National Bancshares 10-Q 2011 Q3 Quarterly report

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

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

For the quarterly period ended September 30, 2011

OR

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

Commission File Number 0-14773

NATIONAL BANCSHARES CORPORATION

exact name of registrant as specified in its charter

Ohio	34-1518564
State of incorporation	IRS Employer Identification No.

112 West Market Street, Orrville, Ohio 44667

Address of principal executive offices

Registrant’s telephone number:(330) 682-1010

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 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 as defined in Rule 12b-2 of the Exchange Act. See definition of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in rule 12b-2 of the Exchange Act.

Large accelerated filer	¨	Accelerated filer	¨
Non-accelerated filer	¨	Smaller reporting company	x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act)    Yes  ¨    No  x

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of November 10, 2011.

Common Stock, Without Par Value: 2,213,269 shares Outstanding

NATIONAL BANCSHARES CORPORATION

Index

		Page Number
Part I. Financial Information
Item 1.	Financial Statements (Unaudited)
	Consolidated Balance Sheets as of September 30, 2011 and December 31, 2010	2
	Consolidated Statements of Income and Comprehensive Income for the three and nine months ended September 30, 2011 and 2010	3
	Condensed Consolidated Statement of Changes in Shareholders’ Equity for the nine months ended September 30, 2011 and 2010	5
	Condensed Consolidated Statements of Cash Flows for the nine months ended September  30, 2011 and 2010	6
	Notes to Consolidated Financial Statements (Unaudited)	7 - 19
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	19 - 26
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	26
Item 4T.	Controls and Procedures	27
Part II. Other Information
Item 1.	Legal Proceedings – None	28
Item 1A.	Risk Factors	28
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds - None	28
Item 3.	Defaults Upon Senior Securities – None	28
Item 4.	Removed and Reserved	28
Item 5.	Other Information – None	28
Item 6.	Exhibits	28
Signatures		29
Exhibits

Item 1. Financial Statements

NATIONAL BANCSHARES CORPORATION

CONSOLIDATED BALANCE SHEETS (Unaudited)

(dollars in thousands)
	September 30, 2011			December 31, 2010
ASSETS
Cash and due from banks	$	29,071		$	12,837
Time deposits with other financial institutions		246			5,697
Securities available for sale		144,008			138,033
Restricted equity securities		3,220			3,219
Loans, net of allowance for loan losses:
September 30, 2011 - $3,034; December 31, 2010 - $2,585		207,096			190,685
Premises and equipment, net		12,192			12,526
Goodwill		4,723			4,723
Identified intangible assets		42			107
Accrued interest receivable		1,548			1,270
Cash surrender value of life insurance		2,929			2,862
Other assets		1,984			2,137
Total assets	$	407,059		$	374,096
LIABILITIES AND SHAREHOLDERS’ EQUITY
Deposits
Noninterest bearing	$	73,492		$	57,435
Interest bearing		266,827			251,699
Total deposits		340,319			309,134
Repurchase agreements		10,071			7,747
Federal Reserve Bank note account		730			724
Federal Home Loan Bank advances		9,000			15,000
Accrued interest payable		229			312
Accrued expenses and other liabilities		4,495			2,198
Total liabilities		364,844			335,115
SHAREHOLDERS’ EQUITY
Common stock, no par value; 6,000,000 shares authorized; 2,289,528 shares issued		11,447			11,447
Additional paid-in capital		4,808			4,775
Retained earnings		23,737			22,475
Treasury stock, at cost (76,259 and 83,555 shares)		(1,495	)		(1,639	)
Accumulated other comprehensive income		3,718			1,923
Total shareholders’ equity		42,215			38,981
Total liabilities and shareholders’ equity	$	407,059		$	374,096

See accompanying notes to consolidated financial statements.

2

NATIONAL BANCSHARES CORPORATION

CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME (Unaudited)

(dollars in thousands, except per share data)
	Three months ended					Nine months ended
	Sept. 30, 2011		Sept. 30, 2010			Sept. 30, 2011			Sept. 30, 2010
Interest and dividend income
Loans, including fees	$	2,729	$	2,689		$	7,901		$	7,929
Securities:
Taxable		757		864			2,317			2,831
Nontaxable		408		313			1,192			877
Federal funds sold and other		26		53			77			160
Total interest and dividend income		3,920		3,919			11,487			11,797
Interest expense
Deposits		412		536			1,350			1,665
Short-term borrowings		12		11			33			37
Federal Home Loan Bank advances		57		252			198			762
Total interest expense		481		799			1,581			2,464
Net interest income		3,439		3,120			9,906			9,333
Provision for loan losses		150		228			447			1,350
Net interest income after provision for loan losses		3,289		2,892			9,459			7,983
Noninterest income
Checking account fees		273		288			808			822
Visa check card interchange fees		141		113			403			323
Deposit and miscellaneous service fees		84		88			239			251
Mortgage banking activities		68		91			145			192
Securities gains, net		122		540			173			616
Loss on other real estate owned		—		(13	)		(38	)		(24	)
Gain on sale of SBA loans		43		—			171			—
Other		86		102			269			266
Total noninterest income		817		1,209			2,170			2,446
Noninterest expense
Salaries and employee benefits		1,521		1,380			4,470			4,115
Data processing		296		261			865			758
Net occupancy		368		319			1,113			917
FDIC assessment		72		132			302			398
Professional and consulting fees		171		178			497			570
Franchise tax		88		86			272			263
Maintenance and repairs		44		44			179			157
Amortization of intangibles		22		22			65			67
Telephone		62		60			183			176
Marketing		60		61			180			192
Director fees and pension		68		67			188			207
Software expense		65		60			185			153
Postage and supplies		67		65			213			220
Other		252		212			738			685
Total noninterest expense		3,156		2,947			9,450			8,878
Income before income tax expense		950		1,154			2,179			1,551
Income tax expense		188		288			341			234
Net income		762		866			1,838			1,317

(Continued)

3

NATIONAL BANCSHARES CORPORATION

CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME (Unaudited)

(Continued)	Three months ended						Nine months ended
	Sept. 30, 2011			Sept. 30, 2010			Sept. 30, 2011			Sept. 30, 2010
Other comprehensive income:
Unrealized appreciation in fair value of securities available for sale, net of taxes of $(482), $(140), $(983) and $(665)		943			272			1,909			1,290
Reclassification adjustment for realized gains included in earnings, net of taxes of $38, $184, $59 and $209		(81	)		(356	)		(114	)		(407	)
Total other comprehensive income, net of taxes		862			(84	)		1,795			883
Comprehensive income	$	1,624		$	782		$	3,633		$	2,200
Weighted average basic and diluted common shares outstanding		2,213,269			2,205,973			2,210,914			2,205,973
Basic and diluted earnings per common share	$	0.34		$	0.39		$	0.83		$	0.60
Dividends declared per common share	$	0.08		$	0.08		$	0.24		$	0.24

See accompanying notes to consolidated financial statements.

4

NATIONAL BANCSHARES CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited)

(dollars in thousands, except per share data)
	Nine months ended,
	Sept. 30, 2011			Sept. 30, 2010
Balance at beginning of period	$	38,981		$	38,903
Comprehensive income
Net income		1,838			1,317
Other comprehensive income		1,795			883
Total comprehensive income		3,633			2,200
Stock awards issued from Treasury Shares (7,296 shares)		98			—
Compensation expense under stock-based compensation plans		33			12
Cash dividends declared ($0.24 per share in 2011 and 2010)		(530	)		(530	)
Balance at end of period	$	42,215		$	40,585

See accompanying notes to consolidated financial statements.

5

NATIONAL BANCSHARES CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

(dollars in thousands, except per share data)
	Nine months ended
	Sept. 30, 2011			Sept. 30, 2010
Net cash from operating activities	$	4,815		$	2,932
Cash flows from investing activities
Purchases of time deposits with other financial institutions		—			(984	)
Proceeds from time deposits with other financial institutions		5,451			5,377
Securities available for sale
Proceeds from maturities and repayments		25,382			26,742
Proceeds from sales		10,905			15,179
Purchases		(40,280	)		(42,131	)
Purchases of property and equipment		(356	)		(3,479	)
Proceeds from the sale of other real estate owned		54			63
Proceeds from the sale of an impaired loan		—			930
Proceeds from the sale of loans guaranteed by SBA		2,360			—
Purchase of loans		—			(1,184	)
Net change in loans		(19,083	)		(2,142	)
Net cash from investing activities		(15,567	)		(1,629	)
Cash flows from financing activities
Net change in deposits		31,185			17,923
Net change in short-term borrowings		2,330			(3,015	)
Repayments of Federal Home Loan Bank advances		(6,000	)		(2,000	)
Dividends paid		(529	)		(530	)
Net cash from financing activities		26,986			12,378
Net change in cash and cash equivalents		16,234			13,681
Beginning cash and cash equivalents		12,837			8,124
Ending cash and cash equivalents	$	29,071		$	21,805
Supplemental Disclosures
Cash paid for interest	$	1,664		$	2,541
Cash paid for income taxes	$	265		$	470
Supplemental noncash disclosures:
Transfer from loans to other real estate owned	$	54		$	91
Issuance of stock awards	$	98		$	—

See accompanying notes to consolidated financial statements.

6

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

Note 1 – Basis of Presentation

(dollars in thousands)

Company Organization and Financial Presentation

The accompanying consolidated financial statements include the accounts of National Bancshares Corporation (the “Company”) and its wholly owned subsidiaries, First National Bank, Orrville, Ohio (the “Bank”) and NBOH Properties, LLC. The Bank has a minority interest in First Kropf Title, LLC. The Bank’s investment in First Kropf Title, LLC is immaterial to the consolidated financial statements. All significant intercompany transactions and balances have been eliminated.

The Company provides a broad range of financial services to individuals and companies in Medina, Stark, Summit and Wayne Counties, Ohio. While the Company’s chief decision makers monitor the revenue streams of the various products and services, operations are managed and financial performance is evaluated on a Company-wide basis. Accordingly, all the Company’s banking operations are considered by management to be aggregated in one reportable operating segment.

The consolidated financial statements have been prepared by the Company without audit. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included.

The consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q, but do not include all the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. These statements should be read in conjunction with the consolidated financial statements and footnotes in the Company’s annual report on Form 10-K for the year ended December 31, 2010. The Company believes the disclosures are adequate to make the information presented not misleading; however, the results of operations and other data presented for the periods presented are not necessarily indicative of results to be expected for the entire fiscal year.

Use of Estimates

To prepare financial statements in conformity with U.S. generally accepted accounting principles, management makes estimates and assumptions based on available information. These estimates and assumptions affect the amounts reported in the financial statements and the disclosures provided, and actual results could differ. The allowance for loan losses and fair values of financial instruments are particularly subject to change.

Cash Flows

Cash and cash equivalents include cash, deposits with other banks with original maturities under 90 days, and federal funds sold. Net cash flows are reported for customer loan and deposit transactions, repurchase agreements and other short-term borrowings.

Earnings Per Common Share

Earnings per common share is net income divided by the weighted average number of shares outstanding during the period. Diluted earnings per share includes the dilutive effect of additional potential common shares issuable under stock options. 88,000 and 46,000 stock options were not considered in computing diluted earnings per common share for the three and nine month periods ending September 30, 2011 and 2010, respectively, because they were antidilutive.

Adoption of New Accounting Standards

In April 2011, the FASB amended existing guidance for assisting a creditor in determining whether a restructuring is a troubled debt restructuring. The amendments clarify the guidance for a creditor’s evaluation of whether it has granted a concession and whether a debtor is experiencing financial difficulties. With regard to determining whether a concession has been granted, the ASU clarifies that creditors are precluded from using the effective interest method to determine whether a concession has been granted. In the absence of using the effective interest method, a creditor must now focus on other considerations such as the value of the underlying collateral, evaluation of other collateral or guarantees, the debtor’s ability to access other funds at market rates, interest rate increases and whether the restructuring results in a delay in payment that is insignificant. This guidance is effective for interim and annual reporting periods beginning after June 15, 2011, and should be applied retrospectively to the beginning of the annual period of adoption. For purposes of measuring impairment on newly identified troubled debt restructurings, the amendments should be applied prospectively for the first interim or annual period beginning on or after June 15, 2011. The adoption of this guidance has resulted in added disclosure in the Consolidated Financial Statements – See Note 3.

7

In May, 2011, the FASB issued an amendment to achieve common fair value measurement and disclosure requirements between U.S. and International accounting principles. Overall, the guidance is consistent with existing U.S. accounting principles; however, there are some amendments that change a particular principle or requirement for measuring fair value or for disclosing information about fair value measurements. The amendments in this guidance are effective for interim and annual reporting periods beginning after December 15, 2011. The Company is currently evaluating the impact of this amendment on the consolidated financial statements.

In June 2011, the FASB amended existing guidance and eliminated the option to present the components of other comprehensive income as part of the statement of changes in shareholder’s equity. The amendment requires that comprehensive income be presented in either a single continuous statement or in two separate consecutive statements. The amendments in this guidance are effective as of the beginning of a fiscal reporting year, and interim periods within that year, that begins after December 15, 2011. Early adoption is permitted. The adoption of this amendment will have no impact on the consolidated financial statements as the current presentation of comprehensive income is in compliance with this amendment.

Note 2 – Securities

(dollars in thousands)

Securities consist of the following at September 30, 2011 and December 31, 2010:

	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
September 30, 2011
U.S. Government and federal agency	$	2,564	$	28	$	—		$	2,592
State and municipal		50,720		2,969		(12	)		53,677
Corporate bonds and notes		500		3		—			503
Mortgage-backed: residential		84,567		2,657		(16	)		87,208
Equity securities		23		5		—			28
Total	$	138,374	$	5,662	$	(28	)	$	144,008
December 31, 2010
U.S. Government and federal agency	$	2,954	$	21	$	—		$	2,975
State and municipal		44,655		834		(484	)		45,005
Corporate bonds and notes		1,487		29		—			1,516
Mortgage-backed: residential		86,001		2,766		(240	)		88,527
Equity securities		23		—		(13	)		10
Total	$	135,120	$	3,650	$	(737	)	$	138,033

	For the nine months ended
	Sept. 30, 2011		Sept. 30, 2010
Sales of available for sale securities were as follows:
Proceeds	$	10,905	$	15,179
Gross gains		173		642
Gross losses		—		(26	)

	For the three months ended
	Sept. 30, 2011		Sept. 30, 2010
Sales of available for sale securities were as follows:
Proceeds	$	8,511	$	13,192
Gross gains		122		566
Gross losses		—		(26	)

The tax provision related to net realized gains and losses for the nine months ended September 30, 2011 and 2010 was $59 and $209. The tax provision related to net realized gains and losses was $41 and $184 for the three months ended September 30, 2011 and 2010.

8

The fair value of securities at September 30, 2011 by contractual maturity were as follows. Securities not due at a single maturity date, primarily mortgage-backed securities, are shown separately.

	Amortized Cost		Fair Value
Due in one year or less	$	4,436	$	4,442
Due from one to five years		5,769		6,000
Due from five to ten years		18,472		19,820
Due after ten years		25,107		26,510
Mortgage-backed: residential		84,567		87,208
Equity securities		23		28
Total	$	138,374	$	144,008

Securities pledged at September 30, 2011 and December 31, 2010 had a fair value of $72,804 and $58,827 and were pledged to secure public deposits and repurchase agreements.

At September 30, 2011 and December 31, 2010, there were no holdings of securities of any one issuer, other than the U.S. Government and its agencies, in an amount greater than 10% of shareholders’ equity.

Securities with unrealized losses at September 30, 2011 and December 31, 2010, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, are as follows:

	Less than 12 months					12 months or more				Total
September 30, 2011	Fair Value		Unrealized Loss			Fair Value		Unrealized Loss		Fair Value		Unrealized Loss
State and municipal	$	1,259	$	(12	)	$	—	$	—	$	1,259	$	(12	)
Mortgage-backed: residential		3,194		(16	)		—		—		3,194		(16	)
Total temporarily impaired	$	4,453	$	(28	)	$	—	$	—	$	4,453	$	(28	)

	Less than 12 months					12 months or more					Total
December 31, 2010	Fair Value		Unrealized Loss			Fair Value		Unrealized Loss			Fair Value		Unrealized Loss
State and municipal	$	18,125	$	(484	)	$	—	$	—		$	18,125	$	(484	)
Mortgage-backed: residential		17,067		(240	)		—		—			17,067		(240	)
Equity securities		—		—			10		(13	)		10		(13	)
Total temporarily impaired	$	35,192	$	(724	)	$	10	$	(13	)	$	35,202	$	(737	)

Management believes the unrealized losses of securities as of September 30, 2011 are the result of fluctuations in interest rates and do not reflect deterioration in the credit quality of the securities. Accordingly management considers these unrealized losses to be temporary in nature. The Company does not have the intent to sell and does not believe it is more likely than not the Company will be required to sell these securities before their recovery. The fair value of debt securities is expected to recover as the securities approach their maturity date.

9

Note 3 – Loans and Allowance for Loan Losses

(dollars in thousands)

The following table presents the activity in the allowance for loan losses by portfolio segment for the three months ended September 30, 2011 and 2010:

																	Three months ended
			Commercial			Residential		Home									Sept. 30, 2011		Sept. 30, 2010
	Commercial		Real Estate			Real Estate		Equity			Consumer			Unallocated			Total		Total
Beginning balance	$	634	$	1,332		$	775	$	75		$	63		$	2		$	2,881	$	2,560
Provision for loan losses		160		(3	)		40		(19	)		(26	)		(2	)		150		228
Loans charged-off		—		—			—		—			—			—			—		(49	)
Recoveries		—		—			—		—			3			—			3		9
Ending balance	$	794	$	1,329		$	815	$	56		$	40		$	—		$	3,034	$	2,748

The following table presents the activity in the allowance for loan losses by portfolio segment for the nine months ended September 30, 2011 and 2010:

																	Nine months ended
			Commercial		Residential			Home									Sept. 30, 2011			Sept. 30, 2010
	Commercial		Real Estate		Real Estate			Equity			Consumer			Unallocated			Total			Total
Beginning balance	$	460	$	1,267	$	675		$	100		$	53		$	30		$	2,585		$	2,906
Provision for loan losses		309		62		166			(45	)		(15	)		(30	)		447			1,350
Loans charged-off		—		—		(27	)		—			(17	)		—			(44	)		(1,531	)
Recoveries		25		—		1			1			19			—			46			23
Ending balance	$	794	$	1,329	$	815		$	56		$	40		$	—		$	3,034		$	2,748

The recorded investment in loans includes the principal balance outstanding, net of unearned and deferred income and including accrued interest receivable. The following table presents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on impairment method as of September 30, 2011 and December 31, 2010:

			Commercial		Residential		Home
	Commercial		Real Estate		Real Estate		Equity		Consumer		Unallocated		Total
September 30, 2011
Allowance for loan losses:
Ending allowance balance attributable to loans:
Individually evaluated for impairment	$	151	$	183	$	156	$	—	$	—	$	—	$	490
Collectively evaluated for impairment		643		1,146		659		56		40		—		2,544
Total ending allowance balance	$	794	$	1,329	$	815	$	56	$	40	$	—	$	3,034
Recorded investment in loans:
Loans individually evaluated for impairment	$	597	$	2,447	$	323	$	—	$	—	$	—	$	3,367
Loans collectively evaluated for impairment		33,026		66,332		70,003		30,208		7,860		—		207,429
Total ending loans balance	$	33,623	$	68,779	$	70,326	$	30,208	$	7,860	$	—	$	210,796
December 31, 2010
Allowance for loan losses:
Ending allowance balance attributable to loans:
Individually evaluated for impairment	$	—	$	30	$	239	$	—	$	—	$	—	$	269
Collectively evaluated for impairment		460		1,237		436		100		53		30		2,316
Total ending allowance balance	$	460	$	1,267	$	675	$	100	$	53	$	30	$	2,585
Recorded investment in loans:
Loans individually evaluated for impairment	$	662	$	2,881	$	1,149	$	—	$	—	$	—	$	4,692
Loans collectively evaluated for impairment		25,539		65,035		60,609		27,914		10,049		—		189,146
Total ending loans balance	$	26,201	$	67,916	$	61,758	$	27,914	$	10,049	$	—	$	193,838

10

The impact on interest income of impaired loans was immaterial to the consolidated statements of income for the three and nine month periods ending September 30, 2011.

Impaired loans are generally measured for impairment using the fair value of the collateral supporting the loan. Evaluating impaired loan collateral is based on level 3 inputs utilizing outside appraisals adjusted by management for sales costs and other assumptions regarding market conditions to arrive at fair value.

The following table presents loans individually evaluated for impairment by class of loans as of September 30, 2011 and December 31, 2010:

	Unpaid Principal Balance		Recorded Investment		Allowance for Loan Losses Allocated		Nine-month Average Recorded Investment		Three-month Average Recorded Investment
September 30, 2011
With no related allowance recorded:
Real estate:
Commercial and land development	$	415	$	415	$	—	$	432	$	420
One-to-four family		48		48		—		50		48
Real estate construction:
Commercial and land development		1,270		1,270		—		1,298		1,281
Commercial		29		29		—		31		30
With an allowance recorded:
Real estate:
Commercial and land development		762		762		183		949		917
One-to-four family		275		275		156		286		278
Real estate construction:
Commercial and land development		—		—		—		—		—
Commercial		568		568		151		489		567
	$	3,367	$	3,367	$	490	$	3,535	$	3,541

	Unpaid Principal Balance		Recorded Investment		Allowance for Loan Losses Allocated
December 31, 2010
With no related allowance recorded:
Real estate:
Commercial and land development	$	1,258	$	1,258	$	—
One-to-four family		52		52		—
Real estate construction:
One-to-four family		1,326		1,326		—
Commercial		662		662		—
With an allowance recorded:
Real estate:
Commercial and land development		99		99		10
One-to-four family		1,097		1,097		239
Multifamily		—		—		—
Real estate construction:
Commercial and land development		198		198		20
	$	4,692	$	4,692	$	269

Nonaccrual loans and loans past due 90 days still on accrual include both smaller balance homogeneous loans that are collectively evaluated for impairment and individually classified impaired loans.

11

The following table presents the recorded investment in nonaccrual and loans past due over 90 days still on accrual by class of loans as of September 30, 2011 and December 31, 2010:

	September 30, 2011				December 31, 2010
	Nonaccrual		Loans Past Due Over 90 Days Still Accruing		Nonaccrual		Loans Past Due Over 90 Days Still Accruing
Real estate:
Commercial and land development	$	1,177	$	—	$	1,358	$	—
One-to-four family		440		227		448		360
Home equity		382		18		382		116
Real estate construction:
Commercial and land development		1,270		—		1,524		—
Commercial		597		—		661		—
Consumer:
Auto:
Indirect		—		—		—		11
	$	3,866	$	245	$	4,373	$	487

The following table presents the aging of the recorded investment in past due loans as of September 30, 2011 by class of loans:

	30 - 59 Days Past Due(1)		60 - 89 Days Past Due		Greater Than 90 Days Past Due(2)		Total Past Due		Loans Not Past Due(3)		Total
Real estate:
Commercial and land development	$	—	$	—	$	922	$	922	$	63,135	$	64,057
One-to-four family		307		369		620		1,296		51,302		52,598
Home equity		58		—		400		458		29,750		30,208
Multifamily		—		—		—		—		16,647		16,647
Real estate construction:
Commercial and land development		1,038		—		396		1,434		3,288		4,722
One-to-four family		—		—		—		—		1,081		1,081
Commercial		59		—		597		656		32,967		33,623
Consumer:
Auto:
Direct		2		—		—		2		2,086		2,088
Indirect		11		—		—		11		4,807		4,818
Other		4		—		—		4		950		954
	$	1,479	$	369	$	2,935	$	4,783	$	206,013	$	210,796

(1) Includes $874 of loans on nonaccrual status.

(2) All loans are nonaccrual status except for $245 of loans past due over 90 days still on accrual.

(3) Includes $302 of loans on nonaccrual status.

12

The following table presents the aging of the recorded investment in past due loans as of December 31, 2010 by class of loans:

	30 - 59 Days Past Due(1)		60 - 89 Days Past Due(2)		Greater Than 90 Days Past Due(3)		Total Past Due		Loans Not Past Due(4)		Total
Real estate:
Commercial and land development	$	—	$	165	$	1,076	$	1,241	$	56,726	$	57,967
One-to-four family		769		167		784		1,720		45,394		47,114
Home equity		2		45		498		545		27,369		27,914
Multifamily		—		—		—		—		14,353		14,353
Real estate construction:
Commercial and land development		930		396		198		1,524		8,425		9,949
One-to-four family		—		—		—		—		291		291
Commercial		—		22		661		683		25,518		26,201
Consumer:
Auto:
Direct		22		—		—		22		2,453		2,475
Indirect		52		—		11		63		6,524		6,587
Other		9		—		—		9		978		987
	$	1,784	$	795	$	3,228	$	5,807	$	188,031	$	193,838

(1) Includes $854 of loans on nonaccrual status.

(2) Includes $399 of loans on nonaccrual status.

(3) All loans are nonaccrual status except for $487 of loans past due over 90 days still on accrual.

(4) Includes $379 of loans on nonaccrual status.

Troubled Debt Restructuring

As of period ending September 30, 2011, certain loans were modified as troubled debt restructurings. The modification of the terms of such loans included one or a combination of the following: a reduction of the stated interest rate of the loan; an extension of the maturity date at a stated rate of interest lower than the current market rate for new debt with similar risk; or a permanent reduction of the recorded investment in the loan.

The Company has two loans with balances of $1,661 that were individually evaluated for impairment whose loan terms have been modified in troubled debt restructurings as of September 30, 2011. $300 of specific reserve has been allocated for these loans. The nature of the modifications did not impact the stated interest rate or the final maturities. The Company has not committed to lend any additional amounts as of September 30, 2011 to customers with outstanding loans that are classified as troubled debt restructurings. There have been no new loans classified as troubled debt restructurings for the three or nine month period ending September 30, 2011. There were $1,876 of loans whose terms have been modified in troubled debt restructurings as of December 31, 2010. No specific reserve has been allocated for these loans.

The Company has one commercial real estate loan with $719 thousand that was modified as troubled debt restructurings for which there was a payment default during the period ending September 30, 2011. A loan is considered to be in payment default once it is 30 days contractually past due under the modified terms. The troubled debt restructuring that subsequently defaulted increased the allowance for loan losses by $150 thousand and resulted in charge offs of $0 during the period ending September 30, 2011.

The terms of certain other loans were modified during the nine month period ending September 30, 2011 that did not meet the definition of a troubled debt restructuring. These loans have a total recorded investment as of September 30, 2011 of $1,276. The modification of these loans involved either a modification of the terms of a loan or a delay in a payment that was considered to be insignificant.

In order to determine whether a borrower is experiencing financial difficulty, an evaluation is performed of the probability that the borrower will be in payment default on any of its debt in the foreseeable future without the modification. This evaluation is performed under the company’s internal underwriting policy.

Substandard

Loans classified as substandard are inadequately protected by the current financial condition and paying capacity of the obligor or of the collateral securing the loan. Substandard loans have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt with a distinct possibility that the institution will sustain some loss if the deficiencies are not corrected.

13

Doubtful

Loans classified as doubtful have all the weaknesses inherent in those classified as substandard, with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.

Loans not meeting the criteria above that are analyzed individually as part of the above described process are considered to be pass rated loans. As of September 30, 2011 and December 31, 2010, and based on the most recent analysis performed, the risk category of loans by class of loans is as follows:

September 30, 2011	Pass		Special Mention		Substandard		Doubtful		Total
Real estate:
Commercial and land development	$	59,218	$	1,606	$	3,233	$	—	$	64,057
Real estate construction:
Commercial and land development		2,985		198		1,539		—		4,722
Commercial		30,938		862		1,823		—		33,623
	$	93,141	$	2,666	$	6,595	$	—	$	102,402

December 31, 2010	Pass		Special Mention		Substandard		Doubtful		Total
Real estate:
Commercial and land development	$	53,714	$	350	$	3,903	$	—	$	57,967
Real estate construction:
Commercial and land development		6,359		1,788		1,802		—		9,949
Commercial		23,670		507		2,024		—		26,201
	$	83,743	$	2,645	$	7,729	$	—	$	94,117

The Company considers the performance of the loan portfolio and its impact on the allowance for loan losses. For residential and consumer loan classes, the Company also evaluates credit quality based on the aging status of the loan, which was previously presented, and by payment activity. The following table presents the recorded investment in residential and consumer loans based on payment activity as of September 30, 2011 and December 31, 2010:

		One-to-four		One-to-four		One-to-four		One-to-four		One-to-four		One-to-four		One-to-four		One-to-four
			Consumer						Residential Real Estate
Sept. 30, 2011	Direct		Indirect		Other		Construction		Multifamily		One-to-four Family		Home Equity		Total
Performing	$	2,088	$	4,818	$	954	$	1,081	$	16,647	$	51,978	$	29,808	$	107,374
Nonperforming		—		—		—		—		—		620		400		1,020
	$	2,088	$	4,818	$	954	$	1,081	$	16,647	$	52,598	$	30,208	$	108,394

		One-to-four		One-to-four		One-to-four		One-to-four		One-to-four		One-to-four		One-to-four		One-to-four
			Consumer						Residential Real Estate
Dec. 31, 2010	Direct		Indirect		Other		Construction		Multifamily		One-to-four Family		Home Equity		Total
Performing	$	2,475	$	6,576	$	987	$	291	$	14,353	$	46,330	$	27,416	$	98,428
Nonperforming		—		11		—		—		—		784		498		1,293
	$	2,475	$	6,587	$	987	$	291	$	14,353	$	47,114	$	27,914	$	99,721

14

Note 4 – Interest-Rate Swaps

(dollars in thousands)

The Company utilizes interest-rate swap agreements as part of its asset liability management strategy to help manage its interest rate risk position, not for speculation. The notional amount of the interest-rate swaps does not represent amounts exchanged by the parties. The amount exchanged is determined by reference to the notional amount and the other terms of the individual interest-rate swap agreements.

The Company implemented a program in 2009 whereby it lends to its borrowers at a fixed rate with the loan agreement containing a two-way yield maintenance provision. The program has one participant as of September 30, 2011. If the borrower prepays the loan, the yield maintenance provision will result in a prepayment penalty or benefit depending on the interest rate environment at the time of the prepayment. This provision represents an embedded derivative which is required to be bifurcated from the host loan contract. As a result of bifurcating the embedded derivative, the Company records the transaction with the borrower as a floating rate loan and a pay floating / receive fixed interest-rate swap. To offset the risk of the interest-rate swap with the borrower, the Company enters into an interest-rate swap with an outside counterparty that mirrors the terms of the interest-rate swap between the Company and the borrower. Both interest-rate swaps are carried as freestanding derivatives with their changes in fair value reported in current earnings. The interest-rate swaps are not designated as hedges. The change in the fair value of the interest-rate swap between the Company and its borrower was an increase of $10 for the nine months ended September 30, 2011, which was offset by an equal decrease in value during the nine months ended September 30, 2011 on the interest-rate swap with an outside counterparty, with the result that there was no impact on income as of September 30, 2011.

Summary information about the interest-rate swaps not designated as hedges between the Company and its borrower as of September 30, 2011 is as follows:

Notional amount	$	1,439
Weighted average receive rate		5.33	%
Weighted average pay rate		3.28	%
Weighted average maturity (years)		2.3
Fair value of interest-rate swaps	$	57

Summary information about the interest-rate swaps between the Company and outside parties as of September 30, 2011 is as follows:

Notional amount	$	1,439
Weighted average pay rate		5.33	%
Weighted average receive rate		3.28	%
Weighted average maturity (years)		2.3
Fair value of interest-rate swaps	$	(57	)

The fair value of the interest-rate swaps at September 30, 2011 is reflected in other assets and other liabilities with a corresponding offset to noninterest income.

Note 5 – Stock-Based Compensation

(dollars in thousands, except per share information)

The Company’s 2008 Equity Incentive Plan (“the Plan”), which is shareholder-approved, permits the grant of stock options or restricted stock awards, to its officers, employees, consultants and non-employee directors for up to 223,448 shares of common stock.

Option awards are granted with an exercise price equal to the fair value of the Company’s common stock at the date of grant; those option awards have vesting periods determined by the Company’s compensation committee and have terms that shall not exceed 10 years.

On May 20, 2008, the Company granted options to purchase 58,000 shares of stock to directors and certain key officers, of which 45,000 remain outstanding at September 30, 2011. The exercise price of the options is $18.03 per share. The options vest in five equal installments over a five-year period and have a term of 10 years. None of these options have been exercised as of September 30, 2011.

On October 19, 2010, the Company granted options to purchase 43,000 shares of stock to directors and certain key officers, all of which remained outstanding at September 30, 2011. The exercise price of the options is $13.22 per share. The options vest in five equal installments over a five-year period and have a term of 10 years. None of these options have been exercised as of September 30, 2011.

15

A summary of the activity in the stock option plan for 2011 follows:

	Shares			Weighted Average Exercise Price		Weighted Average Remaining Contractual Term		Aggregate Intrinsic Value
Outstanding - January 1, 2011		89,000		$	15.71
Granted		—			—
Exercised		—			—
Forfeited or expired		(1,000	)		18.03
Outstanding – September 30, 2011		88,000		$	15.68		7.9	$	—
Fully expected to vest at September 30, 2011		(61,000	)	$	15.10		8.2	$	—
Exercisable at September 30, 2011		27,000		$	18.03		6.7	$	—

The total compensation cost that has been charged against income for the plan was $33 and $12 for the nine month periods ended September 30, 2011 and 2010 and $13 and $3 for the quarters ended September 30, 2011 and 2010. The total income tax benefit was $4 and $1 for the quarters ended September 30, 2011 and 2010 and $11 and $4 for the nine month periods ended September 30, 2011 and 2010. As of September 30, 2011, there was $76 of total unrecognized compensation cost related to nonvested stock options granted under the Plan. The cost is expected to be recognized over a weighted-average period of 2.8 years.

Restricted Stock Awards

On January 3, 2011, the Company granted restricted stock awards for 3,744 shares of the Company’s common stock to certain directors in lieu of cash payment of fees. The awards vested immediately and the compensation expense related to the awards of $50 was recorded in 2010. The fair value of the stock was determined using closing market price of the Company’s common stock on the date of the grant.

On July 1, 2011, the Company granted restricted stock awards for 3,552 shares of the Company’s common stock to certain directors in lieu of cash payment of fees. The awards vested immediately and the compensation expense related to the awards of $48 was recorded in 2011. The fair value of the stock was determined using closing market price of the Company’s common stock on the date of the grant.

Note 6 – Fair Value

(dollars in thousands)

ASC 820-10 establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:

Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.

Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.

Level 3: Significant unobservable inputs that reflect a reporting entity’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.

The fair values of securities available for sale are determined by obtaining quoted prices on nationally recognized securities exchanges (Level 1 inputs) or matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the relationship to other benchmark quoted securities (Level 2 inputs). For securities where quoted prices or market prices of similar securities are not available, fair values are calculated using discounted cash flows or other market indicators (Level 3). Discounted cash flows are calculated using estimates of current market rates for each type of security. During times when trading is more liquid, broker quotes are used (if available) to validate the model. Rating agency and industry research reports as well as defaults and deferrals on individual securities are reviewed and incorporated into the calculations.

16

The fair value of derivatives is based on valuation models using observable market data as of the measurement date (Level 2 inputs).

The fair value of impaired loans with specific allocations of the allowance for loan losses 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 typically significant and result in a Level 3 classification of the inputs for determining fair value.

Nonrecurring adjustments to certain commercial and residential real estate properties classified as other real estate owned are measured at the lower of carrying amount or fair value, less cost to sell. Fair values are generally based on third party appraisals of the property, resulting in a Level 3 classification. In cases where the carrying amount exceeds the fair value, less costs to sell, an impairment loss is recognized.

Assets and Liabilities Measured on a Recurring Basis

Assets and liabilities measured at fair value on a recurring basis are summarized below:

	Fair Value Measurements at September 30, 2011 Using
	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets:
Available for sale securities:
U.S. Government and federal agency	$	—	$	2,592	$	—
State and municipal		—		53,677		—
Corporate bonds and notes		—		503		—
Mortgage-backed securities - residential		—		87,191		17
Equity securities		28		—		—
Interest rate swaps		—		57		—

Additional Level 2 pricing became available for the state and municipal securities, resulting in a $300 thousand transfer from Level 3 to Level 2 during the period ending September 30, 2011. Principal paydowns of $3 thousand were received on Level 3 mortgage-backed securities during the nine month period ending September 30, 2011.

	Fair Value Measurements at September 30, 2011 Using
	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Liabilities:
Interest rate swaps	$	—	$	57	$	—

		Quoted Prices in		Quoted Prices in		Quoted Prices in
	Fair Value Measurements at December 31, 2010 Using
	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level  3)
Assets:
Available for sale securities:
U.S. Government and federal agency	$	—	$	2,975	$	—
State and municipal		—		44,705		300
Corporate bonds and notes		—		1,516		—
Mortgage-backed securities - residential		—		88,507		20
Equity securities		10		—		—
Interest rate swaps		—		47		—

17

		Quoted Prices in		Quoted Prices in		Quoted Prices in
	Fair Value Measurements at December 31, 2010 Using
	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Liabilities:
Interest rate swaps	$	—	$	47	$	—

Assets and Liabilities Measured on a Non-Recurring Basis

Assets and liabilities measured at fair value on a non-recurring basis are summarized below:

		Quoted Prices in		Quoted Prices in		Quoted Prices in
	Fair Value Measurements at September 30, 2011 Using
	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets:
Impaired loans
Commercial	$	—	$	—	$	417
Real estate		—		—		1,093
Other real estate owned		—		—		18

		Quoted Prices in		Quoted Prices in		Quoted Prices in
	Fair Value Measurements at December 31, 2010 Using
	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets:
Impaired loans	$	—	$	—	$	3,116
Other real estate owned		—		—		58

Impaired loans, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a principal amount of $2,000, with a valuation allowance of $490, resulting in an additional provision for loan loss of $221 in the nine months ended September 30, 2011. Impaired loans had a principal amount of $3,385, with a valuation allowance of $269, resulting in an additional provision of $1,790 for loan loss in the year ended December 31, 2010.

Other real estate owned measured at fair value less costs to sell, had a net carrying amount of $18, which is made up of the outstanding balance of $133, net of a valuation allowance of $115 at September 30, 2011. There were write-downs of $2 and $40 of other real estate for the quarter and year to date ended September 30, 2011. There were no write-downs of other real estate owned for the quarter or year to date ended September 30, 2010.

18

Carrying amount and estimated fair values of financial instruments at September 30, 2011 were as follows:

	September 30, 2011				December 31, 2010
	Carrying Amount		Fair Value		Carrying Amount		Fair Value
Financial assets
Cash and cash equivalents	$	29,071	$	29,071	$	12,837	$	12,837
Time deposits with other financial institutions		246		246		5,697		5,697
Securities available for sale		144,008		144,008		138,033		138,033
Restricted equity securities		3,220		na		3,219		na
Loans, net		207,096		208,535		190,685		192,372
Accrued interest receivable		1,548		1,548		1,270		1,270
Interest rate swaps		57		57		47		47
Financial liabilities
Deposits	$	340,319	$	341,243	$	309,134	$	309,908
Short-term borrowings		10,801		10,801		8,471		8,471
Federal Home Loan Bank advances		9,000		9,360		15,000		15,337
Accrued interest payable		229		229		312		312
Interest rate swaps		57		57		47		47

The methods and assumptions used to estimate fair value are described as follows:

Carrying amount is the estimated fair value for cash and cash equivalents, time deposits with other financial institutions, interest bearing deposits, accrued interest receivable and payable, demand deposits, short-term debt, and variable rate loans or deposits that reprice frequently and fully. Securities fair values are determined as previously described. For fixed rate loans or deposits and for variable rate loans or deposits with infrequent repricing or repricing limits, fair value is based on discounted cash flows using current market rates applied to the estimated life and credit risk. Fair value of debt is based on current rates for similar financing. It was not practicable to determine the fair value of restricted equity securities due to restrictions placed on its transferability. The fair value of off-balance-sheet items is not considered material.

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

FORWARD-LOOKING INFORMATION

This Form 10-Q contains forward-looking statements as referenced in the Private Securities Litigation Reform Act of 1995. Forward-looking statements are subject to many risks and uncertainties. When used herein, the terms “anticipates,” “plans,” “expects,” “believes,” and similar expressions as they relate to the Company or its management are intended to identify such forward looking statements. Actual results could differ materially from those indicated by the forward-looking statements. Risks and uncertainties that could cause or contribute to differences include, changes in the regulatory environment, changes in business conditions and inflation, risks associated with credit quality and other factors discussed in the Company’s filings with the U.S. Securities and Exchange Commission, including its Annual Report on Form 10-K for the year ended December 31, 2010. The Company assumes no obligation to update any forward-looking statement.

GENERAL

The Company’s results of operations are dependent primarily on net interest income, provision for loan losses, noninterest income and its ability to control costs. Net interest income is the difference (“spread”) between the interest income earned on loans and securities and the cost of funds, consisting of interest paid on deposits, Federal Home Loan Bank advances and short-term funds. The interest rate spread is affected by regulatory, economic and competitive factors that influence interest rates, loan demand and deposit flows. The provision for loan losses is significantly affected by the relative strength or weakness of the local economy. The Company’s net income is also affected by, among other things, loan fee income, service charges, gains on securities and loans, operating expenses, FDIC assessment expense and franchise and income taxes. The Company’s operating expenses principally consist of employee compensation and benefits, occupancy and other general and administrative expenses. The Company’s results of operations are also significantly affected by general economic and competitive conditions, particularly changes in market interest rates, government policies and actions of regulatory authorities. Additionally, future changes in applicable laws, regulations or government policies may also materially impact the Company.

19

OVERVIEW

Total assets increased to $407.1 million as of September 30, 2011, from $374.1 million at December 31, 2010.

Net income for the first nine months of 2011 was $1.8 million compared to $1.3 million for the same period of 2010 or $0.83 and $0.60 basic and diluted per share, respectively. Net income was positively impacted by an increase in net interest income and a decrease in the provision for loan losses, partially offset by an increase in noninterest expense.

Net interest income for the nine month period ended September 30, 2011 increased $573 thousand, or 6.1%, compared to the same period in 2010, despite a declining interest rate environment. The provision for loan losses decreased to $447 thousand for the nine months ended September 30, 2011 compared to $1.4 million for the same period in 2010. The higher provision amount in 2010 was primarily related to an increase in the specific loss allocations of two loans adversely classified during 2010. Noninterest income for the first nine months of 2011 decreased $276 thousand compared to the same period in 2010, primarily related to the decrease in net gains recorded on the sale of securities from $616 thousand in 2010 to $173 thousand in 2011.

Noninterest expense for the first nine months of 2011 increased $572 thousand compared to the same period in 2010 due primarily to an increase in salaries and employee benefits, data processing and occupancy expense. Income tax expense was $341 thousand for the nine months ended September 30, 2011 compared to $234 thousand for the same period in 2010.

Office of the Controller of the Currency (“OCC”) regulations requires banks to maintain certain minimum levels of regulatory capital. Additionally, the regulations establish a framework for the classification of banks into five categories: well-capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized. Generally, an institution is considered well-capitalized if it has a core (Tier 1) capital ratio of at least 5.0% (based on adjusted total assets); a core (Tier 1) risk-based capital ratio of a least 6.0%; and a total risk-based capital ratio of at least 10.0%. The Bank had capital ratios above the minimum to be well-capitalized at September 30, 2011 and December 31, 2010.

The Company is not aware of any market or institutional trends, events or uncertainties that are expected to have a material effect on liquidity, capital resources or operations or any current recommendations by its regulators which would have a material effect if implemented. The Company has not engaged in sub-prime lending activities and does not plan to engage in those activities in the future.

FINANCIAL CONDITION – SEPTEMBER 30, 2011, COMPARED TO DECEMBER 31, 2010

Balance Sheet

Cash and due from banks increased $16.2 million to $29.1 million at September 30, 2011.

Securities available for sale increased $6.0 million due primarily to the purchase of $40.3 million securities, offset by maturities and repayments of $25.4 million and $10.9 million in sales. The net unrealized gains on securities increased to $5.6 million as of September 30, 2011 compared to $2.9 million net unrealized gains on securities as of December 31, 2010.

Loans increased $16.9 million during the first nine months of 2011. Loan growth has improved as a result of efforts made in the last three years to add experienced lenders and loan products that borrowers want and need. The commercial lending products now offered, along with knowledgeable lenders, have given the Bank the ability to offer a full range of lending products to our existing and potential customers. The Bank is also concentrating on the expansion of our agricultural business and lending services.

20

Loans at September 30, 2011 and December 31, 2010 were as follows:

(dollars in thousands)

	September 30, 2011			December 31, 2010
Real estate:
Commercial and land development	$	64,068		$	58,047
One-to-four family		52,656			47,204
Home equity		30,017			27,766
Multifamily		16,686			14,397
Real estate construction:
Commercial and land development		4,725			9,942
One-to-four family		1,088			301
Commercial		33,502			26,158
Consumer:
Auto:
Direct		2,084			2,474
Indirect		4,709			6,401
Other		954			989
		210,489			193,679
Unearned and deferred income		(359	)		(409	)
Allowance for loan losses		(3,034	)		(2,585	)
Total	$	207,096		$	190,685

Allowance for loan losses is a valuation allowance for probable incurred credit losses. This account is increased by the provision for loan losses and decreased by charge-offs less recoveries. The allowance balance required is established using the following methodology:

• All problem loans, impaired loans, past due loans and non-performing loans are closely monitored and analyzed by management on an ongoing basis. A classification rating is assigned to problem loans based on information about specific borrower situations and estimated collateral values. These loans are classified as either special mention, substandard, doubtful or loss.

• Specific problem loans, past due loans or non-performing loans are identified and analyzed individually in an effort to determine the expected probable incurred loss on these specifically identified loans.

• For problem loans that are not analyzed individually, a provision is established based on a historical migration analysis. The historical migration analysis identifies the percentage of problem loans that have been ultimately charged-off historically and over what time periods such loans have been charged off. Historical migration percentages are reviewed and adjusted by management to reflect various factors such as the growth and change in mix of the loan portfolio and by Comptroller of the Currency regulatory guidance. Non-individually analyzed loans are pooled and evaluated by loan type. The probable incurred loss on these pooled past due loans is estimated using historical loan loss experience.

• National and local economic conditions and other factors are also considered in determining the adequacy of the allowance for loan losses.

• A percentage of the allowance is allocated to specific loans, but the entire allowance is available for any loan that, in management’s judgment, should be charged-off.

• The allowance for loan losses is reviewed on a regular basis to determine the adequacy of the allowance.

The allowance for loan losses to total loans outstanding was 1.44% as of September 30, 2011, which is an increase from 1.34% at December 31, 2010. The provision for loan losses for the nine months ended September 30, 2011 was $447 thousand, compared to $1.4 million for the same period in 2010. Net recoveries were $2 thousand for the nine months ended September 30, 2011, compared to net charge-offs of $1.5 million for the same period in 2010.

The ratio of non-performing loans to total loans was 1.95% ($4.1 million) for September 30, 2011 compared to 2.55% ($4.9 million) for December 31, 2010. Non-performing loans consist of loans that have been placed on non-accrual status and loans past due over 90 days and still accruing interest. Loans past due 30 through 89 days and still accruing decreased from $1.3 million as of December 31, 2010 to $1.0 million as of September 30, 2011.

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Adversely classified assets at September 30, 2011 and December 31, 2010 were as follows:

(dollars in thousands)

	September 30, 2011					December 31, 2010
	Amount		Percent of total loans			Amount		Percent of total loans
Classified loans:
Special mention	$	2,932		1.4	%	$	2,667		1.4	%
Substandard		7,731		3.7	%		9,878		5.1	%
Doubtful		—		0.0	%		—		0.0	%
Loss		—		0.0	%		—		0.0	%
Total classified loans		10,663		5.1	%		12,545		6.5	%
Other real estate owned		18		0.0	%		58		0.0	%
Total classified assets	$	10,681		5.1	%	$	12,603		6.5	%

Total classified loans decreased from $12.5 million at December 31, 2010 to $10.7 million at September 30, 2011. The Bank’s classification ratio was 23.2% and 32.0% as of September 30, 2011 and December 31, 2010. The classification ratio is calculated using total adversely classified assets (excluding special mention loans) divided by Tier 1 capital plus allowance for loan losses. Management believes the allowance for loan losses is adequate as of September 30, 2011.

Total deposits increased $31.2 million as of September 30, 2011 compared to December 31, 2010. The increase is primarily attributed to growth in noninterest-bearing demand accounts and interest-bearing demand accounts. Historically noninterest-bearing demand accounts have fluctuated based upon the liquidity needs of our customers. The increase in interest-bearing demand accounts can be attributed to the Company’s success in marketing our “Platinum Checking” and “Reward Checking” accounts.

Deposits at September 30, 2011 and December 31, 2010 were as follows:

(dollars in thousands)	September 30, 2011		December 31, 2010
Demand, noninterest-bearing	$	73,492	$	57,435
Demand, interest-bearing		150,981		133,987
Savings		54,371		49,804
Time, $100,000 and over		16,191		16,089
Time, other		45,284		51,819
	$	340,319	$	309,134

Shareholders’ Equity

Total shareholders’ equity increased $3.2 million to $42.2 million as of September 30, 2011 from $39.0 million as of December 31, 2010. Net income for the nine months ended September 30, 2011 was $1.8 million, while dividends declared were $530 thousand. Accumulated other comprehensive income increased from $1.9 million on December 31, 2010 to $3.7 million as of September 30, 2011.

The Bank is subject to regulatory capital requirements. The following is a summary of the actual and required regulatory capital amounts and ratios. Management believes the capital position of the Bank remains strong.

(dollars in thousands) September 30, 2011	Actual					For Capital Adequacy Purposes					To Be Well Capitalized Under Prompt Corrective Action Provisions
	Amount		Ratio			Amount		Ratio			Amount		Ratio
Total capital to risk-weighted assets	$	33,458		13.77	%	$	19,442		8.00	%	$	24,303		10.00	%
Tier 1 capital to risk-weighted assets		30,424		12.52	%		9,721		4.00	%		14,582		6.00	%
Tier 1 capital to average assets		30,424		7.48	%		16,268		4.00	%		20,335		5.00	%

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December 31, 2010	Actual					For Capital Adequacy Purposes					To Be Well Capitalized Under Prompt Corrective Action Provisions
	Amount		Ratio			Amount		Ratio			Amount		Ratio
Total capital to risk-weighted assets	$	31,032		13.59	%	$	18,267		8.00	%	$	22,834		10.00	%
Tier 1 capital to risk-weighted assets		28,447		12.46	%		9,134		4.00	%		13,701		6.00	%
Tier 1 capital to average assets		28,447		7.46	%		15,261		4.00	%		19,077		5.00	%

Statements of Cash Flows

Net cash from operating activities for the first nine months of 2011 was $4.8 million compared to $2.9 million for the same period of 2010. Net cash from investing activities for the first nine months of 2011 was $(15.6) million, compared to $(1.6) million for the first nine months of 2010. Net cash from financing activities was $27.0 million for the first nine months of 2011 compared to $12.4 million for the first nine months of 2010. The increase in cash and cash equivalents was $16.2 million during the first nine months of 2011 primarily related to an increase in local governmental deposit accounts. Total cash and cash equivalents was $29.1 million as of September 30, 2011 compared to $12.8 million at December 31, 2010.

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COMPARISON OF RESULTS OF OPERATIONS FOR THE NINE MONTH PERIODS ENDED

September 30, 2011 and 2010

Net income for the first nine months of 2011 was $1.8 million or $0.83 per basic and diluted earnings per share compared to $1,317 thousand or $0.60 per basic and diluted earnings per share for the same period in 2010. Net income was positively impacted by an increase in net interest income and a decrease in the provision for loan losses, partially offset by an increase in noninterest expense.

Annualized return on average equity (“ROAE”) and average assets (“ROAA”) for the first nine months of 2011 were 6.08% and 0.62%, respectively, compared with 4.41% and 0.46% for the first nine months of 2010.

	Nine months ended September 30,
	2011							2010
(dollars in thousands)	Daily Average Balance		Interest		Average yield/cost (1)			Daily Average Balance		Interest		Average yield/cost (1)
Assets
Interest earning assets:
Securities:
Taxable	$	91,265	$	2,317		3.49	%	$	99,871	$	2,831		3.93	%
Nontaxable (tax equivalent basis) (2)		47,402		1,806		5.21	%		33,006		1,327		5.55	%
Interest bearing deposits		24,990		77		0.41	%		26,772		160		0.80	%
Net loans (including nonaccrual loans)		198,676		7,901		5.30	%		193,298		7,929		5.47	%
Total interest-earning assets		362,333		12,101		4.45	%		352,947		12,247		4.63	%
All other assets		32,146							25,623
Total assets	$	394,478						$	378,570
Liabilities and Shareholders’ Equity
Interest-bearing liabilities:
Interest-bearing checking	$	146,007		583		0.53	%	$	121,376		501		0.55	%
Savings		53,208		61		0.15	%		48,438		49		0.13	%
Time, $100,000 and over		17,144		167		1.30	%		18,819		260		1.84	%
Time, other		48,277		539		1.49	%		56,617		855		2.01	%
Federal Home Loan Bank advances		10,231		198		2.58	%		25,319		762		4.01	%
Short-term borrowings		9,127		33		0.48	%		9,421		37		0.52	%
Total interest-bearing liabilities		283,994		1,581		0.74	%		279,990		2,464		1.17	%
Demand deposits		67,063							55,460
Other liabilities		3,016							3,337
Shareholders’ equity		40,406							39,783
Total liabilities and shareholders’ equity	$	394,478						$	378,570
Net interest income (tax equivalent basis) (2)			$	10,520						$	9,783
Interest rate spread (3)						3.71	%						3.45	%
Net yield on interest-earning assets (4)						3.87	%						3.70	%
Ratio of average interest-earning assets to average interest-bearing liabilities						127.58	%						126.06	%

(1) Average yields are computed using annualized interest income and expense for the periods.

(2) Tax equivalence based on highest statutory rate of 34%.

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

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

Interest and dividend income totaled $11.5 million, a decrease of $310 thousand for the nine months ended September 30, 2011 compared to the same period in 2010. Adjusted on a fully tax-equivalent (“FTE”) basis the yield on earning assets in the first nine months of 2011 was 4.45% compared to 4.63% in the first nine months of 2010. The decrease in the average yield on earning assets is primarily related to the overall decline in interest rates.

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Interest expense totaled $1.6 million, a decrease of $883 thousand or 35.8% for the nine months ended September 30, 2011 as compared to the same period in 2010. The average cost for interest bearing liabilities was 0.74% for the first nine months of 2011 compared to 1.17% for the same period in 2010.

The decrease of 43 basis points from the first nine months of 2011 is the result of change in the average volume in the mix of interest bearing liabilities and declining interest rates. The increase in interest-bearing liabilities is due primarily to growth in interest-bearing demand accounts and savings accounts. The cost of interest-bearing demand deposits and savings accounts is relatively low compared to other interest-bearing liabilities.

Net interest income increased $573 thousand, or 6.1% for the nine month period ended September 30, 2011 as compared to September 30, 2010. During the first nine months of 2011, the interest rate spread on a FTE basis increased by 26 basis points when compared to the first nine months of 2010.

Provision for loan losses totaled $447 thousand for the first nine months of 2011 compared to $1.4 million for the same period in 2010. The change in the provision was primarily due to a decrease in general loss reserves, slightly offset by an increase in specific loss allocations.

Non-performing loans decreased to $4.1 million as of September 30, 2011, compared to $4.9 million as of December 31, 2010. Adversely classified loans also decreased to $10.7 million at September 30, 2011 compared to $12.5 million as of December 31, 2010. Adversely classified loans are credits that Bank management has graded special mention, substandard and doubtful. Loans past due 30 through 89 days and still accruing decreased from $1.3 million as of December 31, 2010 to $1.0 million as of September 30, 2011.

Each quarter, management reviews the adequacy of the allowance for loan losses by reviewing the overall quality and risk profile of the Company’s loan portfolio, by reviewing specific problem credits and assessing the potential for losses based on expected cash flows or collateral values, by reviewing trends in problem loan levels, by updating loss history for the Company’s loans, by analyzing the growth and change in mix of the portfolio, and by analyzing economic trends that are believed to impact the Company’s borrowers. Management reviewed all of these factors and determined the allowance for loan losses was adequate as of September 30, 2011.

Noninterest income for the nine months ended September 30, 2011 decreased to $2.2 million or 11.3%, from $2.4 million for the same period in 2010. The change is primarily related to the decrease in net gains recorded on the sale of securities from $616 thousand in 2010 to $173 thousand in 2011.

Noninterest expense for the nine months ended September 30, 2011 was $9.5 million, an increase of 6.4% from $8.9 million for the same period in 2010. The increase in salaries and employee benefits was primarily related to the opening of the retail banking office in Fairlawn, Ohio and the increase of office hours at all retail banking locations implemented during the fourth quarter of 2010. There were also slight increases to data processing expense and net occupancy expense.

Income tax expense was $341 thousand for the nine months ended September 30, 2011 which represents an increase of $107 thousand compared to the same period in 2010. Higher pre-tax income, partially offset by an increase in interest income from tax-exempt securities are the primary factors causing the increase in income tax expense.

Quarters ended September 30, 2011 and September 30, 2010 income statement highlights:

• Net interest income increased $319 thousand, compared to the same period in 2010. The change was driven by an increase in average earning assets and growth in low-cost core deposits.

• Interest income was nearly unchanged, decreasing by $1 thousand and resulted from a decrease in interest income from taxable securities, offset by an increase in interest income from loans and nontaxable securities.

• Interest expense decreased $318 thousand or 39.8%, primarily related to a decrease in interest expense for deposits and FHLB advances.

• The provision for loan losses was $150 thousand in the quarter ended September 30, 2011 compared to $228 thousand for the same period in 2010. The provision is lower in 2011 due to the reduction in loan charge-offs during the quarter.

• Securities gains were $122 thousand for the quarter ended September 30, 2011, compared to securities gains of $540 during the quarter ended September 30, 2010.

• Salaries and benefits expense increased $141 thousand, primarily related to opening a retail banking office in Fairlawn, Ohio and an increase in office hours at all retail banking locations in December of 2010.

• FDIC Assessment expense decreased from $132 thousand in the quarter ended September 30, 2010 to $72 thousand for the same period in 2011. A change in the methodology of calculating the FDIC assessment, effective April 1, 2011, was responsible for the decrease. The new methodology is based on the asset size of a bank, instead of the amount of customer deposits.

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• Occupancy expense increased $49 thousand, compared to the same period in 2010. The change was the result of improvements made to existing Bank facilities in late 2010.

• Income tax expense was $188 thousand for the three months ended September 30, 2011, a decrease of $100 thousand compared to the same period in 2010. Higher pre-tax income in 2010 due primarily to securities gains and an increase in interest income from tax-exempt securities in 2011 is the primary cause of the decrease.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Economic Value of Equity

The economic value of equity, (EVE), is the difference between the net present value of the assets and the net present value of liabilities. EVE can be thought of as the liquidation value of the Bank on the date the calculation is made. Calculating EVE involves using a discount rate to calculate the net present value of assets and liabilities after making assumptions about the duration of assets and liabilities. As interest rates change, the discount rate changes and the change in interest rates effects the duration of assets and liabilities. If interest rates fall, for example, the duration of loans shortens since borrowers tend to prepay. Conversely the duration of loans increases if interest rates rise since borrowers are inclined to hold on to the favorable rate they were able to obtain in the lower interest rate environment.

The Board of Directors has established revised limits on a decline in the economic value of equity (EVE) and earnings at risk (EAR) given changes in interest rates. These limits are that EVE shall not decline by more than 10%, 20% and 30% given a 1%, 2% and 3% increase or decrease in interest rates respectively and that EAR shall not be greater than 8%, 16% or 24% given a 1%, 2% or 3% increase or decrease in interest rates respectively. The following illustrates our equity at risk in the economic value of equity model.

September 30, 2011
Basis Point Change in Rates	+300 bp			+200 bp			+100 bp			-100 bp			-200 bp		-300 bp
Increase (decrease) in EVE		(9.7	)%		(3.7	)%		0.6	%		(8.7	)%		nm		nm
December 31, 2010
Basis Point Change in Rates	+300 bp			+200 bp			+100 bp			-100 bp			-200 bp		-300 bp
Increase (decrease) in EVE		(12.9	)%		(6.8	)%		(1.9	)%		(4.3	)%		nm		nm

nm – not meaningful

The Bank is in compliance with the interest rate risk policy limits related to EVE as of September 30, 2011 and December 31, 2010.

Earnings at Risk

Earnings at risk, is the amount by which net interest income will be affected given a change in interest rates. The interest income and interest expense for each category of earning assets and interest bearing liabilities is recalculated after making up and down assumptions about the change in interest rates. Changes in prepayment speeds and repricing speeds are also taken into account when computing earnings at risk given a change in interest rates.

The following illustrates the effect on earnings or EAR given rate increases of 100 to 300 basis points and decreases in interest rates of 100 to 300 basis points.

September 30, 2011
Basis Point Change in Rates	+300 bp			+200 bp			+100 bp			-100 bp			-200 bp		-300 bp
Increase (decrease) in Earnings		0.9	%		0.8	%		0.5	%		(0.6	)%		nm		nm
December 31, 2010
Basis Point Change in Rates	+300 bp			+200 bp			+100 bp			-100 bp			-200 bp		-300 bp
Increase (decrease) in Earnings		(0.7	)%		(0.4	)%		(0.3	)%		(1.4	)%		nm		nm

nm – not meaningful

The Bank is in compliance with the interest rate risk policy limits related to EAR as of September 30, 2011 and December 31, 2010.

26

Item 4T. Controls and Procedures

The Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including its Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of September 30, 2011, pursuant to Exchange Act Rule 13a-15. Based upon that evaluation, the Chief Executive Officer and the Chief Financial Officer concluded that the Company’s disclosure controls and procedures were, to the best of their knowledge, effective as of September 30, 2011, in timely alerting them to material information relating to the Company (including its consolidated subsidiary) required to be included in the Company’s periodic SEC filings.

There were no changes in the Company’s internal controls over financial reporting during the nine months ended September 30, 2011 that materially affected or are reasonably likely to materially affect the Company’s internal controls over financial reporting.

27

PART II. OTHER INFORMATION

Item 1.	Legal Proceedings - None
Item 1A.	Risk Factors - There have been no significant changes in the Company’s risk factors as outlined in the Company’s Form 10-K for the period ending December 31, 2010.
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds - None
Item 3.	Defaults Upon Senior Securities - None
Item 4.	Removed and Reserved
Item 5.	Other Information - None
Item 6.	Exhibits

Exhibit No. Under Reg. S-K, Item 601	Description of Exhibits	If incorporated by Reference, Documents with Which Exhibit Was Previously Filed with SEC
(3.1)	Amended Articles of Incorporation	Annual Report 10-K filed 3/26/04 File No. 000-14773
(3.2)	Code of Regulations	Annual Report 10-K filed 3/26/04 File No. 000-14773
(10.1)	Directors Defined Benefit Plan Agreement	Annual Report 10-K filed 3/29/01 File No. 000-14773
(10.2)	Employment Agreement entered into by David C. Vernon and National Bancshares and First National Bank	Special Report 8-K filed 12/7/06
(10.3)	Special Separation Agreement of James R. VanSickle	Quarterly Report 10-Q filed 8/14/07 File No. 000-14473
(10.4)	Special Separation Agreement of Thomas R. Poe	Quarterly Report 10-Q filed 11/16/09 File No. 000-14473
(10.5)	Special Separation Agreement of Myron Filarski	Quarterly Report 10-Q filed 11/2/10 File No. 000-14473
(10.6)	Amendment to Employment Agreement entered into by David C. Vernon and National Bancshares Corporation and First National Bank	Annual Report 10-K filed 3/29/10 File No. 000-14773
(10.7)	Deferred Compensation Plan	Filed Herewith
(11)	Computation of Earnings per Share	See Consolidated Statements of Income and Comprehensive Income Page 4
(31.1)	Certification
(31.2)	Certification
(32)	Certification
Exhibit 101.1	Instance Document
Exhibit 101.2	Schema Document
Exhibit 101.3	Calculation Linkbase Document
Exhibit 101.4	Labels Linkbase Document
Exhibit 101.5	Presentation Linkbase Document

No other exhibits are required to be filed herewith pursuant to Item 601 of Regulation S-K.

28

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.

National Bancshares Corporation

Date:November 10, 2011	/s/ David C. Vernon
	David C. Vernon, President and
	Chief Executive Officer
Date:November 10, 2011	/s/ James R. VanSickle
	James R. VanSickle, Chief Financial Officer

29