
	Amortized		Unrealized		Unrealized			Fair		Amortized		Unrealized		Unrealized			Fair
	Cost		Gains		Losses			Value		Cost		Gains		Losses			Value
Available for sale:
U.S. Government agency securities	$	42,473	$	-	$	(1,465	)	$	41,008	$	109,315	$	-	$	(9,220	)	$	100,095
Obligations of states and political subdivisions		138,222		7,951		-			146,173		148,664		8,499		-			157,163
Collateralized mortgage obligations		22,736		636		(627	)		22,745		30,335		557		(788	)		30,104
Mortgage-backed securities		94,959		16		(2,662	)		92,313		103,332		19		(5,584	)		97,767
Corporate bonds		6,349		32		(31	)		6,350		15,565		264		(178	)		15,651
Total available for sale securities		304,739		8,635		(4,785	)		308,589		407,211		9,339		(15,770	)		400,780
Held to maturity:
U.S. Government agency securities		48,299		782		(15	)		49,066		-		-		-			-
Obligations of states and political subdivisions		14,024		852		-			14,876		11,666		655		(87	)		12,234
Total held to maturity securities		62,323		1,634		(15	)		63,942		11,666		655		(87	)		12,234
Total investment securities	$	367,062	$	10,269	$	(4,800	)	$	372,531	$	418,877	$	9,994	$	(15,857	)	$	413,014

At September 30, 2014 and December 31, 2013, investment securities carried at $268 million and $292 million, respectively, were pledged for trust deposits, public funds on deposit and as collateral for the derivative swap contracts.

The amortized cost, contractual maturities and estimated fair value of the Company’s investment securities at September 30, 2014 (in thousands) are presented in the table below. Collateralized mortgage obligations (“CMOs”) and mortgage-backed securities (“MBS”) assume maturity dates pursuant to average lives.

	September 30, 2014
	Amortized		Estimated
	Cost		Fair Value
Securities available for sale:
Due in one year or less	$	11,653	$	11,868
Due from one to five years		155,455		160,425
Due from five to ten years		137,631		136,296
Total securities available for sale		304,739		308,589
Securities held to maturity:
Due in one year or less		1,667		1,714
Due from one to five years		5,564		6,057
Due from five to ten years		31,988		32,140
Due after ten years		23,104		24,031
Total securities held to maturity		62,323		63,942
Total investment securities	$	367,062	$	372,531

The proceeds from sales of securities available for sale and the associated realized gains and losses are shown below for the periods indicated (in thousands). Realized gains are also inclusive of gains on called securities.

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	Three Months Ended September 30,				Nine Months Ended September 30,
	2014		2013		2014			2013
Proceeds	$	-	$	-	$	20,604		$	13,427
Gross realized gains	$	11	$	3	$	240		$	395
Gross realized losses		-		-		252			-
Net realized gains (losses)	$	11	$	3	$	(12	)	$	395

Information pertaining to securities with unrealized losses at September 30, 2014 and December 31, 2013, aggregated by investment category and length of time that individual securities have been in a continuous loss position, follows (in thousands):

	Less than 12 months				12 months or longer				Total
	Estimated		Unrealized		Estimated		Unrealized		Estimated		Unrealized
September 30, 2014	Fair value		Losses		Fair value		Losses		Fair value		Losses
U.S. Government agency securities	$	12,016	$	15	$	41,008	$	1,465	$	53,024	$	1,480
Collateralized mortgage obligations		-		-		8,442		627		8,442		627
Mortgage-backed securities		5,957		29		86,123		2,633		92,080		2,662
Corporate bonds		-		-		2,969		31		2,969		31
Total	$	17,973	$	44	$	138,542	$	4,756	$	156,515	$	4,800

	Less than 12 months				12 months or longer				Total
	Estimated		Unrealized		Estimated		Unrealized		Estimated		Unrealized
December 31, 2013	Fair value		Losses		Fair value		Losses		Fair value		Losses
U.S. Government agency securities	$	86,590	$	7,726	$	13,505	$	1,494	$	100,095	$	9,220
Obligations of states and political subdivisions		3,932		87		-		-		3,932		87
Collateralized mortgage obligations		2,935		160		5,713		628		8,648		788
Mortgage-backed securities		84,869		4,850		12,637		734		97,506		5,584
Corporate bonds		8,681		178		-		-		8,681		178
Total	$	187,007	$	13,001	$	31,855	$	2,856	$	218,862	$	15,857

The Company’s management evaluates securities for other-than-temporary impairment (“OTTI”) at least on a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation. All of the Company’s investment securities classified as available for sale or held to maturity are evaluated for OTTI under FASB ASC 320, “Accounting for Certain Investments in Debt and Equity Securities.” In determining OTTI under ASC 320, management considers many factors, including: (1) the length of time and the extent to which the fair value has been less than amortized cost, (2) the financial condition and near-term prospects of the issuer, (3) whether the market decline was affected by macroeconomic conditions, and (4) whether the Company has the intent to sell the debt security or more likely than not will be required to sell the debt security before its anticipated recovery. The assessment of whether an OTTI decline exists involves a high degree of subjectivity and judgment and is based on information available to management at a point in time. An OTTI is deemed to have occurred if there has been an adverse change in the remaining expected future cash flows.

When an OTTI occurs, the amount of the OTTI recognized in earnings depends on whether an entity intends to sell the security or more likely than not will be required to sell the security before recovery of its amortized cost basis less any current-period credit loss. If an entity intends to sell or more likely than not will be required to sell the security before recovery of its amortized cost basis less any current-period credit loss, the OTTI is recognized in earnings equal to the entire difference between the investment’s amortized cost and its estimated fair value at the balance sheet date. If an entity does not intend to sell the security and it is not more likely than not that the entity will be required to sell the security before recovery of its amortized cost less any current-period loss, the OTTI is separated into the amount representing the credit loss and the amount related to all other factors. The amount of the total OTTI related to the credit loss is determined based on the present value of cash flows expected to be collected and is recognized in earnings. The amount of the total OTTI related to other factors is recognized in AOCI, net of applicable tax benefit. The previous amortized cost basis less the OTTI recognized in earnings becomes the new amortized cost basis of the investment.

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The corporate bonds at unrealized losses for twelve months or longer in the table above carry investment grade ratings by all major credit rating agencies including both Moody’s and Standard  & Poor’s. The unrealized losses on these bonds were a result of the current interest rate environment and the corresponding shape of the yield curve. The losses were not related to a deterioration of the quality of the issuer or any company-specific adverse events. All other securities at unrealized losses for twelve months or longer are issued or guaranteed by U.S. Government agencies or sponsored enterprises and the related unrealized losses resulted solely from the current interest rate environment and the corresponding shape of the yield curve.

Upon review of the considerations mentioned here, no OTTI was deemed to be warranted at September 30, 2014.

The Bank was a member of the Visa USA payment network and was issued Class B shares upon Visa’s initial public offering in March 2008. The Visa Class B shares are transferable only under limited circumstances until they can be converted into shares of the publicly traded class of stock. This conversion cannot happen until the settlement of certain litigation, which is indemnified by Visa members. Since its initial public offering, Visa has funded a litigation reserve based upon a change in the conversion ratio of Visa Class B shares into Visa Class A shares. At its discretion, Visa may continue to increase the conversion rate in connection with any settlements in excess of amounts then in escrow for that purpose and reduce the conversion rate to the extent that it adds any funds to the escrow in the future. Based on the existing transfer restriction and the uncertainty of the litigation, the Company has recorded its Visa Class B shares on its balance sheet at zero value.

During the third and fourth quarters of 2013, the Bank sold 100,000 Visa Class B shares to another Visa USA member financial institution at a gross pre-tax gain of approximately $7.8 million which was recorded in non-interest income in the Company’s statement of operations. In conjunction with the sale, the Company entered into derivative swap contracts with the purchaser of these Visa Class B shares which provide for settlements between the purchaser and the Company based upon a change in the conversion ratio of Visa Class B shares into Visa Class A shares. Also during the third and fourth quarters of 2013, the Company recorded a total of $932 thousand in operating expenses and in other liabilities on the balance sheet, representing the estimate of the Company’s exposure to the settlement of the Visa litigation or the derivative liability.

In October 2014, the Bank received notification of a change in the conversion ratio of Visa Class B shares into Visa Class A shares. As a result of this change, in the fourth quarter of 2014 the Bank was required to make a payment of $180 thousand to the purchaser of the Visa Class B shares it sold in 2013. This payment reduced the Company’s previously recorded $932 thousand estimate of the derivative liability to $752 thousand.

The present value of estimated future fees to be paid to the derivative counterparty, or carrying costs, calculated by reference to the market price of the Visa Class A shares at a fixed rate of interest are expensed as incurred. For the three and nine months ended September 30, 2014, $57 thousand and $172 thousand, respectively, in such carrying costs was expensed. The Company has pledged U.S. Government agency securities held in its available for sale portfolio, with a market value of approximately $3 million at September 30, 2014, as collateral for the derivative swap contracts.

Subjectivity has been used in estimating the fair value of both the derivative liability and the associated fees, but management believes that these fair value estimates are adequate based on available information. However, future developments in the litigation could require potentially significant changes to these estimates.

At September 30, 2014, the Company still owned 38,638 Visa Class B shares subsequent to the sales described here. Upon termination of the existing transfer restriction and settlement of the litigation, and to the extent that the Company continues to own such Visa Class B shares in the future, the Company expects to record its Visa Class B shares at fair value.

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4. LOANS

At September 30, 2014 and December 31, 2013, net loans disaggregated by class consisted of the following (in thousands):

	September 30, 2014			December 31, 2013
Commercial and industrial	$	180,399		$	171,199
Commercial real estate		512,341			464,560
Multifamily		274,352			184,624
Mixed use commercial		27,476			4,797
Real estate construction		21,615			6,565
Residential mortgages		185,856			169,552
Home equity		52,001			57,112
Consumer		8,021			10,439
Gross loans		1,262,061			1,068,848
Allowance for loan losses		(18,800	)		(17,263	)
Net loans at end of period	$	1,243,261		$	1,051,585

The following summarizes the activity in the allowance for loan losses disaggregated by class for the periods indicated (in thousands).

	Three months ended September 30, 2014												Three months ended September 30, 2013
	Balance at beginning of period		Charge- offs			Recoveries		(Credit) provision for loan losses			Balance at end of period		Balance at beginning of period		Charge- offs			Recoveries		(Credit) provision for loan losses			Balance at end of period
Commercial and industrial	$	2,932	$	(104	)	$	160	$	(1,121	)	$	1,867	$	4,778	$	(60	)	$	390	$	(1,870	)	$	3,238
Commercial real estate		7,899		-			11		(499	)		7,411		6,521		(70	)		12		611			7,074
Multifamily		2,444		-			-		238			2,682		529		-			-		903			1,432
Mixed use commercial		212		-			-		(6	)		206		180		-			-		(126	)		54
Real estate construction		230		-			-		36			266		278		-			-		(4	)		274
Residential mortgages		2,650		-			4		193			2,847		2,341		-			4		218			2,563
Home equity		761		-			3		(55	)		709		1,059		-			5		17			1,081
Consumer		166		(15	)		13		13			177		247		(11	)		56		(59	)		233
Unallocated		1,184		-			-		1,451			2,635		1,360		-			-		310			1,670
Total	$	18,478	$	(119	)	$	191	$	250		$	18,800	$	17,293	$	(141	)	$	467	$	-		$	17,619

	Nine months ended September 30, 2014												Nine months ended September 30, 2013
	Balance at beginning of period		Charge- offs			Recoveries		(Credit) provision for loan losses			Balance at end of period		Balance at beginning of period		Charge- offs			Recoveries		(Credit) provision for loan losses			Balance at end of period
Commercial and industrial	$	2,615	$	(419	)	$	663	$	(992	)	$	1,867	$	6,181	$	(1,687	)	$	1,600	$	(2,856	)	$	3,238
Commercial real estate		6,572		-			508		331			7,411		5,965		(70	)		85		1,094			7,074
Multifamily		2,159		-			-		523			2,682		150		-			-		1,282			1,432
Mixed use commercial		54		-			-		152			206		34		-			-		20			54
Real estate construction		88		-			-		178			266		141		-			-		133			274
Residential mortgages		2,463		(32	)		12		404			2,847		1,576		(74	)		5		1,056			2,563
Home equity		745		-			48		(84	)		709		907		-			7		167			1,081
Consumer		241		(19	)		26		(71	)		177		189		(133	)		105		72			233
Unallocated		2,326		-			-		309			2,635		2,638		-			-		(968	)		1,670
Total	$	17,263	$	(470	)	$	1,257	$	750		$	18,800	$	17,781	$	(1,964	)	$	1,802	$	-		$	17,619

The allowance for loan losses is a valuation allowance for probable incurred credit losses. Loan losses are charged against the allowance when management believes a loan, in full or in part, is uncollectible. Subsequent recoveries, if any, are credited to the allowance. Management estimates the allowance balance required using past loan loss experience, the nature and volume of the portfolio, information about specific borrower situations and estimated collateral values, economic conditions, and other factors.  Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in management’s judgment, should be charged off. The allowance consists of specific and general components. The specific component relates to loans that are individually classified as impaired.

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A loan is impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement.  Loans for which the terms have been modified resulting in a concession, and for which the borrower is experiencing financial difficulties, are considered TDRs and classified as impaired. Generally, TDRs are initially classified as non-accrual until sufficient time has passed to assess whether the restructured loan will continue to perform. Generally, the Company returns a TDR to accrual status upon six months of performance under the new terms.

Factors considered by management in determining impairment include payment status, collateral value, and the 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 determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed.

All non-accrual loans over $250 thousand in the commercial and industrial, commercial real estate and real estate construction loan classes and all TDRs are evaluated individually for impairment. All other loans are generally evaluated as homogeneous pools with similar risk characteristics. If a loan is impaired, a specific reserve may be recorded so that the loan is reported, net, at the present value of estimated future cash flows including balloon payments, if any, using the loan’s existing rate or at the fair value of collateral if repayment is expected solely from the collateral. Large groups of homogeneous loans with smaller individual balances, such as consumer and residential real estate loans, are generally evaluated collectively for impairment, and accordingly, are not separately identified for impairment disclosures. TDRs are separately identified for impairment disclosures and are measured at the present value of estimated future cash flows using the loan’s effective rate at inception. If a TDR is considered to be collateral-dependent, the loan is reported at the fair value of the collateral net of estimated costs to sell.  For TDRs that subsequently default, the Company determines the allowance amount in accordance with its accounting policy for the allowance for loan losses.

The general component of the allowance covers non-impaired loans and is based on historical loss experience, adjusted for qualitative factors.  The historical loss experience is determined by loan class, and is based on the actual loss history experienced by the Company over a rolling twelve quarter period. This actual loss experience is supplemented with other qualitative factors based on the risks present for each loan class. These qualitative factors include consideration of the following:  levels of and trends in delinquencies and impaired loans; levels of and trends in charge-offs and recoveries; trends in volume and terms of loans; effects of any changes in risk selection and underwriting standards; other changes in lending policies, procedures and practices; experience, ability, and depth of lending management and other relevant staff; local, regional and national economic trends and conditions; industry conditions; and effects of changes in credit concentrations. The following loan classes have been identified: commercial and industrial, commercial real estate, multifamily, mixed use commercial, real estate construction, residential mortgages, home equity and consumer loans.

The Company recorded a $250 thousand provision for loan losses for the three months ended September 30, 2014 due to growth in the loan portfolio. The Company did not record a provision for loan losses in the third quarter of 2013.

For the three months ended September 30, 2014, the ending balance of the Company’s allowance for loan losses increased by $322 thousand when compared to June 30, 2014. During the third quarter of 2014, the Company decreased its allowance for loan losses allocated to commercial and industrial loans (“C&I”) and commercial real estate loans (“CRE”) by $1.1 million and $488 thousand, respectively, while increasing the amount allocated to multifamily loans by $238 thousand.

The reductions in the allowance for loan losses allocated to C&I and CRE loans were primarily due to decreases of 0.58% and 0.16%, respectively, versus June 30, 2014, in the ASC 450-20 average combined historical loss and environmental factors rates on unimpaired pass rated C&I and CRE loans, partially offset by increases of $2 million and $25 million, respectively, in the balances of such unimpaired pass rated loans.

The increase in the allowance for loan losses allocated to multifamily loans during the third quarter of 2014 largely reflected an increase of $29 million in the balance of unimpaired pass rated multifamily loans.

The ASC 450-20 loss factors rates incorporate a rolling twelve quarter look back period used in calculating historical losses for each loan segment. In an effort to more accurately represent the Company’s incurred and expected losses by individual loan segment, a twelve quarter period is used to improve the granularity of individual loan segment charge-off history and reduce the volatility associated with improperly weighting short-term trends in the calculation.

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For the three months ended September 30, 2014, the ending balance of the Company’s unallocated portion of the allowance for loan losses increased $1.5 million versus June 30, 2014. Loan portfolio growth was strong during the third quarter of 2014, primarily in multifamily and CRE loans. Loan growth, including multifamily loans, is expected to continue throughout 2014. An unallocated portion of the reserve is considered a prudent option until these loans to new borrowers establish satisfactory payment patterns.

At September 30, 2014 and December 31, 2013, the ending balance in the allowance for loan losses disaggregated by class and impairment methodology is as follows (in thousands). Also in the tables below are total loans at September 30, 2014 and December 31, 2013 disaggregated by class and impairment methodology (in thousands).

	Allowance for Loan Losses						Loan Balances
September 30, 2014	Individually evaluated for impairment		Collectively evaluated for impairment		Ending balance		Individually evaluated for impairment		Collectively evaluated for impairment		Ending balance
Commercial and industrial	$	21	$	1,846	$	1,867	$	6,536	$	173,863	$	180,399
Commercial real estate		-		7,411		7,411		10,215		502,126		512,341
Multifamily		-		2,682		2,682		-		274,352		274,352
Mixed use commercial		-		206		206		-		27,476		27,476
Real estate construction		-		266		266		-		21,615		21,615
Residential mortgages		706		2,141		2,847		5,182		180,674		185,856
Home equity		96		613		709		904		51,097		52,001
Consumer		92		85		177		327		7,694		8,021
Unallocated		-		2,635		2,635		-		-		-
Total	$	915	$	17,885	$	18,800	$	23,164	$	1,238,897	$	1,262,061

	Allowance for Loan Losses						Loan Balances
December 31, 2013	Individually evaluated for impairment		Collectively evaluated for impairment		Ending balance		Individually evaluated for impairment		Collectively evaluated for impairment		Ending balance
Commercial and industrial	$	41	$	2,574	$	2,615	$	7,754	$	163,445	$	171,199
Commercial real estate		-		6,572		6,572		11,821		452,739		464,560
Multifamily		-		2,159		2,159		-		184,624		184,624
Mixed use commercial		-		54		54		-		4,797		4,797
Real estate construction		-		88		88		-		6,565		6,565
Residential mortgages		709		1,754		2,463		5,049		164,503		169,552
Home equity		93		652		745		1,082		56,030		57,112
Consumer		102		139		241		284		10,155		10,439
Unallocated		-		2,326		2,326		-		-		-
Total	$	945	$	16,318	$	17,263	$	25,990	$	1,042,858	$	1,068,848

15

The following table presents the Company’s impaired loans disaggregated by class at September 30, 2014 and December 31, 2013 (in thousands).

	September 30, 2014						December 31, 2013
	Unpaid Principal Balance		Recorded Balance		Allowance Allocated		Unpaid Principal Balance		Recorded Balance		Allowance Allocated
With no allowance recorded:
Commercial and industrial	$	6,473	$	6,473	$	-	$	6,711	$	6,711	$	-
Commercial real estate		10,633		10,215		-		12,239		11,821		-
Residential mortgages		2,452		2,323		-		2,305		2,176		-
Home equity		714		714		-		891		891		-
Consumer		139		139		-		25		9		-
Subtotal		20,411		19,864		-		22,171		21,608		-
With an allowance recorded:
Commercial and industrial		63		63		21		1,043		1,043		41
Residential mortgages		2,859		2,859		706		2,873		2,873		709
Home equity		327		190		96		328		191		93
Consumer		188		188		92		274		275		102
Subtotal		3,437		3,300		915		4,518		4,382		945
Total	$	23,848	$	23,164	$	915	$	26,689	$	25,990	$	945

The following table presents the Company’s average recorded investment in impaired loans and the related interest income recognized disaggregated by class for the three and nine months ended September 30, 2014 and 2013 (in thousands). No interest income was recognized on a cash basis on impaired loans for the periods presented.

	Three Months Ended September 30,								Nine Months Ended September 30,
	2014				2013				2014				2013
	Average recorded investment in impaired loans		Interest income recognized on impaired loans		Average recorded investment in impaired loans		Interest income recognized on impaired loans		Average recorded investment in impaired loans		Interest income recognized on impaired loans		Average recorded investment in impaired loans		Interest income recognized on impaired loans
Commercial and industrial	$	7,061	$	128	$	12,695	$	47	$	7,304	$	679	$	12,799	$	279
Commercial real estate		10,424		49		8,406		224		11,045		204		8,635		369
Real estate construction		-		-		-		80		-		-		683		94
Residential mortgages		5,148		24		5,202		73		5,069		100		5,098		167
Home equity		811		6		1,174		4		767		26		1,092		8
Consumer		289		7		183		-		222		14		192		8
Total	$	23,733	$	214	$	27,660	$	428	$	24,407	$	1,023	$	28,499	$	925

TDRs are modifications or renewals where the Company has granted a concession to a borrower in financial distress. The Company reviews all modifications and renewals for determination of TDR status. The Company allocated $698 thousand and $586 thousand of specific reserves to customers whose loan terms have been modified as TDRs as of September 30, 2014 and December 31, 2013, respectively. These loans involved the restructuring of terms to allow customers to mitigate the risk of default by meeting a lower payment requirement based upon their current cash flow. These may also include loans that renewed at existing contractual rates, but below market rates for comparable credit.

A total of $250 thousand was committed to be advanced in connection with TDRs at September 30, 2014 and December 31, 2013, representing the amount the Company is legally required to advance under existing loan agreements. These loans are not in default under the terms of the loan agreements and are accruing interest. It is the Company’s policy to evaluate advances on such loans on a case by case basis. Absent a legal obligation to advance pursuant to the terms of the loan agreement, the Company generally will not advance funds for which it has outstanding commitments, but may do so in certain circumstances.

16

Outstanding TDRs, disaggregated by class, at September 30, 2014 and December 31, 2013 are as follows (dollars in thousands):

	September 30, 2014				December 31, 2013
TDRs Outstanding	Number of Loans		Outstanding Recorded Balance		Number of Loans		Outstanding Recorded Balance
Commercial and industrial		36	$	4,926		43	$	6,022
Commercial real estate		8		10,172		7		6,022
Residential mortgages		19		4,089		17		3,891
Home equity		3		205		-		-
Consumer		7		285		3		150
Total		73	$	19,677		70	$	16,085

The following presents, disaggregated by class, information regarding TDRs executed during the three and nine months ended September 30, 2014 and 2013 (dollars in thousands):

	Three Months Ended September 30,
	2014						2013
			Pre-Modification		Post-Modification				Pre-Modification		Post-Modification
	Number		Outstanding		Outstanding		Number		Outstanding		Outstanding
	of		Recorded		Recorded		of		Recorded		Recorded
New TDRs	Loans		Balance		Balance		Loans		Balance		Balance
Commercial and industrial		-	$	-	$	-		1	$	228	$	228
Residential mortgages		-		-		-		1		19		19
Home equity		1		98		98		-		-		-
Consumer		1		46		46		-		-		-
Total		2	$	144	$	144		2	$	247	$	247

	Nine Months Ended September 30,
	2014						2013
			Pre-Modification		Post-Modification				Pre-Modification		Post-Modification
	Number		Outstanding		Outstanding		Number		Outstanding		Outstanding
	of		Recorded		Recorded		of		Recorded		Recorded
New TDRs	Loans		Balance		Balance		Loans		Balance		Balance
Commercial and industrial		10	$	1,877	$	1,877		5	$	1,120	$	1,120
Commercial real estate		2		5,161		5,161		-		-		-
Residential mortgages		3		273		273		4		924		924
Home equity		3		207		207		-		-		-
Consumer		4		145		145		1		17		17
Total		22	$	7,663	$	7,663		10	$	2,061	$	2,061

Presented below and disaggregated by class is information regarding loans modified as TDRs that had payment defaults of 90 days or more within twelve months of restructuring during the nine months ended September 30, 2014 and 2013 (dollars in thousands). There were no such loans during the three months ended September 30, 2014 and 2013.

	Nine Months Ended September 30,
	2014				2013
			Outstanding				Outstanding
	Number		Recorded		Number		Recorded
Defaulted TDRs	of Loans		Balance		of Loans		Balance
Commercial real estate		2	$	1,536		-	$	-
Total		2	$	1,536		-	$	-

17

Not all loan modifications are TDRs. In some cases, the Company might provide a concession, such as a reduction in interest rate, but the borrower is not experiencing financial distress. This could be the case if the Company is matching a competitor’s interest rate.

The following presents information regarding modifications executed during the three and nine months ended September 30, 2014 and 2013 that are not considered TDRs (dollars in thousands):

	Three Months Ended September 30,
	2014				2013
			Outstanding				Outstanding
	Number		Recorded		Number		Recorded
Non-TDR Modifications	of Loans		Balance		of Loans		Balance
Commercial and industrial		1	$	67		11	$	2,240
Commercial real estate		2		11,017		11		6,367
Multifamily		-		-		1		410
Total		3	$	11,084		23	$	9,017

	Nine Months Ended September 30,
	2014				2013
			Outstanding				Outstanding
	Number		Recorded		Number		Recorded
Non-TDR Modifications	of Loans		Balance		of Loans		Balance
Commercial and industrial		1	$	67		19	$	6,741
Commercial real estate		14		34,798		31		32,485
Multifamily		-		-		1		410
Total		15	$	34,865		51	$	39,636

The following table presents a summary of non-performing assets for each period (in thousands):

	September 30, 2014		December 31, 2013
Non-accrual loans	$	14,654	$	15,183
Non-accrual loans held for sale		-		-
Loans 90 days past due and still accruing		-		-
OREO		-		-
Total non-performing assets	$	14,654	$	15,183
TDRs accruing interest	$	8,194	$	10,647
TDRs non-accruing	$	11,483	$	5,438

18

At September 30, 2014 and December 31, 2013, non-accrual loans disaggregated by class were as follows (dollars in thousands):

	September 30, 2014										December 31, 2013
	Non- accrual loans		% of Total			Total Loans		% of Total Loans			Non- accrual loans		% of Total			Total Loans		% of Total  Loans
Commercial and industrial	$	4,946		33.7	%	$	180,399		0.4	%	$	5,014		33.0	%	$	171,199		0.4	%
Commercial real estate		6,650		45.4			512,341		0.5			7,492		49.3			464,560		0.7
Multifamily		-		-			274,352		-			-		-			184,624		-
Mixed use commercial		-		-			27,476		-			-		-			4,797		-
Real estate construction		-		-			21,615		-			-		-			6,565		-
Residential mortgages		2,457		16.8			185,856		0.2			1,897		12.5			169,552		0.2
Home equity		557		3.8			52,001		0.1			647		4.3			57,112		0.1
Consumer		44		0.3			8,021		-			133		0.9			10,439		-
Total	$	14,654		100.0	%	$	1,262,061		1.2	%	$	15,183		100.0	%	$	1,068,848		1.4	%

Additional interest income of approximately $185 thousand and $208 thousand would have been recorded during the three months ended September 30, 2014 and 2013, respectively, and $824 thousand and $894 thousand during the nine months ended September 30, 2014 and 2013, respectively, if non-accrual loans had performed in accordance with their original terms.

The following table presents the collateral value securing non-accrual loans for each period (in thousands):

	September 30, 2014				December 31, 2013
	Principal Balance		Collateral Value		Principal Balance		Collateral Value
Commercial and industrial (1)	$	4,946	$	2,500	$	5,014	$	3,750
Commercial real estate		6,650		9,960		7,492		13,050
Residential mortgages		2,457		5,279		1,897		3,764
Home equity		557		3,476		647		3,072
Consumer		44		-		133		-
Total	$	14,654	$	21,215	$	15,183	$	23,636
(1) Repayment of commercial and industrial loans is expected primarily from the cash flow of the business. The collateral typically securing these loans is a lien on all corporate assets via a blanket UCC filing and does not usually include real estate. For purposes of this disclosure, the Company has ascribed no value to the non-real estate collateral for this class of loans.

At September 30, 2014 and December 31, 2013, past due loans disaggregated by class were as follows (in thousands).

	Past Due
September 30, 2014	30 - 59 days			60 - 89 days			90 days and over			Total			Current			Total
Commercial and industrial	$	95		$	-		$	4,946		$	5,041		$	175,358		$	180,399
Commercial real estate		-			-			6,650			6,650			505,691			512,341
Multifamily		-			-			-			-			274,352			274,352
Mixed use commercial		-			-			-			-			27,476			27,476
Real estate construction		-			-			-			-			21,615			21,615
Residential mortgages		1,684			297			2,457			4,438			181,418			185,856
Home equity		1,014			75			557			1,646			50,355			52,001
Consumer		40			33			44			117			7,904			8,021
Total	$	2,833		$	405		$	14,654		$	17,892		$	1,244,169		$	1,262,061
% of Total Loans		0.2	%		0.0	%		1.2	%		1.4	%		98.6	%		100.0	%

19

	Past Due
December 31, 2013	30 - 59 days			60 - 89 days			90 days and over			Total			Current			Total
Commercial and industrial	$	13		$	-		$	5,014		$	5,027		$	166,172		$	171,199
Commercial real estate		631			-			7,492			8,123			456,437			464,560
Multifamily		-			-			-			-			184,624			184,624
Mixed use commercial		-			-			-			-			4,797			4,797
Real estate construction		-			-			-			-			6,565			6,565
Residential mortgages		1,535			339			1,897			3,771			165,781			169,552
Home equity		795			100			647			1,542			55,570			57,112
Consumer		75			-			133			208			10,231			10,439
Total	$	3,049		$	439		$	15,183		$	18,671		$	1,050,177		$	1,068,848
% of Total Loans		0.3	%		0.0	%		1.4	%		1.7	%		98.3	%		100.0	%

The Bank utilizes an eight-grade risk-rating system for commercial and industrial loans, commercial real estate and construction loans. Loans in risk grades 1- 4 are considered pass loans. The Bank’s risk grades are as follows:

Risk Grade 1, Excellent - Loans secured by liquid collateral such as certificates of deposit, reputable bank letters of credit, or other cash equivalents; loans that are guaranteed or otherwise backed by the full faith and credit of the United States government or an agency thereof, such as the Small Business Administration; or loans to any publicly held company with a current long-term debt rating of A or better.

Risk Grade 2, Good -  Loans to businesses that have strong financial statements containing an unqualified opinion from a CPA firm and at least three consecutive years of profits; loans supported by un-audited financial statements containing strong balance sheets, five consecutive years of profits, a five-year satisfactory relationship with the Bank, and key balance sheet and income statement trends that are either stable or positive; loans secured by publicly traded marketable securities where there is no impediment to liquidation; loans to individuals backed by liquid personal assets, established credit history, and unquestionable character; or loans to publicly held companies with current long-term debt ratings of Baa or better.

Risk Grade 3, Satisfactory - Loans supported by financial statements (audited or un-audited) that indicate average or slightly below average risk and having some deficiency or vulnerability to changing economic conditions; loans with some weakness but offsetting features of other support are readily available; loans that are meeting the terms of repayment, but which may be susceptible to deterioration if adverse factors are encountered. Loans may be graded Satisfactory when there is no recent information on which to base a current risk evaluation and the following conditions apply:

· At inception, the loan was properly underwritten, did not possess an unwarranted level of credit risk, and the loan met the above criteria for a risk grade of Excellent, Good, or Satisfactory.

· At inception, the loan was secured with collateral possessing a loan value adequate to protect the Bank from loss.

· The loan has exhibited two or more years of satisfactory repayment with a reasonable reduction of the principal balance.

· During the period that the loan has been outstanding, there has been no evidence of any credit weakness. Some examples of weakness include slow payment, lack of cooperation by the borrower, breach of loan covenants or the borrower is in an industry known to be experiencing problems. If any of these credit weaknesses is observed, a lower risk grade may be warranted.

Risk Grade 4, Satisfactory/Monitored - Loans in this category are considered to be of acceptable credit quality, but contain greater credit risk than satisfactory loans due to weak balance sheets, marginal earnings or cash flow, or other uncertainties. These loans warrant a higher than average level of monitoring to ensure that weaknesses do not advance. The level of risk in a Satisfactory/Monitored loan is within acceptable underwriting guidelines so long as the loan is given the proper level of management supervision.

Risk Grade 5, Special Mention - Loans in this category possess potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or in the institution’s credit position at some future date. Special Mention loans are not adversely classified and do not expose an institution to sufficient risk to warrant adverse classification. The key distinctions of a Special Mention classification are that (1) it is indicative of an unwarranted level of risk and (2) weaknesses are considered potential not defined impairments to the primary source of repayment.

20

Risk Grade 6, Substandard - One or more of the following characteristics may be exhibited in loans classified Substandard:

· Loans which possess a defined credit weakness. The likelihood that a loan will be paid from the primary source of repayment is uncertain. Financial deterioration is under way and very close attention is warranted to ensure that the loan is collected without loss.

· Loans are inadequately protected by the current net worth and paying capacity of the obligor.

· The primary source of repayment is gone, and the Bank is forced to rely on a secondary source of repayment, such as collateral liquidation or guarantees.

· Loans have a distinct possibility that the Bank will sustain some loss if deficiencies are not corrected.

· Unusual courses of action are needed to maintain a high probability of repayment.

· The borrower is not generating enough cash flow to repay loan principal; however, it continues to make interest payments.

· The lender is forced into a subordinated or unsecured position due to flaws in documentation.

· Loans have been restructured so that payment schedules, terms, and collateral represent concessions to the borrower when compared to the normal loan terms.

· The lender is seriously contemplating foreclosure or legal action due to the apparent deterioration in the loan.

· There is a significant deterioration in market conditions to which the borrower is highly vulnerable.

Risk Grade 7, Doubtful - One or more of the following characteristics may be present in loans classified Doubtful:

· Loans have all of the weaknesses of those classified as Substandard. However, based on existing conditions, these weaknesses make full collection of principal highly improbable.

· The primary source of repayment is gone, and there is considerable doubt as to the quality of the secondary source of repayment.

· The possibility of loss is high but because of certain important pending factors which may strengthen the loan, loss classification is deferred until the exact status of repayment is known.

Risk Grade 8, Loss - Loans are considered uncollectible and of such little value that continuing to carry them as assets is not feasible. Loans will be classified Loss when it is neither practical nor desirable to defer writing off or reserving all or a portion of a basically worthless asset, even though partial recovery may be possible at some time in the future.

21

The following presents the Company’s loan portfolio credit risk profile by internally assigned grade disaggregated by class of loan at September 30, 2014 and December 31, 2013 (in thousands).

	September 30, 2014												December 31, 2013
	Grade												Grade
	Pass			Special mention			Substandard			Total			Pass			Special mention			Substandard			Total
Commercial and industrial	$	170,467		$	1,308		$	8,624		$	180,399		$	158,536		$	2,934		$	9,729		$	171,199
Commercial real estate		487,532			8,985			15,824			512,341			440,505			2,817			21,238			464,560
Multifamily		274,352			-			-			274,352			184,624			-			-			184,624
Mixed use commercial		27,476			-			-			27,476			4,797			-			-			4,797
Real estate construction		21,615			-			-			21,615			6,565			-			-			6,565
Residential mortgages		181,147			-			4,709			185,856			164,559			-			4,993			169,552
Home equity		51,347			-			654			52,001			56,379			-			733			57,112
Consumer		7,692			-			329			8,021			10,156			-			283			10,439
Total	$	1,221,628		$	10,293		$	30,140		$	1,262,061		$	1,026,121		$	5,751		$	36,976		$	1,068,848
% of Total		96.8	%		0.8	%		2.4	%		100.0	%		96.0	%		0.5	%		3.5	%		100.0	%

The Bank annually reviews the ratings on all commercial and industrial, commercial real estate and real estate construction loans greater than $1 million. Semi-annually, the Bank engages an independent third-party to review a significant portion of loans within these loan classes. Management uses the results of these reviews as part of its ongoing review process.

5. EMPLOYEE BENEFITS

Retirement Plan- The Company’s retirement plan is noncontributory and covers substantially all eligible employees. The plan conforms to the provisions of the Employee Retirement Income Security Act of 1974, as amended, and the Pension Protection Act of 2006, which requires certain funding rules for defined benefit plans. The Company’s policy is to accrue for all pension costs and to fund the maximum amount allowable for tax purposes. Actuarial gains and losses that arise from changes in assumptions concerning future events are amortized over a period that reflects the long-term nature of pension expense used in estimating pension costs.

The Company accounts for its retirement plan in accordance with ASC 715, “Compensation – Retirement Benefits” and ASC 960, “Plan Accounting – Defined Benefit Pension Plans,” which require an employer that is a business entity and sponsors one or more single-employer defined benefit plans to recognize the funded status of a benefit plan on its balance sheet; recognize as a component of other comprehensive income, net of tax, the gains or losses and prior service costs or credits that arise during the period but are not recognized as components of net periodic benefit cost; measure defined benefit plan assets and obligation as of the date of fiscal year-end statement of financial position (with limited exceptions); and disclose in the notes to financial statements additional information about certain effects of net periodic benefit cost for the next fiscal year that arise from delayed recognition of the gains or losses, prior service costs or credits, and transition asset and obligation. Plan assets and benefit obligations shall be measured as of the date of its statement of financial position and in determining the amount of net periodic benefit cost. An employer is required to use the same date for the measurement of plan assets as for the statement of condition.

On December 31, 2012, certain provisions of the Company’s retirement plan were changed which affected all participants in this plan and froze the participation of new entrants into the pension plan for all remaining employees in 2012. These changes froze the plan such that no additional pension benefits would accumulate.

The following table summarizes the net periodic pension credit (in thousands):

	Three Months Ended September 30,						Nine Months Ended September 30,
	2014			2013			2014			2013
Interest cost	$	540		$	499		$	1,619		$	1,495
Expected return on plan assets		(637	)		(577	)		(1,911	)		(1,727	)
Net amortization		6			62			19			184
Net periodic pension credit	$	(91	)	$	(16	)	$	(273	)	$	(48	)

22

In December 2012, the Company made an annual minimum contribution of $1 million for the plan year ended September 30, 2013. There was no additional minimum required contribution for the plan year ended September 30, 2013. The Company does not expect to contribute to its pension plan in 2014.

Post-Retirement Benefits other than Pension - The Company formerly provided life insurance benefits to employees meeting eligibility requirements. Employees hired after December 31, 1997 were not eligible for retiree life insurance. No other welfare benefits were provided. In the second quarter of 2013, the Company terminated all post-retirement life insurance benefits and recorded a non-recurring gain of $1.7 million as a credit to employee compensation and benefits expense in the Company’s consolidated statement of operations.

6. STOCK-BASED COMPENSATION

Stock Options

Under the terms of the Company’s stock option plans adopted in 1999 and 2009, options have been granted to key employees and directors to purchase shares of the Company’s stock. Options are awarded by the Compensation Committee of the Board of Directors. Both plans provide that the option price shall not be less than the fair value of the common stock on the date the option is granted. All options are exercisable for a period of ten years or less.

No options were granted during the first nine months of 2014. Options granted in 2013 and 2012 are exercisable over a three-year period commencing one year from the date of grant at a rate of one-third per year. Options granted in 2011 are exercisable over a three-year period commencing three years from the date of grant at a rate of one-third per year.

The total intrinsic value of options exercised during the first nine months of 2014 and 2013 was $145 thousand and $15 thousand, respectively. The total cash received from such option exercises was $246 thousand and $92 thousand, respectively, excluding the tax benefit realized. In exercising those options, 18,735 shares and 6,667 new shares, respectively, of the Company’s common stock were issued.

Both plans provide for but do not require the grant of stock appreciation rights (“SARs”) that the holder may exercise instead of the underlying option. At September 30, 2014, there were 6,000 SARs outstanding related to options granted before 2011. The SARs had no intrinsic value at September 30, 2014. When the SAR is exercised, the underlying option is canceled. The optionee receives shares of common stock or cash with a fair market value equal to the excess of the fair value of the shares subject to the option at the time of exercise (or the portion thereof so exercised) over the aggregate option price of the shares set forth in the option agreement. The exercise of SARs is treated as the exercise of the underlying option.

A summary of stock option activity follows:

				Weighted-Average
	Number			Exercise Price
	of Shares			Per Share
Outstanding, January 1, 2014		291,000		$	16.18
Granted		-			-
Exercised		(18,735	)	$	13.18
Forfeited or expired		(19,165	)	$	16.82
Outstanding, September 30, 2014		253,100		$	16.35

The following summarizes shares subject to purchase from stock options outstanding and exercisable as of September 30, 2014:

		Outstanding					Exercisable
				Weighted-Average					Weighted-Average
Range of				Remaining	Weighted-Average				Remaining	Weighted-Average
Exercise Prices		Shares		Contractual Life	Exercise Price		Shares		Contractual Life	Exercise Price
$	10.00 - $14.00		120,000	7.4 years	$	11.97		46,669	7.5 years	$	12.81
$	14.01 - $20.00		106,100	8.8 years	$	17.35		30,604	8.7 years	$	17.02
$	20.01 - $30.00		5,000	4.3 years	$	28.30		5,000	4.3 years	$	28.30
$	30.01 - $40.00		22,000	1.8 years	$	32.69		22,000	1.8 years	$	32.69
			253,100	7.4 years	$	16.35		104,273	6.5 years	$	18.99

23

Restricted Stock Awards

Under the Company’s Amended and Restated 2009 Stock Incentive Plan (the “2009 Plan”), the Company can award options, SARs and restricted stock. During the first nine months of 2014, the Company awarded 77,000 shares of restricted stock to certain key employees. The restricted stock awards currently outstanding vest over a three-year period commencing one year from the date of grant at a rate of one-third per year. A summary of restricted stock activity follows:

				Weighted-Average
	Number			Grant-Date
	of Shares			Fair Value
Nonvested, January 1, 2014		-			-
Granted		77,000		$	22.51
Vested		-			-
Forfeited or expired		(3,450	)	$	22.51
Nonvested, September 30, 2014		73,550		$	22.51

The Company accounts for stock-based compensation on a modified prospective basis with the fair value of grants of employee stock options and restricted stock awards recognized in the financial statements. Compensation expense related to stock-based compensation amounted to $599 thousand and $367 thousand for the nine months ended September 30, 2014 and 2013, respectively. The remaining unrecognized compensation cost of approximately $1.8 million at September 30, 2014 will be expensed over the remaining weighted average vesting period of approximately 2.3 years.

Under the 2009 Plan, a total of 500,000 shares of the Company’s common stock were reserved for issuance, of which 204,948 shares remain for possible issuance at September 30, 2014. There are no remaining shares reserved for issuance under the 1999 Stock Option Plan.

7. INCOME TAXES

The deferred tax assets and liabilities are netted and presented in a single amount which is included in deferred taxes in the accompanying consolidated statements of condition. The realization of deferred tax assets (“DTAs”) (net of a recorded valuation allowance) is largely dependent upon future taxable income, future reversals of existing taxable temporary differences and the ability to carry back losses to available tax years. In assessing the need for a valuation allowance, the Company considers positive and negative evidence, including taxable income in carryback years, scheduled reversals of deferred tax liabilities, expected future taxable income and tax planning strategies. At September 30, 2014 the Company had no remaining Federal net operating loss carryforwards and had net operating loss carryforwards of approximately $15.5 million for New York State (“NYS”) income tax purposes, which may be applied against future taxable income. The Company has a full valuation allowance of $360 thousand, tax effected, on the NYS net operating loss carryforward due to the Company’s significant tax-exempt investment income. The valuation allowance may be reversed to income in future periods to the extent that the related DTAs are realized or when the Company returns to consistent, taxable earnings in NYS. The NYS unused net operating loss carryforwards are expected to expire in varying amounts through the year 2032.

On March 31, 2014, Governor Andrew Cuomo signed legislation to implement the New York State fiscal plan for 2014 – 2015.   This legislation encompasses significant changes to New York’s bank tax regime, most notably by merging the bank tax into the general corporate tax law.  In addition, the new budget law simplifies the code by setting forth a single apportionment factor.  The corporate tax rate will be lowered from 7.1% to 6.5% in 2016.  Furthermore, for community banks (all banks and thrifts with $8 billion or less in assets) there is a subtraction modification for a portion of interest earned on all residential and small business loans with a principal amount of up to $5 million made to New York borrowers. All banks in this category that have a REIT on April 1, 2014, and in the applicable tax year would instead get a deduction based on their REIT's dividends paid deduction. The Company had a qualifying REIT on April 1, 2014 and is less than $8 billion in assets. If a change in a tax law or rate occurs, any existing deferred tax liability or asset must be adjusted. The effect is reflected in operations in the period of the enactment of the change in the tax law or rate. As such, the Company made an adjustment to increase its DTAs resulting in a net income tax credit of $612 thousand in 2014.

Offsetting the net income tax credit, was a $454 thousand income tax expense related to an adjustment of the Company’s stock based compensation included in the DTAs primarily for stock options that had expired or been forfeited by former employees. The adjustment relates primarily to prior periods, but management has determined that it is not material, and as such, included it in the 2014 first quarter’s results.

The Company had unrecognized tax benefits including interest of approximately $34 thousand for all periods presented.

24

The Company recognizes interest and penalties accrued relating to unrecognized tax benefits in income tax expense. There is no accrued interest relating to uncertain tax positions as of September 30, 2014. The Company files income tax returns in the U.S. federal jurisdiction and in New York State. Federal returns are subject to audits by tax authorities and the Company was audited for the tax years 2010 through 2012. The Company does not expect a significant change in income taxes as a result of this audit as the tax authorities have tentatively accepted the tax returns with no proposed changes.  In 2012, New York State audited the Company and Suffolk Greenway, Inc., a subsidiary of the Bank, for the years 2008, 2009 and 2010 and there was no change as a result of these audits. It is not anticipated that the unrecognized tax benefits will significantly change over the next 12 months.

8. REGULATORY MATTERS

The Company 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 financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital requirements that involve quantitative measures of the Company’s and the Bank’s assets, liabilities and certain off-balance-sheet items calculated under regulatory accounting practices. The Company’s and the Bank’s capital amounts and the Bank’s classification are also subject to qualitative judgments by the regulators about components, risk weighting and other factors.

Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios of total and tier 1 capital, as defined in the federal banking regulations, to risk-weighted assets and of tier 1 capital to adjusted average assets (leverage). Management believes, as of September 30, 2014, that the Company and the Bank met all such capital adequacy requirements to which it is subject.

The Bank’s capital amounts (in thousands) and ratios are as follows:

						Minimum					Minimum to be Well
						for capital					Capitalized under prompt
	Actual capital ratios					adequacy					corrective action provisions
	Amount		Ratio			Amount		Ratio			Amount		Ratio
September 30, 2014
Total capital to risk-weighted assets	$	195,388		13.97	%	$	111,863		8.00	%	$	139,829		10.00	%
Tier 1 capital to risk-weighted assets		177,890		12.72	%		55,932		4.00	%		83,897		6.00	%
Tier 1 capital to adjusted average assets (leverage)		177,890		10.11	%		70,350		4.00	%		87,938		5.00	%
December 31, 2013
Total capital to risk-weighted assets	$	181,952		14.92	%	$	97,542		8.00	%	$	121,927		10.00	%
Tier 1 capital to risk-weighted assets		166,683		13.67	%		48,771		4.00	%		73,156		6.00	%
Tier 1 capital to adjusted average assets (leverage)		166,683		9.74	%		68,454		4.00	%		85,567		5.00	%

The Company’s tier 1 leverage, tier 1 risk-based and total risk-based capital ratios were 10.21%, 12.84% and 14.09%, respectively, at September 30, 2014 versus 9.81%, 13.77% and 15.02%, respectively, at December 31, 2013.

The ability of the Bank to pay dividends to the Company is subject to certain regulatory restrictions. Generally, dividends declared in a given year by a national bank are limited to its net profit, as defined by regulatory agencies, for that year, combined with its retained net income for the preceding two years, less any required transfer to surplus or to fund for the retirement of any preferred stock. In addition, a national bank may not pay dividends in an amount greater than its undivided profits or declare any dividends if such declaration would leave the bank inadequately capitalized.

In July 2013, the OCC approved new rules on regulatory capital applicable to national banks, implementing Basel III. Most banking organizations are required to apply the new capital rules on January 1, 2015. The final rules set a new common equity tier 1 requirement and higher minimum tier 1 requirements for all banking organizations. They also place limits on capital distributions and certain discretionary bonus payments if a banking organization does not maintain a buffer of common equity tier 1 capital above minimum capital requirements. The rules revise the prompt corrective action framework to incorporate the new regulatory capital minimums. They also enhance risk sensitivity and address weaknesses identified over recent years with the measure of risk-weighted assets, including through new measures of creditworthiness to replace references to credit ratings, consistent with section 939A of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”). Based on our capital levels and balance sheet composition at September 30, 2014, we believe implementation of the new rules will not have a material impact on our capital needs.

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9. FAIR VALUE

Fair value measurement is determined based on the assumptions that market participants would use in pricing the asset or liability in an exchange. The definition of fair value includes the exchange price which is the price in an orderly transaction between market participants to sell an asset or transfer a liability in the principal market for the asset or liability. Market participant assumptions include assumptions about risk, the risk inherent in a particular valuation technique used to measure fair value and/or the risk inherent in the inputs to the valuation technique, as well as the effect of credit risk on the fair value of liabilities. The Company uses three levels of the fair value inputs to measure assets, as described below.

Basis of Fair Value Measurement:

Level 1 – Valuations based on quoted prices in active markets for identical investments.

Level 2 – Valuations based on quoted prices in markets that are not active or for which all significant inputs are observable, either directly or indirectly. Level 2 inputs include: (i) quoted prices for similar investments in active markets, (ii) quoted prices for identical investments traded in non-active markets (i.e., dealer or broker markets) and (iii) inputs other than quoted prices that are observable or inputs derived from or corroborated by market data for substantially the full term of the investment.

Level 3 – Valuations based on inputs that are unobservable, supported by little or no market activity, and significant to the overall fair value measurement.

The types of instruments valued based on quoted market prices in active markets include most U.S. Treasury securities. Such instruments are generally classified within Level 1 and Level 2 of the fair value hierarchy. The Company does not adjust the quoted price for such instruments.

The types of instruments valued based on quoted prices in markets that are not active, broker or dealer quotations, or alternative pricing sources with reasonable levels of price transparency include U.S. Government agency securities, state and municipal obligations, MBS, CMOs and corporate bonds. Such instruments are generally classified within Level 2 of the fair value hierarchy.

The types of instruments valued based on significant unobservable inputs that reflect the Company’s own assumptions about the assumptions that market participants would use in pricing an asset or liability are generally classified within Level 3 of the fair value hierarchy.

ASC 820, “Fair Value Measurements and Disclosures,” presents requirements for measuring fair value and for disclosing information about fair value measurements, including a consistent meaning of the term fair value. ASC 820 provides additional guidance in determining fair values when the volume and level of activity for the asset or liability have significantly decreased, particularly when there is no active market or where the price inputs being used represent distressed sales. It also provides guidelines for making fair value measurements more consistent with principles, reaffirming the need to use judgment to ascertain if a formerly active market has become inactive and in determining fair values when markets become inactive.

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The following table presents the carrying amounts and estimated fair values of the Company’s financial instruments (in thousands).

	Level in	September 30, 2014				December 31, 2013
	Fair Value	Carrying		Estimated		Carrying		Estimated
	Hierarchy	Amount		Fair Value		Amount		Fair Value
Cash and due from banks	Level 1	$	70,152	$	70,152	$	131,352	$	131,352
Cash equivalents	Level 2		1,000		1,000		1,000		1,000
Interest-bearing time deposits in other banks	Level 2		10,000		10,020		10,000		10,000
Federal Reserve Bank, Federal Home Loan
Bank and other stock	N/A		3,200		N/A		2,863		N/A
Investment securities held to maturity	Level 2		62,323		63,942		11,666		12,234
Investment securities available for sale	Level 2		308,589		308,589		400,780		400,780
Loans held for sale	Level 2		-		-		175		175
Loans, net of allowance	Level 2, 3 (1)		1,243,261		1,235,732		1,051,585		1,056,279
Bank owned life insurance	Level 3		44,791		44,791		38,755		38,755
Accrued interest and loan fees receivable	Level 2		6,227		6,227		5,441		5,441
Non-maturity deposits	Level 2		1,356,343		1,356,343		1,284,982		1,284,982
Time deposits	Level 2		224,426		224,860		225,079		225,946
Accrued interest payable	Level 2		149		149		160		160

(1) Impaired loans are generally classified within Level 3 of the fair value hierarchy.

Fair value estimates are made at a specific point in time and may be based on judgments regarding losses expected in the future, risk, and other factors that are subjective in nature. The methods and assumptions used to produce the fair value estimates follow.

The Company records investments available for sale and mortgage servicing rights at fair value. For cash and due from banks, cash equivalents, bank owned life insurance, accrued interest and loan fees receivable, non-maturity deposits and accrued interest payable, the carrying amount is a reasonable estimate of fair value. Interest-bearing time deposits in other banks and time deposits are valued using a replacement cost of funds approach.

Fair values are estimated for portfolios of loans with similar characteristics. The fair value of performing loans was calculated by discounting projected cash flows through their estimated maturity using market discount rates that reflect the general credit and interest rate characteristics of the loan category. The maturity horizon is based on the Bank’s history of repayments for each type of loan and an estimate of the effect of current economic conditions. Fair value for significant non-performing loans is based on recent external appraisals of collateral, if any. If appraisals are not available, estimated cash flows are discounted using a rate commensurate with the associated risk. Assumptions regarding credit risk, cash flows, and discount rates are made using availablemarket information and specific borrower information.

Loans identified as impaired are measured using one of three methods: the loan’s observable market price, the fair value of collateral less estimated costs to sell or the present value of expected future cash flows. Those measured using the loan’s observable market price or the fair value of collateral are recorded at fair value. For each period presented, no impaired loans were measured using the loan’s observable market price. If an impaired loan has had a charge-off or if the fair value of the collateral is less than the recorded investment in the loan, the Company establishes a specific reserve and reports the loan as non-recurring Level 3. The fair value of collateral of impaired loans is generally based on recent real estate appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value.

The fair value of loans held for sale is based on observable inputs in the secondary market.

OREO properties are initially recorded at fair value, less estimated costs to sell when acquired, establishing a new cost basis. Adjustments to OREO are measured at fair value, less estimated costs to sell. Fair values are generally based on third party appraisals or realtor evaluations of the property. These appraisals and evaluations may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification. In cases where the carrying amount exceeds the fair value, less estimated costs to sell, an impairment loss is recognized through a valuation allowance, and the property is reported as non-recurring Level 3.

27

The fair value of commitments to extend credit is estimated by either discounting cash flows or using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the current creditworthiness of the counter-parties. The estimated fair value of written financial guarantees and letters of credit is based on fees currently charged for similar agreements. The fees charged for the commitments were not material in amount.

During the third and fourth quarters of 2013, the Company entered into derivative swap contracts with the purchaser of its Visa Class B shares. The fair value of these derivatives is measured using an internal model that includes the use of probability weighted scenarios for estimates of Visa’s aggregate exposure to the litigation matters, with consideration of amounts funded by Visa into its escrow account for this litigation. As a result, the Company estimates a fair value for these derivatives at 12% of the net sale proceeds from the Company’s sale of the related Visa Class B shares. Since this estimation process requires application of judgment in developing significant unobservable inputs used to determine the possible outcomes and the probability weighting assigned to each scenario, these derivatives have been classified as Level 3 within the valuation hierarchy. (See also Note 3. Investment Securities contained herein.)

The following presents fair value measurements on a recurring basis at September 30, 2014 and December 31, 2013 (in thousands):

			Fair Value Measurements Using
			Significant Other		Significant
			Observable Inputs		Unobservable Inputs
Assets:	September 30, 2014		(Level 2)		(Level 3)
U.S. Government agency securities	$	41,008	$	41,008	$	-
Corporate bonds		6,350		6,350		-
Collateralized mortgage obligations		22,745		22,745		-
Mortgage-backed securities		92,313		92,313		-
Obligations of states and political subdivisions		146,173		146,173		-
Loans held for sale		-		-		-
Mortgage servicing rights		2,173		-		2,173
Total	$	310,762	$	308,589	$	2,173
Liabilities:
Derivatives		932	$	-	$	932
Total	$	932	$	-	$	932

			Fair Value Measurements Using
			Significant Other		Significant
			Observable Inputs		Unobservable Inputs
Assets:	December 31, 2013		(Level 2)		(Level 3)
U.S. Government agency securities	$	100,095	$	100,095	$	-
Corporate bonds		15,651		15,651		-
Collateralized mortgage obligations		30,104		30,104		-
Mortgage-backed securities		97,767		97,767		-
Obligations of states and political subdivisions		157,163		157,163		-
Loans held for sale		175		175		-
Mortgage servicing rights		2,163		-		2,163
Total	$	403,118	$	400,955	$	2,163
Liabilities:
Derivatives		932	$	-	$	932
Total	$	932	$	-	$	932

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Reconciliations for assets and liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) follow (in thousands).

Fair Value Measurements Using Significant Unobservable Inputs (Level 3)
	Three Months Ended September 30,
	2014				2013
	Assets		Liabilities		Assets		Liabilities
	Mortgage Servicing Rights		Derivatives		Mortgage Servicing Rights		Derivatives
Balance, July 1	$	2,172	$	932	$	2,136	$	-
Net increase		1		-		33		460
Balance, September 30	$	2,173	$	932	$	2,169	$	460

Fair Value Measurements Using Significant Unobservable Inputs (Level 3)
	Nine Months Ended September 30,
	2014				2013
	Assets		Liabilities		Assets		Liabilities
	Mortgage  Servicing Rights		Derivatives		Mortgage Servicing Rights		Derivatives
Balance, January 1	$	2,163	$	932	$	1,856	$	-
Net increase		10		-		313		460
Balance, September 30	$	2,173	$	932	$	2,169	$	460

Assets measured at fair value on a non-recurring basis are as follows (in thousands):

Assets:	September 30, 2014		Fair Value Measurements Using Significant Unobservable Inputs (Level 3)
Impaired loans	$	16,361	$	16,361
Total	$	16,361	$	16,361

Assets:	December 31, 2013		Fair Value Measurements Using Significant Unobservable Inputs (Level 3)
Impaired loans	$	16,942	$	16,942
Total	$	16,942	$	16,942

10. LEGAL PROCEEDINGS

Certain lawsuits and claims arising in the ordinary course of business have been filed or are pending against us or our affiliates. In accordance with applicable accounting guidance, we establish accruals for all lawsuits, claims and expected settlements when we believe it is probable that a loss has been incurred and the amount of the loss is reasonably estimable. When a loss contingency is not both probable and estimable, we do not establish an accrual. Any such loss estimates are inherently uncertain, based on currently available information and are subject to management’s judgment and various assumptions. Due to the inherent subjectivity of these estimates and unpredictability of outcomes of legal proceedings, any amounts accrued may not represent the ultimate resolution of such matters.

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To the extent we believe any potential loss relating to such lawsuits and claims may have a material impact on our liquidity, consolidated financial position, results of operations, and/or our business as a whole and is reasonably possible but not probable, we disclose information relating to any such potential loss, whether in excess of any established accruals or where there is no established accrual. We also disclose information relating to any material potential loss that is probable but not reasonably estimable. Where reasonably practicable, we will provide an estimate of loss or range of potential loss. No disclosures are generally made for any loss contingencies that are deemed to be remote.

Based upon information available to us and our review of lawsuits and claims filed or pending against us to date, we have not recognized a material accrual liability for these matters, nor do we currently expect it is reasonably possible that these matters will result in a material liability to the Company. However, the outcome of litigation and other legal and regulatory matters is inherently uncertain, and it is possible that one or more of such matters currently pending or threatened could have an unanticipated material adverse effect on our liquidity, consolidated financial position, results of operations, and/or our business as a whole, in the future.

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

Safe Harbor Statement Pursuant to the Private Securities Litigation Reform Act of 1995 - Certain statements contained in this discussion are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These can include remarks about the Company, the banking industry, the economy in general, expectations of the business environment in which the Company operates, projections of future performance, and potential future credit experience. These remarks are based upon current management expectations, and may, therefore, involve risks and uncertainties that cannot be predicted or quantified and are beyond the Company’s control and are subject to a variety of uncertainties that could cause future results to vary materially from the Company’s historical performance, or from current expectations. These remarks may be identified by such forward-looking statements as “should,” “expect,” “believe,” “view,” “opportunity,” “allow,” “continues,” “reflects,” “typically,” “usually,” “anticipate,” or similar statements or variations of such terms. Factors that could affect the Company include particularly, but are not limited to: increased capital requirements mandated by the Company’s regulators; the Company’s ability to raise capital; competitive factors, including price competition; changes in interest rates; increases or decreases in retail and commercial economic activity in the Company’s market area; variations in the ability and propensity of consumers and businesses to borrow, repay, or deposit money, or to use other banking and financial services; results of regulatory examinations or changes in law, regulations or regulatory practices; the Company’s ability to attract and retain key management and staff; any failure by the Company to maintain effective internal control over financial reporting; larger-than-expected losses from the sale of assets; and the potential that net charge-offs are higher than expected or for further increases in our provision for loan losses. Further, it could take the Company longer than anticipated to implement its strategic plans to increase revenue and manage non-interest expense, or it may not be possible to implement those plans at all. Finally, new and unanticipated legislation, regulation, or accounting standards may require the Company to change its practices in ways that materially change the results of operations. We have no obligation to update any forward-looking statements to reflect events or circumstances after the date of this document. For more information, see the risk factors described in the Company’s Annual Report on Form 10-K and other filings with the Securities and Exchange Commission.

Non-GAAP Disclosure - This discussion includes non-GAAP financial measures of the Company’s tangible common equity (“TCE”) ratio, tangible common equity and tangible assets. A non-GAAP financial measure is a numerical measure of historical or future financial performance, financial position or cash flows that excludes or includes amounts that are required to be disclosed in the most directly comparable measure calculated and presented in accordance with U.S. GAAP. The Company believes that these non-GAAP financial measures provide both management and investors a more complete understanding of the underlying operational results and trends and the Company’s marketplace performance. The presentation of this additional information is not meant to be considered in isolation or as a substitute for the numbers prepared in accordance with U.S. GAAP and may not be comparable to similarly titled measures used by other financial institutions.

Executive Summary - The Company is a one-bank holding company incorporated in 1985. The Company operates as the parent for its wholly owned subsidiary, the Bank, a national bank founded in 1890. The income of the Company is primarily derived through the operations of the Bank and the REIT.

The Bank is a full-service bank serving the needs of its local residents through 26 branches, in Nassau and Suffolk Counties, New York and loan production offices in Garden City and Melville, New York. The Bank’s 26 branches include the two recently opened in Melville and Garden City in June 2014 and December 2013, respectively. The Bank offers a full line of domestic commercial and retail banking services and wealth management services. The Bank’s primary lending area includes all of Suffolk County and the adjacent markets of Nassau County and New York City. The Bank makes commercial real estate floating and fixed rate loans, commercial and industrial loans to manufacturers, wholesalers, distributors, developers/contractors and retailers and agricultural loans. The Bank also makes loans secured by residential mortgages, and both fixed and floating rate second mortgage loans with a variety of plans for repayment. Real estate construction loans are also offered.

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In order to expand the Company geographically into western Suffolk and Nassau Counties and to diversify the lending business of the Company, loan production offices were opened in Garden City and Melville in 2013 and 2012, respectively. As part of our strategy to move westward, the loan production office in Garden City serves the major business markets in central and western Long Island. Consistent with that strategy, we have identified Long Island City, Queens, as our next expansion market. We intend to open a loan production office coupled with a small branch in Long Island City to serve Queens and nearby Brooklyn within the next few months. Seasoned banking professionals have joined the Company to augment both interest and fee income through the origination of commercial and industrial loans, the generation of high quality multifamily and jumbo mortgages to be retained in the portfolio and conforming mortgages for sale in secondary markets. The Bank finances most of its activities with deposits, including demand, saving, N.O.W. and money market deposits, as well as time deposits. It may also rely on other sources of funds, including inter-bank overnight loans. The Company’s chief competition includes local banks within its market area, as well as New York City money center banks and regional banks.

Financial Performance Summary

As of or for the quarters and nine months ended September 30, 2014 and 2013

(dollars in thousands, except per share data)

							Over/										Over/
	Quarters ended September 30,						(under)				Nine months ended September 30,						(under)
	2014			2013			2013				2014			2013			2013
Revenue (1)	$	18,099		$	20,559			(12.0	%)		$	54,709		$	53,829			1.6	%
Operating expenses (2)	$	13,236		$	15,090			(12.3	%)		$	39,697		$	41,583			(4.5	%)
Provision for loan losses	$	250		$	-			N/	M	(4)	$	750		$	-			N/	M	(4)
Net income	$	3,738		$	3,912			(4.4	%)		$	11,229		$	9,390			19.6	%
Net income per common share - diluted	$	0.32		$	0.34			(5.9	%)		$	0.96		$	0.81			18.5	%
Return on average assets		0.84	%		0.92	%		(8	)	bp		0.87	%		0.76	%		11		bp
Return on average stockholders' equity		8.18	%		9.72	%		(154	)	bp		8.51	%		7.70	%		81		bp
Tier 1 leverage ratio		10.21	%		9.66	%		55		bp		10.21	%		9.66	%		55		bp
Tier 1 risk-based capital ratio		12.84	%		13.94	%		(110	)	bp		12.84	%		13.94	%		(110	)	bp
Total risk-based capital ratio		14.09	%		15.19	%		(110	)	bp		14.09	%		15.19	%		(110	)	bp
Tangible common equity ratio (non-GAAP)		10.07	%		9.21	%		86		bp		10.07	%		9.21	%		86		bp
Total stockholders' equity/total assets (3)		10.22	%		9.37	%		85		bp		10.22	%		9.37	%		85		bp

bp - denotes basis points; 100 bp equals 1%.

(1) Represents net interest income plus total non-interest income.

(2) Results for the 2013 nine-month period are net of a $1,659 non-recurring gain arising from the termination of post-retirement life insurance benefits during the second quarter of 2013.

(3) The ratio of total stockholders' equity to total assets is the most comparable GAAP measure to the non-GAAP tangible common equity ratio presented herein.

(4) N/M - denotes % variance not meaningful for statistical purposes.

At September 30, 2014, the Company, on a consolidated basis, had total assets of $1.8 billion, total deposits of $1.6 billion and stockholders’ equity of $183 million. The Company recorded net income of $3.7 million, or $0.32 per diluted common share, for the third quarter of 2014, compared to $3.9 million, or $0.34 per diluted common share, for the same period in 2013. The 4.4% reduction in third quarter 2014 reported earnings versus 2013 resulted principally from a $3.8 million pre-tax gain recorded in the third quarter of 2013 on the sale of Visa Class B shares owned by the Company, coupled with a $250 thousand provision for loan losses in 2014. The Company did not record a provision for loan losses in the third quarter of 2013. Partially offsetting these negative factors was a $1.6 million increase in net interest income in 2014, coupled with a $1.9 million reduction in operating expenses when compared to the comparable 2013 period.

The Company’s return on average assets and return on average common stockholders’ equity were 0.84% and 8.18%, respectively, in the third quarter of 2014 versus 0.92% and 9.72%, respectively, in the third quarter of 2013.

The Company experienced an increase in the total loan portfolio of $67 million, from $1.20 billion at June 30, 2014 to $1.26 billion at September 30, 2014, a 5.6% quarterly growth rate. The geographic and product diversification strategies implemented in our lending businesses continue to work well. Each of our lending businesses, commercial, multifamily and residential, have contributed. The Company is increasing market share by preserving our eastern Suffolk lending franchise while simultaneously expanding west. Third quarter loan growth was net of the September 2014 sale of $25 million in performing multifamily loans.

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The credit quality of the Company’s loan portfolio remains strong. Notwithstanding the strong loan growth we are experiencing and while we can compete aggressively on price due to the competitive advantage we enjoy on funding costs, we will not compromise on credit quality. Total non-accrual loans on September 30, 2014 were $15 million, or 1.16% of total loans, and a substantial majority of these loans are both well collateralized and performing under negotiated workout agreements with cooperative borrowers. Early delinquencies (30-89 days past due), which are managed aggressively as a potential harbinger of future credit issues, continue to be well controlled at $3.2 million, or 0.25% of total loans. We also believe we are well reserved given the risks in our loan portfolio and the improving economic conditions in our markets. Our allowance for loan losses at September 30, 2014 was $18.8 million, or 1.49% of total loans and 128% of non-accrual loans.

The Company’s core deposit franchise continues to be among the best in the region. Core deposits, consisting of demand, N.O.W., saving and money market deposits, totaled $1.4 billion at September 30, 2014, representing 86% of total deposits at that date. Demand deposits totaled $681 million at September 30, 2014 and represented 43% of total deposits at that date. The deposit product mix continues to be an important strength of the Company and resulted in an average cost of funds of 16 basis points during the third quarter of 2014.

Critical Accounting Policies, Judgments and Estimates - The Company’s accounting and reporting policies conform to U.S. GAAP and general practices within the banking industry. The preparation of the financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and the accompanying notes. Actual results could differ from those estimates.

Allowance  for Loan  Losses - In management’s opinion, one of the most critical accounting policies impacting the Company’s financial statements is the evaluation of the allowance for loan losses. The allowance for loan losses is a valuation allowance for probable incurred losses, increased by the provision for loan losses and recoveries, and decreased by loan charge-offs. For all classes of loans, when a loan, in full or in part, is deemed uncollectible, it is charged against the allowance for loan losses. This happens when the loan is past due and the borrower has not shown the ability or intent to make the loan current, or the borrower does not have sufficient assets to pay the debt, or the value of the collateral is less than the balance of the loan and is not considered likely to improve soon. The allowance for loan losses is determined by a quarterly analysis of the loan portfolio. Such analysis includes changes in the size and composition of the portfolio, the Company’s own historical loan losses, industry-wide losses, current and anticipated economic trends, and details about individual loans. It also includes estimates of the actual value of collateral, other possible sources of repayment and estimates that are susceptible to significant changes due to changes in appraisal values of collateral, national and regional economic conditions and other relevant factors. All non-accrual loans over $250 thousand in the commercial and industrial, commercial real estate and real estate construction loan classes and all TDRs are evaluated individually for impairment. All other loans are generally evaluated as homogeneous pools with similar risk characteristics. In assessing the adequacy of the allowance for loan losses, management reviews the loan portfolio by separate classes that have similar risk and collateral characteristics. These classes are commercial and industrial, commercial real estate, multifamily, mixed use commercial, real estate construction, residential mortgages, home equity and consumer loans.

The allowance for loan losses consists of specific and general components. The specific component relates to loans that are individually classified as impaired. Specific reserves are established based on an analysis of the most probable sources of repayment or liquidation of collateral. Impaired loans that are collateral dependent are reviewed based on the fair market value of collateral and the estimated time required to recover the Company’s investment in the loans, as well as the cost of doing so, and the estimate of the recovery. Non-collateral dependent impaired loans are reviewed based on the present value of estimated future cash flows, including balloon payments, if any, using the loan’s effective interest rate. While every impaired loan is evaluated individually, not every loan requires a specific reserve. Specific reserves fluctuate based on changes in the underlying loans, anticipated sources of repayment, and charge-offs. The general component covers non-impaired loans and is based on historical loss experience for each loan class from a rolling twelve quarter period and modifying those percentages, if necessary, after adjusting for current qualitative and environmental factors that reflect changes in the estimated collectability of the loan class not captured by historical loss data.  These factors augment actual loss experience and help estimate the probability of loss within the loan portfolio based on emerging or inherent risk trends. These qualitative factors are applied as an adjustment to historical loss rates and require judgments that cannot be subjected to exact mathematical calculation. There are no formulas for translating them into a specific basis point adjustment of the Company’s historical loss rate for a pool of loans having similar risk characteristics. These adjustments reflect management’s overall estimate of the extent to which current losses on a pool of loans will differ from historical loss experience. These adjustments are subjective estimates and management reviews them on a quarterly basis. TDRs are also considered impaired with impairment generally measured at the present value of estimated future cash flows using the loan’s effective interest rate at inception or using the fair value of collateral, less estimated costs to sell, if repayment is expected solely from the collateral.

Deferred Tax Assets and Liabilities – Deferred tax assets and liabilities are the expected future tax consequences of temporary differences between the carrying amounts and the tax bases of assets and liabilities, computed using enacted tax rates. Deferred tax assets are recognized if it is more likely than not that a future benefit will be realized. A valuation allowance, if needed, reduces deferred tax assets to the amount expected to be realized.  The realization of deferred tax assets (net of a recorded valuation allowance) is largely dependent upon future taxable income, future reversals of existing taxable temporary differences and the ability to carryback losses to available tax years. In assessing the need for a valuation allowance, the Company considers all relevant positive and negative evidence, including taxable income in carryback years, scheduled reversals of deferred tax liabilities, expected future taxable income and available tax planning strategies.

32

OTTI of Investment Securities – Management evaluates securities for OTTI on at least a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation. For securities in an unrealized loss position, management considers the extent and duration of the unrealized loss, and the financial condition and near-term prospects of the issuer. Management also assesses whether it intends to sell, or it is more likely than not that it will be required to sell, a security in an unrealized loss position before recovery of its amortized cost basis. If either of the criteria regarding intent or requirement to sell is met, the entire difference between amortized cost and fair value is recognized as impairment through earnings. For debt securities that do not meet the aforementioned criteria, the amount of impairment is split into two components as follows: 1) OTTI related to credit loss, which must be recognized in the statement of operations and 2) OTTI related to other factors, which is recognized in other comprehensive income (loss). The credit loss is defined as the difference between the present value of the cash flows expected to be collected and the amortized cost basis. For equity securities, the entire amount of impairment is recognized through earnings.

Material Changes in Financial Condition - Total assets of the Company were $1.8 billion at September 30, 2014. When compared to December 31, 2013, total assets increased by $93 million. This change largely reflects an increase in loans of $193 million, partially offset by a decline in cash and cash equivalents of $61 million as redeployment of lower-yielding overnight interest-bearing deposits into higher yielding assets continued, coupled with a decline in investment securities of $42 million. Total loans were $1.26 billion at September 30, 2014 compared to $1.07 billion at December 31, 2013. The increase in the loan portfolio largely reflects growth of multifamily, CRE, mixed use commercial, residential mortgage and C&I loans of $90 million, $48 million, $23 million, $16 million and $9 million, respectively, during the first nine months of 2014.

Total investment securities were $371 million at September 30, 2014 and $412 million at December 31, 2013. The decrease in the investment portfolio largely reflects sales of corporate bonds, MBS of U.S. Government-sponsored enterprises and U.S. Government agency securities of $9 million, $6 million and $5 million, respectively. In addition, principal paydowns of CMOs and MBS of U.S. Government-sponsored enterprises totaled $10 million and maturities and calls of municipal obligations and U.S. Government agency securities totaled $22 million during the first nine months of 2014. These were partially offset by purchases of municipal obligations totaling $4 million. A reduction in interest rates in 2014 had a positive impact of $4 million on the fair value of the Company’s available for sale investment portfolio.

At September 30, 2014, total deposits were $1.6 billion, an increase of $71 million when compared to December 31, 2013. This increase was primarily due to higher balances of demand deposits, money market deposits and higher-cost time certificates of $100,000 or more of $53 million, $13 million and $7 million, respectively. Core deposit balances, which consist of demand, saving, N.O.W. and money market deposits, represented 86% and 85% of total deposits at September 30, 2014 and December 31, 2013, respectively. Demand deposit balances represented 43% and 42% of total deposits at September 30, 2014 and December 31, 2013, respectively. At September 30, 2014, the Company had $10 million in overnight borrowings outstanding. The Company had no borrowed funds outstanding at December 31, 2013.

Liquidity and Capital Resources - Liquidity management is defined as both the Company’s and the Bank’s ability to meet their financial obligations on a continuous basis without material loss or disruption of normal operations. These obligations include the withdrawal of deposits on demand or at their contractual maturity, the repayment of borrowings as they mature, funding new and existing loan commitments and the ability to take advantage of business opportunities as they arise. Asset liquidity is provided by short-term investments and the marketability of securities available for sale. The Company may also leave excess reserve balances at the FRB if the rate being paid is higher than would be available from other short-term investments. Liquid assets, consisting of federal funds sold, securities available for sale and balances at the FRB, decreased to $328 million at September 30, 2014 compared to $462 million at December 31, 2013 as the Company continued to redeploy its lower-yielding cash balances into loans. These liquid assets may include assets that have been pledged against municipal deposits or short-term borrowings. In addition, the Company has pledged U.S. Government agency securities held in its available for sale portfolio, with a market value of approximately $3 million at September 30, 2014, as collateral for the derivative swap contracts. Liquidity is also provided by the maintenance of a base of core deposits, maturing short-term assets including cash and due from banks, the ability to sell or pledge marketable assets and access to lines of credit.

Liquidity is continuously monitored, thereby allowing management to better understand and react to emerging balance sheet trends, including temporary mismatches with regard to sources and uses of funds. After assessing actual and projected cash flow needs, management seeks to obtain funding at the most economical cost. These funds can be obtained by converting liquid assets to cash or by attracting new deposits or other sources of funding. Many factors affect the Company’s ability to meet liquidity needs, including variations in the markets served, loan demand, its asset/liability mix, its reputation and credit standing in its markets and general economic conditions. Borrowings and the scheduled amortization of investment securities and loans are more predictable funding sources. Deposit flows and securities prepayments are somewhat less predictable as they are often subject to external factors. Among these are changes in the local and national economies, competition from other financial institutions and changes in market interest rates.

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The Company’s primary sources of funds are cash provided by deposits and borrowings, proceeds from maturities and sales of securities available for sale and cash provided by operating activities. At September 30, 2014, total deposits were $1.6 billion, an increase of $71 million when compared to December 31, 2013. Of the total time deposits at September 30, 2014, $190 million are scheduled to mature within the next 12 months. Based on historical experience, the Company expects to be able to replace a substantial portion of those maturing deposits with comparable deposit products. At September 30, 2014, there were $10 million in borrowings outstanding which were repaid the next business day. At December 31, 2013, there were no borrowings outstanding. For the nine months ended September 30, 2014 and 2013, proceeds from sales and maturities of securities available for sale totaled $41 million and $35 million, respectively.

The Company’s primary uses of funds are for the origination of loans and the purchase of investment securities. For the nine months ended September 30, 2014, the Company had net loan originations for portfolio of $218 million compared to $223 million for the same period in 2013. The Company purchased investment securities totaling $4 million and $116 million during the nine months ended September 30, 2014 and 2013, respectively.

The Bank’s Asset/Liability and Funds Management Policy establishes specific policies and operating procedures governing liquidity levels to assist management in developing plans to address future and current liquidity needs. Management monitors the rates and cash flows from the loan and investment portfolios while also examining the maturity structure and volatility characteristics of liabilities to develop an optimum asset/liability mix. Available funding sources include retail, commercial and municipal deposits, purchased liabilities and stockholders’ equity. At September 30, 2014, access to approximately $432 million in Federal Home Loan Bank (“FHLB”) lines of credit for overnight or term borrowings with maturities of up to thirty years was available. At September 30, 2014, approximately $60 million and $10 million in unsecured and secured lines of credit, respectively, extended by correspondent banks were also available to be utilized, if needed, for short-term funding purposes. At September 30, 2014, $10 million in overnight borrowings were outstanding with the FHLB. No borrowings were outstanding under lines of credit with correspondent banks.

The Bank also has the ability to access the brokered deposit market. Deposits gathered through the Certificate of Deposit Account Registry Service (“CDARS”) are considered for regulatory purposes to be brokered deposits. At September 30, 2014, the Bank had $4 million in CDARS deposits outstanding.

The Company strives to maintain an efficient level of capital, commensurate with its risk profile, on which a competitive rate of return to stockholders will be realized over both the short and long term. Capital is managed to enhance stockholder value while providing flexibility for management to act opportunistically in a changing marketplace. Management continually evaluates the Company’s capital position in light of current and future growth objectives and regulatory guidelines. Total stockholders’ equity amounted to $183 million at September 30, 2014 and $167 million at December 31, 2013. The increase in stockholders’ equity versus December 31, 2013 was due to a combination of net income, net of dividends paid, recorded during the first nine months of 2014 coupled with a $5 million decrease in accumulated other comprehensive loss, net of tax. The decrease in accumulated other comprehensive loss at September 30, 2014 resulted primarily from the positive impact of a reduction in interest rates in 2014 on the value of the Company’s available for sale investment portfolio.

The Company and the Bank are subject to regulatory capital requirements. The Company’s tier 1 leverage, tier 1 risk-based and total risk-based capital ratios were 10.21%, 12.84% and 14.09%, respectively, at September 30, 2014. The Company’s capital ratios exceeded all regulatory requirements at September 30, 2014. The Bank’s tier 1 leverage, tier 1 risk-based and total risk-based capital ratios were 10.11%, 12.72% and 13.97%, respectively, at September 30, 2014. Each of these ratios exceeds the regulatory guidelines for a well-capitalized institution, the highest regulatory capital category.

The Company did not repurchase any shares of its common stock during the first nine months of 2014. Repurchase of shares will occur only if management believes that the purchase will be at prices that are accretive to earnings per share and is the most efficient use of the Company’s capital.

The Company’s tangible common equity ratio was 10.07% at September 30, 2014 compared to 9.68% at December 31, 2013 and 9.21% at September 30, 2013. The ratio of tangible common equity to tangible assets, or TCE ratio, is calculated by dividing total common stockholders’ equity by total assets, after reducing both amounts by intangible assets. The TCE ratio is not required by GAAP or by applicable bank regulatory requirements, but is a metric used by management to evaluate the adequacy of our capital levels. Since there is no authoritative requirement to calculate the TCE ratio, our TCE ratio is not necessarily comparable to similar capital measures disclosed or used by other companies in the financial services industry. Tangible common equity and tangible assets are non-GAAP financial measures and should be considered in addition to, not as a substitute for or superior to, financial measures determined in accordance with GAAP or as required by bank regulatory agencies. Set forth below are the reconciliations of tangible common equity to GAAP total common stockholders’ equity and tangible assets to GAAP total assets at September 30, 2014 (in thousands):

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Total stockholders' equity	$	183,197		Total assets	$	1,793,042		10.22	%	(1)
Less: intangible assets		(2,987	)	Less: intangible assets		(2,987	)
Tangible common equity	$	180,210		Tangible assets	$	1,790,055		10.07	%

(1) The ratio of total stockholders' equity to total assets is the most comparable GAAP measure to the non-GAAPtangible common equity ratio presented herein.

All dividends must conform to applicable statutory requirements. The Company’s ability to pay dividends to stockholders depends on the Bank’s ability to pay dividends to the Company. Under 12 USC 56-9, a national bank may not pay a dividend on its common stock if the dividend would exceed net undivided profits then on hand. Further, under 12 USC 60, a national bank must obtain prior approval from the OCC to pay dividends on either common or preferred stock that would exceed the bank’s net profits for the current year combined with retained net profits (net profits minus dividends paid during that period) of the prior two years. The ability of the Bank to pay dividends to the Company is subject to certain regulatory restrictions. Generally, dividends declared in a given year by a national bank are limited to its net profit, as defined by regulatory agencies, for that year, combined with its retained net income for the preceding two years, less any required transfer to surplus or to fund for the retirement of any preferred stock. In addition, a national bank may not pay dividends in an amount greater than its undivided profits or declare any dividends if such declaration would leave the bank inadequately capitalized.

Off-Balance Sheet Arrangements - The Bank is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby and documentary letters of credit. Those instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the consolidated financial statements. The Bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Bank evaluates each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Bank upon extension of credit, is based on management’s credit evaluation of the customer. Collateral required varies, but may include accounts receivable, inventory, equipment, real estate and income-producing commercial properties. At September 30, 2014 and December 31, 2013, commitments to originate loans and commitments under unused lines of credit for which the Bank is obligated amounted to approximately $159 million and $113 million, respectively.

Letters of credit are conditional commitments guaranteeing payments of drafts in accordance with the terms of the letter of credit agreements. Commercial letters of credit are used primarily to facilitate trade or commerce and are also issued to support public and private borrowing arrangements, bond financing and similar transactions. Collateral may be required to support letters of credit based upon management’s evaluation of the creditworthiness of each customer. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Most letters of credit expire within one year. At September 30, 2014 and December 31, 2013, letters of credit outstanding were approximately $19 million and $18 million, respectively.

The Company has recorded a liability of $255 thousand for unfunded commitments at September 30, 2014.

Material Changes in Results of Operations – Comparison of the Quarters Ended September 30, 2014 and 2013 - The Company recorded net income of $3.7 million during the third quarter of 2014 versus $3.9 million in the comparable 2013 period. The decline in third quarter 2014 net income resulted principally from a $4.0 million decrease in non-interest income coupled with a $250 thousand provision for loan losses in 2014. The Company did not record a provision for loan losses in the third quarter of 2013. Partially offsetting these negative factors was a $1.6 million increase in net interest income, a $1.9 million reduction in total operating expenses and a lower effective tax rate in the third quarter of 2014.

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The $1.6 million or 11.3% improvement in third quarter 2014 net interest income resulted from a $91 million increase in average total interest-earning assets, coupled with an 18 basis point improvement in the Company’s net interest margin to 4.00% in 2014 versus 3.82% in 2013. The Company’s third quarter 2014 average total interest-earning asset yield was 4.14% versus 4.00% for the comparable 2013 period. Despite a lower average yield on the Company’s loan portfolio, down 48 basis points, in 2014 versus 2013, the Company’s average balance sheet mix continued to improve as average loans increased by $286 million (30.7%) versus third quarter 2013 and low-yielding overnight interest-bearing deposits declined by $143 million (77.3%) during the same period. Liquid investments represented 3% of average total interest-earning assets in the third quarter of 2014 versus 12% a year ago. The average securities portfolio decreased by $52 million to $376 million in the third quarter of 2014 versus the comparable 2013 period. The average yield on the investment portfolio was 3.71% in the third quarter of 2014 versus 3.66% a year ago.

The Company’s average cost of total interest-bearing liabilities declined by six basis points to 0.27% in the third quarter of 2014 versus 0.33% in the third quarter of 2013. The Company’s total cost of funds, historically among the lowest in the industry, declined to 0.16% in the third quarter of 2014 from 0.19% a year ago. The Company’s lower funding cost resulted largely from average core deposits of $1.3 billion in 2014, with average demand deposits representing 43% of third quarter average total deposits. Average total deposits increased by $62 million or 4.1% during the third quarter of 2014 versus 2013. Average core deposit balances represented 85% of total deposits during the same 2014 period.

NET INTEREST INCOME ANALYSIS

For the Three Months Ended September 30, 2014 and 2013

(unaudited, dollars in thousands)

	2014								2013
	Average					Average			Average					Average
	Balance		Interest			Yield/Cost			Balance		Interest			Yield/Cost
Assets:
Interest-earning assets:
Investment securities (1)	$	376,097	$	3,521			3.71	%	$	427,867	$	3,945			3.66	%
Federal Reserve Bank,  Federal Home Loan Bank and other stock		2,990		42			5.57			2,916		36			4.90
Federal funds sold and interest-bearing deposits		41,978		35			0.33			185,324		140			0.30
Loans (2)		1,218,738		13,532			4.41			932,578		11,506			4.89
Total interest-earning assets		1,639,803	$	17,130			4.14	%		1,548,685	$	15,627			4.00	%
Non-interest-earning assets		130,711								143,177
Total assets	$	1,770,514							$	1,691,862
Liabilities and stockholders' equity:
Interest-bearing liabilities:
Saving, N.O.W. and money market deposits	$	668,850	$	291			0.17	%	$	642,982	$	308			0.19	%
Time deposits		228,207		322			0.56			243,207		425			0.69
Total saving and time deposits		897,057		613			0.27			886,189		733			0.33
Borrowings		1,957		2			0.37			-		-			-
Total interest-bearing liabilities		899,014		615			0.27			886,189		733			0.33
Demand deposits		673,441								622,342
Other liabilities		16,818								23,650
Total liabilities		1,589,273								1,532,181
Stockholders' equity		181,241								159,681
Total liabilities and stockholders' equity	$	1,770,514							$	1,691,862
Total cost of funds							0.16	%							0.19	%
Net interest rate spread							3.87	%							3.67	%
Net interest income/margin				16,515			4.00	%				14,894			3.82	%
Less tax-equivalent basis adjustment				(966	)							(922	)
Net interest income			$	15,549							$	13,972

(1) Interest on securities includes the effects of tax-equivalent basis adjustments of $830 and $880 in 2014 and 2013, respectively.

(2) Interest on loans includes the effects of tax-equivalent basis adjustments of $136 and $42 in 2014 and 2013, respectively.

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The $250 thousand provision for loan losses recorded during the third quarter of 2014 was due to the growth in the loan portfolio experienced during the past twelve months. The Company did not record a provision for loan losses in the third quarter of 2013. The adequacy of the provision and the resulting allowance for loan losses, which was $18.8 million at September 30, 2014, is determined by management’s ongoing review of the loan portfolio, including identification and review of individual problem situations that may affect a borrower’s ability to repay, delinquency and non-performing loan data including the current status of criticized and classified loans, collateral values and changes in the size and mix of the loan portfolio. (See also Critical Accounting Policies, Judgments and Estimates and Asset Quality contained herein.)

Non-interest income decreased by $4.0 million in the third quarter of 2014 versus the comparable 2013 period principally the result of a $3.8 million pre-tax gain recorded on the sale of Visa Class B shares owned by the Company in 2013. No Visa shares were sold in the 2014 period. Excluding this gain, non-interest income declined by $201 thousand or 7.3% in 2014. This decline was due to reductions in several categories, most notably deposit service charges and other service charges, commissions and fees.  The reduction in other service charges, commissions and fees resulted from a decision to outsource the Company’s investment sales function at the end of the second quarter of 2014. The reduction in fee income associated with this strategic realignment will be more than offset by a reduction in operating expenses from staff eliminations resulting from the outsourcing. Partially offsetting the foregoing reductions in non-interest income was a $217 thousand gain recorded in the third quarter of 2014 from the sale of performing multifamily loans. The Company may opportunistically choose to sell other performing loans in future periods based upon loan growth, interest rates, the shape of the yield curve and other asset/liability factors.

Non-Interest Income

For the quarters and nine months ended September 30, 2014 and 2013

(dollars in thousands)

					Over/									Over/
	Quarters ended September 30,				(under)				Nine months ended September 30,					(under)
	2014		2013		2013				2014			2013		2013
Service charges on deposit accounts	$	887	$	964		(8.0	)%		$	2,834		$	2,839		(0.2	)%
Other service charges, commissions and fees		778		928		(16.2	)			2,349			2,451		(4.2	)
Fiduciary fees		265		279		(5.0	)			824			815		1.1
Net gain (loss) on sale of securities available for sale		11		3		266.7				(12	)		395		(103.0	)
Net gain on sale of portfolio loans		217		-		N/	M	(1)		217			445		(51.2	)
Net gain on sale of mortgage loans originated for sale		51		142		(64.1	)			214			973		(78.0	)
Net gain on sale of premises and equipment		-		-		N/	M	(1)		752			-		N/	M	(1)
Gain on Visa shares sold		-		3,836		(100.0	)			-			3,836		(100.0	)
Income from bank owned life insurance		316		357		(11.5	)			1,036			399		159.6
Other operating income		25		78		(67.9	)			106			215		(50.7	)
Total non-interest income	$	2,550	$	6,587		(61.3	)%		$	8,320		$	12,368		(32.7	)%

(1) N/M - denotes % variance not meaningful for statistical purposes.

Total operating expenses decreased by $1.9 million or 12.3% in the third quarter of 2014 versus 2013 as a result of expenses recorded in the third quarter of 2013 incurred in closing two branch offices ($596 thousand) and a reserve, excluding carrying costs,  established for potential future reductions in the Visa Class B conversion ratio ($461 thousand). Of the 2013 branch closing costs totaling $596 thousand, the amounts recorded in branch consolidation costs (primarily lease termination costs and severance), occupancy expense and equipment expense were $460 thousand, $84 thousand and $52 thousand, respectively. Excluding these items, total operating expenses would have declined by $797 thousand or 5.7% in the third quarter of 2014 versus 2013. Expense reductions were reflected in several expense categories in the third quarter of 2014, most notably occupancy (down $290 thousand), equipment expense (down $198 thousand), FDIC assessment (down $171 thousand) and other operating expenses (down $137 thousand). The lower occupancy and equipment costs in 2014 were largely due to the recent consolidation of the Company’s branch network. The lower FDIC assessment expense in the third quarter of 2014 versus 2013 reflected the Bank’s lower assessment rate as it is no longer under a regulatory formal agreement. The reduction in other operating expenses resulted primarily from reduced costs associated with fees and subscriptions and telephone systems.

The Company recorded income tax expense of $875 thousand in the third quarter of 2014 resulting in an effective tax rate of 19.0% versus an income tax expense of $1.6 million and an effective tax rate of 28.5% in the comparable period a year ago. The 2013 effective tax rate reflected the change in the projected annualized effective tax rate from the cumulative 19% for the first six months of 2013 to an estimated 23% for the full year, primarily due to the actual and projected gains on the sale of Visa Class B shares during the last half of 2013.

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Operating Expenses

For the quarters and nine months ended September 30, 2014 and 2013

(dollars in thousands)

					Over/								Over/
	Quarters ended September 30,				(under)			Nine months ended September 30,					(under)
	2014		2013		2013			2014			2013		2013
Employee compensation and benefits (1)	$	8,628	$	8,709		(0.9	)%	$	25,977		$	24,037		8.1	%
Occupancy expense		1,295		1,585		(18.3	)		4,141			4,787		(13.5	)
Equipment expense		418		616		(32.1	)		1,301			1,745		(25.4	)
Consulting and professional services		693		735		(5.7	)		1,883			1,881		0.1
FDIC assessment		202		373		(45.8	)		737			1,414		(47.9	)
Data processing		549		607		(9.6	)		1,681			1,823		(7.8	)
Branch consolidation costs		-		460		(100.0	)		(449	)		460		(197.6	)
Reserve and carrying costs related to Visa shares sold		57		474		(88.0	)		172			474		(63.7	)
Other operating expenses		1,394		1,531		(8.9	)		4,254			4,962		(14.3	)
Total operating expenses	$	13,236	$	15,090		(12.3	)%	$	39,697		$	41,583		(4.5	)%

(1) Results for the 2013 nine-month period are net of a $1,659 non-recurring gain arising from the termination of post-retirement life insurance benefits during the second quarter of 2013.

Material Changes in Results of Operations – Comparison of the Nine Months Ended September 30, 2014 and 2013 - The Company recorded net income of $11.2 million during the first nine months of 2014 versus $9.4 million in the comparable 2013 period. The improvement in 2014 net income resulted principally from a $4.9 million increase in net interest income coupled with a $1.9 million reduction in total operating expenses and a lower effective tax rate in the September year-to-date 2014 period. Partially offsetting these positive factors was a $4.0 million reduction in non-interest income in the first nine months of 2014 versus the comparable 2013 period and a $750 thousand provision for loan losses in 2014. The Company did not record a provision for loan losses in the comparable 2013 period.

The $4.9 million or 11.9% improvement in September year-to-date 2014 net interest income resulted from a $75 million increase in average total interest-earning assets, coupled with a 25 basis point improvement in the Company’s net interest margin to 4.11% in 2014 versus 3.86% in 2013. The Company’s average total interest-earning asset yield during the first nine months of 2014 was 4.27% versus 4.06% for the comparable 2013 period. Despite lower average yields on the Company’s investment and loan portfolios, down four basis points and 64 basis points, respectively in 2014 versus 2013, the Company’s average balance sheet mix continued to improve as average loans increased by $293 million (34.1%) versus the first nine months of 2013 and low-yielding overnight interest-bearing deposits declined by $193 million (79.2%) over the same period. Liquid investments represented 3% of average total interest-earning assets during the first nine months of 2014 versus 16% a year ago. The average securities portfolio decreased by $26 million to $399 million in the first nine months of 2014 versus the comparable 2013 period.

The Company’s average cost of total interest-bearing liabilities declined by seven basis points to 0.28% in the first nine months of 2014 versus 0.35% in the same 2013 period. The Company’s total cost of funds declined to 0.16% over the first nine months of 2014 from 0.21% a year ago. The Company’s lower funding cost resulted largely from average core deposits of $1.3 billion in 2014, with average demand deposits representing 42% of average total deposits over the first nine months of 2014. Average total deposits increased by $80 million or 5.5% during the first nine months of 2014 versus 2013. Average core deposit balances represented 85% of total deposits during the same 2014 period.

38

NET INTEREST INCOME ANALYSIS

For the Nine Months Ended September 30, 2014 and 2013

(unaudited, dollars in thousands)

	2014								2013
	Average					Average			Average					Average
	Balance		Interest			Yield/Cost			Balance		Interest			Yield/Cost
Assets:
Interest-earning assets:
Investment securities (1)	$	399,261	$	11,129			3.73	%	$	424,832	$	11,965			3.77	%
Federal Reserve Bank,  Federal Home Loan Bank and other stock		3,099		115			4.96			2,961		111			5.01
Federal funds sold and interest-bearing deposits		50,629		123			0.32			243,369		502			0.28
Loans (2)		1,150,810		39,824			4.63			858,078		33,840			5.27
Total interest-earning assets		1,603,799	$	51,191			4.27	%		1,529,240	$	46,418			4.06	%
Non-interest-earning assets		130,189								116,082
Total assets	$	1,733,988							$	1,645,322
Liabilities and stockholders' equity:
Interest-bearing liabilities:
Saving, N.O.W. and money market deposits	$	664,386	$	870			0.18	%	$	617,990	$	888			0.19	%
Time deposits		228,885		1,004			0.59			246,370		1,360			0.74
Total saving and time deposits		893,271		1,874			0.28			864,360		2,248			0.35
Borrowings		2,619		7			0.36			8		-			0.34
Total interest-bearing liabilities		895,890		1,881			0.28			864,368		2,248			0.35
Demand deposits		644,042								592,907
Other liabilities		17,592								24,899
Total liabilities		1,557,524								1,482,174
Stockholders' equity		176,464								163,148
Total liabilities and stockholders' equity	$	1,733,988							$	1,645,322
Total cost of funds							0.16	%							0.21	%
Net interest rate spread							3.99	%							3.71	%
Net interest income/margin				49,310			4.11	%				44,170			3.86	%
Less tax-equivalent basis adjustment				(2,921	)							(2,709	)
Net interest income			$	46,389							$	41,461

(1) Interest on securities includes the effects of tax-equivalent basis adjustments of $2,573 and $2,665 in 2014 and 2013, respectively.

(2) Interest on loans includes the effects of tax-equivalent basis adjustments of $348 and $44 in 2014 and 2013, respectively.

The $750 thousand provision for loan losses recorded in the first nine months of 2014 was due to the growth in the loan portfolio experienced during the past twelve months. The Company did not record a provision for loan losses in the comparable 2013 period.

Non-interest income declined by $4.0 million in the first nine months of 2014 versus the comparable 2013 period. This decline was principally due to the $3.8 million gain on the sale of Visa Class B shares recorded in the third quarter of 2013. No Visa shares have been sold in 2014. Also contributing to the lower level of non-interest income in 2014 versus 2013 were reductions in net gain on the sale of mortgage loans originated for sale (down $759 thousand), net gain on the sale of securities available for sale (down $407 thousand) and net gain on the sale of portfolio loans (down $228 thousand). Offsetting a portion of these reductions in 2014 were improvements in net gain on the sale of premises and equipment (up $752 thousand) and income from BOLI (up $637 thousand).

Total operating expenses declined by $1.9 million in the first nine months of 2014 versus 2013 as the result of reductions in several categories, most notably branch consolidation costs (down $909 thousand), other operating expenses (down $708 thousand), FDIC assessment (down $677 thousand), occupancy (down $646 thousand), equipment (down $444 thousand) and the reserve and carrying costs related to Visa shares sold (down $302 thousand). The reduction in other operating expenses resulted primarily from lower OREO expenses, fees and subscriptions and property appraisals. The reduction in branch consolidation costs in 2014 resulted from better than expected outcomes on lease termination negotiations for two of the Bank’s closed branches where an expense had previously been recorded in the fourth quarter of 2013. The reductions in occupancy and equipment expenses are directly attributable to the six branch offices closed during the past twelve months. The lower FDIC assessment expense for the first nine months of 2014 compared to the same period in 2013 reflected the Bank’s lower assessment rate as it is no longer under a regulatory formal agreement. Largely offsetting the foregoing improvements was a $1.9 million increase in employee compensation and benefits expense due principally to a $1.7 million expense credit recorded in 2013 due to the termination of a post-retirement life insurance plan in that period.

39

The Company recorded income tax expense of $3.0 million in the first nine months of 2014 resulting in an effective tax rate of 21.3% versus an income tax expense of $2.9 million and an effective tax rate of 23.3% in the comparable period a year ago.

Asset Quality - Non-accrual loans totaled $15 million or 1.16% of total loans outstanding at September 30, 2014 versus $15 million or 1.42% of loans outstanding at December 31, 2013 and $23 million or 2.26% of loans outstanding at September 30, 2013. The allowance for loan losses as a percentage of total non-accrual loans amounted to 128% at September 30, 2014 versus 114% at December 31, 2013 and 78% at September 30, 2013.

The Company held no loans 90 days or more past due and still accruing at any of the reported dates. Total loans 30 - 89 days past due and accruing amounted to $3 million or 0.25% of loans outstanding at September 30, 2014 versus $3 million or 0.33% of loans outstanding at December 31, 2013 and $5 million or 0.46% of loans outstanding at September 30, 2013. The Company held no OREO at any of the reported periods.

Total criticized and classified loans were $40 million at September 30, 2014, $43 million at December 31, 2013 and $64 million at September 30, 2013. Criticized loans are those loans that are not classified but require some degree of heightened monitoring. Classified loans were $30 million at September 30, 2014, $37 million at December 31, 2013 and $53 million at September 30, 2013. The allowance for loan losses as a percentage of total classified loans was 62%, 47% and 34%, respectively, at the same dates.

At September 30, 2014, the Company had $20 million in TDRs, primarily consisting of commercial and industrial loans, commercial real estate loans and residential mortgages totaling $5 million, $10 million and $4 million, respectively. At September 30, 2014, $11 million of the TDRs were on non-accrual status. The Company had TDRs amounting to $16 million and $15 million at December 31, 2013 and September 30, 2013, respectively.

Net loan recoveries of $72 thousand were recorded in the third quarter of 2014 versus net loan recoveries of $491 thousand and $326 thousand in the second quarter of 2014 and the third quarter of 2013, respectively. As a percentage of average total loans outstanding, these net amounts represented, on an annualized basis, (0.02%) for the third quarter of 2014, (0.17%) for the second quarter of 2014 and (0.14%) for the third quarter of 2013.

40

At September 30, 2014, the Company’s allowance for loan losses amounted to $18.8 million or 1.49% of period-end loans outstanding. The allowance as a percentage of loans outstanding was 1.62% at December 31, 2013 and 1.76% at September 30, 2013.

The Company recorded a $250 thousand provision for loan losses for the three months ended September 30, 2014, as compared to no provision for the comparable 2013 period, largely due to growth in the loan portfolio experienced during the past twelve months. The adequacy of the provision and the resulting allowance for loan losses, which was $18.8 million at September 30, 2014, is determined by management’s ongoing review of the loan portfolio, including identification and review of individual problem situations that may affect a borrower’s ability to repay, delinquency and non-performing loan data including the current status of criticized and classified loans, collateral values and changes in the size and mix of the loan portfolio.

Management has determined that the current level of the allowance for loan losses is adequate in relation to the probable inherent losses present in the portfolio. Loan portfolio growth was strong during the third quarter of 2014, primarily in multifamily and CRE loans. At September 30, 2014, the Company’s allowance for loan losses included an unallocated portion totaling $2.6 million. Loan growth, including multifamily loans, is expected to continue throughout 2014. An unallocated portion of the reserve is considered a prudent option until these loans to new borrowers establish satisfactory payment patterns.

Management considers many factors in this analysis, among them credit risk grades, delinquency trends, concentrations within segments of the loan portfolio, recent charge-off experience, local and national economic conditions, current real estate market conditions in geographic areas where the Company’s loans are located, changes in the trend of non-performing loans, changes in interest rates and loan portfolio growth. Changes in one or a combination of these factors may adversely affect the Company’s loan portfolio resulting in increased delinquencies, loan losses and future levels of loan loss provisions. Due to these uncertainties, management expects to record loan charge-offs in future periods. (See also Critical Accounting Policies, Judgments and Estimates contained herein.)

41

ANALYSIS OF NON-PERFORMING ASSETS

AND THE ALLOWANCE FOR LOAN LOSSES

September 30, 2014 versus December 31, 2013 and September 30, 2013

(dollars in thousands)

NON-PERFORMING ASSETS BY TYPE:

	At
	9/30/2014			12/31/2013			9/30/2013
Non-accrual loans	$	14,654		$	15,183		$	22,577
Non-accrual loans held for sale		-			-			-
Loans 90 days or more past due and still accruing		-			-			-
OREO		-			-			-
Total non-performing assets	$	14,654		$	15,183		$	22,577
Gross loans outstanding	$	1,262,061		$	1,068,848		$	999,329
Total loans held for sale	$	-		$	175		$	613
ANALYSIS OF THE ALLOWANCE FOR LOAN LOSSES:
	Quarter Ended
	9/30/2014			12/31/2013			9/30/2013
Beginning balance	$	18,478		$	17,619		$	17,293
Provision		250			1,250			-
Charge-offs		(119	)		(2,136	)		(141	)
Recoveries		191			530			467
Ending balance	$	18,800		$	17,263		$	17,619
KEY RATIOS:
	At
	9/30/2014			12/31/2013			9/30/2013
Allowance as a % of total loans (1)		1.49	%		1.62	%		1.76	%
Non-accrual loans as a % of total loans (1)		1.16	%		1.42	%		2.26	%
Non-performing assets as a % of total loans, loans held for sale and OREO		1.16	%		1.42	%		2.26	%
Allowance for loan losses as a % of non-accrual loans (1)		128	%		114	%		78	%
Allowance for loan losses as a % of non-accrual loans and loans 90 days or more past due and still accruing (1)		128	%		114	%		78	%

(1) Excludes loans held for sale.

ITEM 3. - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

The Company originates and invests in interest-earning assets and solicits interest-bearing deposit accounts. The Company’s operations are subject to market risk resulting from fluctuations in interest rates to the extent that there is a difference between the amounts of interest-earning assets and interest-bearing liabilities that are prepaid, withdrawn, mature, or repriced in any given period of time. The Company’s earnings or the net value of its portfolio will change under different interest rate scenarios. The principal objective of the Company’s asset/liability management program is to maximize net interest income within an acceptable range of overall risk, including both the effect of changes in interest rates and liquidity risk. The Company’s assessment of market risk at September 30, 2014 indicated there were no material changes in the quantitative and qualitative disclosures from those in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013.

42

ITEM 4. – CONTROLS AND PROCEDURES

The Company carried out an evaluation, under the supervision and with the participation of its principal executive officer and principal financial officer, of the effectiveness of the design and operation of its disclosure controls and procedures as defined in Rule 13a-15(e) and Rule 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”). Based on this evaluation, the Company’s principal executive officer and principal financial officer concluded that, as of the end of the period covered by this report, the Company’s disclosure controls and procedures were effective in ensuring information required to be disclosed by the Company in reports that it files or submits under the Exchange Act is i) recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms and ii) accumulated and communicated to the Company’s management, including the Company’s principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure. There have been no changes in the Company’s internal controls or in other factors that have materially affected, or are reasonably likely to materially affect, internal controls subsequent to the date the Company carried out its evaluation.

There were no changes to the Company’s internal control over financial reporting as defined in Rule 13a-15(f) and Rule 15d-15(f) under the Exchange Act that occurred in the third quarter of 2014 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II

ITEM 1. - LEGAL PROCEEDINGS

See the information set forth in Note 10—Legal Proceedings in the Notes to Unaudited Condensed Consolidated Financial Statements under Part I, Item I, which information is incorporated by reference in response to this item.

ITEM 1A. – RISK FACTORS

There are no material changes from the risks disclosed in the Risk Factors section of our annual report on Form 10-K for the year ended December 31, 2013, except as discussed below.

The Company’s loan portfolio has a high concentration of commercial real estate loans (exclusive of multifamily and mixed use commercial loans) and its business may be adversely affected by credit risk associated with commercial real estate and a decline in property values.

At September 30, 2014, $512 million, or 41% of the Company’s total gross loan portfolio, was comprised of commercial real estate (exclusive of multifamily and mixed use commercial loans). This type of lending is generally sensitive to regional and local economic conditions that significantly impact the ability of borrowers to meet their loan payment obligations, making loss levels difficult to predict. Although real estate prices have shown signs of improvement, a decline in real estate values may reduce the value of the real estate collateral securing these types of loans and increase the risk that the Company would incur losses if borrowers default on their loans.

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

Not applicable.

ITEM 3. – DEFAULTS UPON SENIOR SECURITIES

Not applicable.

ITEM 4. – MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5. – OTHER INFORMATION

Not applicable.

43

ITEM 6. – EXHIBITS

31.1	Certification of principal executive officer pursuant to Rule 13a-14(a) or 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2	Certification of principal financial officer pursuant to Rule 13a-14(a) or 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1	Certification of principal executive officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2	Certification of principal financial officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101.INS	XBRL Instance Document
101.SCH	XBRL Taxonomy Extension Schema Document
101.CAL	XBRL Taxonomy Extension Calculation Linkbase Document
101.LAB	XBRL Taxonomy Extension Label Linkbase Document
101.PRE	XBRL Taxonomy Extension Presentation Linkbase Document
101.DEF	XBRL Taxonomy Extension Definition Linkbase Document

44

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.

SUFFOLK BANCORP

Date: October 30, 2014	/s/ Howard C. Bluver
	Howard C. Bluver
	President & Chief Executive Officer
	(principal executive officer)
Date: October 30, 2014	/s/ Brian K. Finneran
	Brian K. Finneran
	Executive Vice President & Chief Financial Officer
	(principal financial and accounting officer)

45

EXHIBIT INDEX

Exhibit Number	Description
31.1	Certification of principal executive officer pursuant to Rule 13a-14(a) or 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2	Certification of principal financial officer pursuant to Rule 13a-14(a) or 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1	Certification of principal executive officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2	Certification of principal financial officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101.INS	XBRL Instance Document
101.SCH	XBRL Taxonomy Extension Schema Document
101.CAL	XBRL Taxonomy Extension Calculation Linkbase Document
101.LAB	XBRL Taxonomy Extension Label Linkbase Document
101.PRE	XBRL Taxonomy Extension Presentation Linkbase Document
101.DEF	XBRL Taxonomy Extension Definition Linkbase Document