Form 10-Q

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q


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

For the quarterly period ended September 30, 2011


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

Commission file number: 000-21671

THE NATIONAL BANK OF INDIANAPOLIS CORPORATION

(Exact name of registrant as specified in its charter)


Indiana		35-1887991
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)

107 North Pennsylvania Street Indianapolis, Indiana		46204
(Address of principal executive offices)		(Zip Code)

(317) 261-9000
(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 þ No o

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

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 o	Accelerated filer þ	Non-accelerated filer o	Smaller reporting company o
		(do not check if a 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 o No þ

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.


Common Stock		Outstanding at November 4, 2011

Common Stock, no par value per share		2,336,534

Part I — Financial Information


Item 1.		Financial Statements

The National Bank of Indianapolis Corporation

Consolidated Balance Sheets

(Unaudited, Dollars in thousands except share data)


	September 30, 2011			December 31, 2010
Assets
Cash and cash equivalents
Cash and due from banks	$	36,967		$	24,143
Interest bearing due from banks		165,172			252,266
Reverse repurchase agreements		1,000			1,000
Federal funds sold		8,478			16,109

Total cash and cash equivalents		211,617			293,518

Investment securities
Available-for-sale securities		149,885			75,677
Held-to-maturity securities (Fair value of $125,514 at September 30, 2011 and $117,302 at December 31, 2010)		123,669			114,676

Total investment securities		273,554			190,353

Loans held for sale		2,190			1,424
Loans		943,659			900,332
Less: Allowance for loan losses		(14,748	)		(15,134	)

Net loans		928,911			885,198
Bank owned life insurance		12,193			11,938
Other real estate owned		8,912			9,574
Premises and equipment		25,748			24,852
Deferred tax asset		6,714			8,540
Federal Reserve and FHLB stock at cost		2,990			3,065
Accrued interest		4,718			4,216
Other assets		9,622			8,715

Total assets	$	1,487,169		$	1,441,393


Liabilities and shareholders’ equity
Deposits:
Noninterest-bearing demand deposits	$	280,224		$	221,129
Money market and savings deposits		819,407			821,345
Time deposits		178,219			196,366

Total deposits		1,277,850			1,238,840
Repurchase agreements and other secured short term borrowings		90,519			93,523
Short term debt		2,500			2,688
Subordinated debt		5,000			5,000
Junior subordinated debentures owed to unconsolidated subsidiary trust		13,918			13,918
Other liabilities		9,003			8,067

Total liabilities		1,398,790			1,362,036

Shareholders’ equity:
Preferred stock, no par value — authorized 5,000,000 shares	$	—		$	—
Common stock, no par value — authorized 15,000,000 shares issued 2,916,558 shares at September 30, 2011 and 2,866,641 shares at December 31, 2010		36,822			35,269
Treasury stock, at cost; 577,366 shares at September 30, 2011 and 548,891 shares at December 31, 2010		(22,227	)		(20,953	)
Additional paid in capital		14,731			12,866
Retained earnings		55,949			51,853
Accumulated other comprehensive income		3,104			322

Total shareholders’ equity		88,379			79,357

Total liabilities and shareholders’ equity	$	1,487,169		$	1,441,393

See notes to consolidated financial statements.

The National Bank of Indianapolis Corporation

Consolidated Statements of Comprehensive Income

(Unaudited, Dollars in thousands except per share data)


	Three months ended
	September 30,
	2011			2010
Interest income:
Interest and fees on loans	$	10,566		$	10,739
Interest on investment securities taxable		676			519
Interest on investment securities nontaxable		596			534
Interest on federal funds sold		5			10
Interest on due from banks		105			96

Total interest income		11,948			11,898

Interest expense:
Interest on deposits		1,297			1,745
Interest on other short term borrowings		37			69
Interest on short term debt		30			47
Interest on long term debt		387			391

Total interest expense		1,751			2,252

Net interest income		10,197			9,646

Provision for loan losses		(371	)		1,875

Net interest income after provision for loan losses		10,568			7,771

Other operating income:
Wealth management fees		1,403			1,263
Service charges and fees on deposit accounts		750			759
Rental income		44			59
Mortgage banking income		595			1,122
Interchange income		362			330
Net gain on sale of securities		61			—
Other		484			675

Total other operating income		3,699			4,208

Other operating expenses:
Salaries, wages and employee benefits		7,572			5,249
Occupancy		673			610
Furniture and equipment		286			295
Professional services		474			535
Data processing		811			736
Business development		468			438
FDIC Insurance		296			505
Non performing assets		434			964
Other		1,422			1,805

Total other operating expenses		12,436			11,137

Income before tax		1,831			842
Federal and state income tax		390			86

Net income	$	1,441		$	756


Basic earnings per share	$	0.62		$	0.33


Diluted earnings per share	$	0.58		$	0.32

The National Bank of Indianapolis Corporation

Consolidated Statements of Comprehensive Income

(Unaudited, Dollars in thousands except per share data)


	Nine months ended
	September 30,
	2011		2010
Interest income:
Interest and fees on loans	$	31,829	$	31,725
Interest on investment securities taxable		2,043		1,638
Interest on investment securities nontaxable		1,711		1,549
Interest on federal funds sold		23		15
Interest on due from banks		352		272

Total interest income		35,958		35,199

Interest expense:
Interest on deposits	$	4,235		5,441
Interest on other short term borrowings		171		213
Interest on short term debt		93		141
Interest on long term debt		1,163		1,167

Total interest expense		5,662		6,962

Net interest income		30,296		28,237

Provision for loan losses		2,307		4,344

Net interest income after provision for loan losses		27,989		23,893

Other operating income:
Wealth management fees		4,487		3,934
Service charges and fees on deposit accounts		2,242		2,277
Rental income		143		204
Mortgage banking income		812		1,602
Interchange income		1,071		928
Net gain (loss) on sale of securities		61		(5	)
Other		1,623		1,508

Total other operating income		10,439		10,448

Other operating expenses:
Salaries, wages and employee benefits		20,775		17,362
Occupancy		2,049		1,898
Furniture and equipment		868		954
Professional services		1,521		1,678
Data processing		2,482		2,263
Business development		1,360		1,328
FDIC Insurance		1,079		1,540
Non performing assets		1,266		1,268
Other		1,938		3,532

Total other operating expenses		33,338		31,823

Income before tax		5,090		2,518
Federal and state income tax		994		304

Net income	$	4,096	$	2,214


Basic earnings per share	$	1.76	$	0.96


Diluted earnings per share	$	1.68	$	0.93

The National Bank of Indianapolis Corporation

Consolidated Statements of Cash Flows

(Unaudited, Dollars in thousands)


	Nine months ended
	September 30,
	2011			2010

Operating Activities
Net Income	$	4,096		$	2,214
Adjustments to reconcile net income to net cash provided (used) by operating activities:
Provision for loan losses		2,307			4,344
Proceeds from sale of residential mortgage loans		44,580			43,738
Origination of loans held for sale		(43,157	)		(42,933	)
Depreciation and amortization		1,149			1,136
Fair value adjustment on mortgage servicing rights		722			713
(Gain) loss on sales of investment securities		(61	)		5
Gain on sale of loans		(1,167	)		(2,006	)
Net loss on sales and writedowns of other real estate and repossessions		21			600
Net (increase) decrease in deferred income taxes		1			(1,730	)
Net increase in bank owned life insurance		(255	)		(291	)
Excess tax benefit from deferred stock compensation		(278	)		(56	)
Board stock compensation		132			120
Net accretion of discounts and amortization of premiums on investments		1,847			868
Compensation expense related to restricted stock and options		1,671			1,361
Changes in assets and liabilities:
Accrued interest receivable		(502	)		(359	)
Other assets		(1,554	)		(329	)
Other liabilities		1,214			3,332

Net cash provided by operating activities		10,766			10,727

Investing Activities
Proceeds from maturities of investment securities held to maturity		23,270			18,328
Proceeds from maturities of investment securities available for sale		41,238			29,775
Proceeds from sales of investment securities held to maturity		1,881			477
Purchases of investment securities held to maturity		(88,806	)		(16,082	)
Purchases of investment securities available for sale		(57,963	)		(46,858	)
Net increase in loans		(64,301	)		(59,195	)
Proceeds from sale of loans		15,824			6,548
Proceeds from sales of other real estate and repossessions		2,076			3,077
Purchases of bank premises and equipment		(2,045	)		(621	)

Net cash used by investing activities		(128,826	)		(64,551	)

Financing Activities
Net increase in deposits		39,010			107,828
Net decrease in short term borrowings		(3,004	)		(6,474	)
Net change in revolving line of credit		(188	)		(225	)
Income tax benefit from deferred stock compensation		278			56
Proceeds from issuance of stock		1,337			536
Repurchase of stock		(1,274	)		(472	)

Net cash provided by financing activities		36,159			101,249

Increase (decrease) in cash and cash equivalents		(81,901	)		47,425
Cash and cash equivalents at beginning of year		293,518			151,617

Cash and cash equivalents at end of year	$	211,617		$	199,042

Supplemental cash flow information
Interest paid	$	6,113		$	7,755
Income taxes paid (refunded)		1,204			(382	)
Supplemental non cash disclosure
Held to maturity investments transferred to available for sale investments	$	55,429		$	—
Loan balances transferred to foreclosed real estate		1,435			5,225
Loan balances transferred to loans held for sale		17,248			7,353

See notes to consolidated financial statements.

The National Bank of Indianapolis Corporation

Consolidated Statement of Shareholders’ Equity

(Unaudited, Dollars in thousands except share data)


											Accumulated
						Additional					Other
	Common		Treasury			Paid In			Retained		Comprehensive
	Stock		Stock			Capital			Earnings		Income			TOTAL

Balance at January 1, 2010	$	34,440	$	(20,346	)	$	10,873		$	48,067	$	(3	)	$	73,031

Comprehensive income:
Net income		—		—			—			2,214		—			2,214
Other comprehensive income		—		—			—			—		414			414
Income tax benefit from deferred stock compensation		—		—			56			—		—			56
Issuance of stock 23,559 shares of common stock under stock-based compensation plans		750		—			(94	)		—		—			656
Repurchase of stock 12,369 shares of common stock		—		(472	)		—			—		—			(472	)
Stock based compensation earned		—		—			1,361			—		—			1,361

Balance at September 30, 2010	$	35,190	$	(20,818	)	$	12,196		$	50,281	$	411		$	77,260


Balance at January 1, 2011	$	35,269	$	(20,953	)	$	12,866		$	51,853	$	322		$	79,357

Comprehensive income:
Net income		—		—			—			4,096		—			4,096
Other comprehensive income		—		—			—			—		2,782			2,782
Income tax benefit from deferred stock compensation		—		—			278			—		—			278
Issuance of 49,916 shares of common stock under stock-based compensation plans		1,553		—			(84	)		—		—			1,469
Repurchase of 28,475 shares of common stock		—		(1,274	)		—			—		—			(1,274	)
Stock based compensation earned		—		—			1,671			—		—			1,671

Balance at September 30, 2011	$	36,822	$	(22,227	)	$	14,731		$	55,949	$	3,104		$	88,379

See notes to consolidated financial statements.

The National Bank of Indianapolis Corporation

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

Note 1: Basis of Presentation

The accompanying unaudited condensed consolidated financial statements include the accounts of The National Bank of Indianapolis Corporation (“Corporation”) and its wholly-owned subsidiary, The National Bank of Indianapolis (“Bank”). All intercompany transactions between the Corporation and its subsidiary have been properly eliminated. The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the nine month period ended September 30, 2011, are not necessarily indicative of the results that may be expected for the year ended December 31, 2011. For further information, refer to the consolidated financial statements and footnotes thereto included in the Corporation’s Form 10-K for the year ended December 31, 2010.

Note 2: Investment Securities

The following is a summary of available-for-sale and held-to-maturity securities:


			Gross		Gross			Estimated
	Amortized		Unrealized		Unrealized			Fair
	Cost		Gain		(Loss)			Value

September 30, 2011
Available-for-sale
U.S. Treasury securities	$	14,803	$	—	$	—		$	14,803
U.S. Government agencies		66,175		436		—			66,611
Municipal securities		63,767		4,707		(3	)		68,471

Total available-for-sale	$	144,745	$	5,143	$	(3	)	$	149,885


			Gross		Gross			Estimated
	Amortized		Unrecognized		Unrecognized			Fair
	Cost		Gain		(Loss)			Value

Held-to-maturity
Collateralized mortgage obligations, residential	$	122,536	$	1,860	$	(36	)	$	124,360
Mortgage backed securities, residential		983		21		—			1,004
Other securities		150		—		—			150

Total held-to-maturity	$	123,669	$	1,881	$	(36	)	$	125,514

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)


			Gross		Gross			Estimated
	Amortized		Unrealized		Unrealized			Fair
	Cost		Gain		(Loss)			Value
December 31, 2010
Available-for-sale
U.S. Treasury securities	$	8,700	$	—	$	—		$	8,700
U.S. Government agencies		66,444		535		(2	)		66,977

Total available-for-sale	$	75,144	$	535	$	(2	)	$	75,677


			Gross		Gross			Estimated
	Amortized		Unrecognized		Unrecognized			Fair
	Cost		Gain		(Loss)			Value
Held-to-maturity
Municipal securities	$	55,429	$	2,121	$	(115	)	$	57,435
Collateralized mortgage obligations, residential		57,569		714		(139	)		58,144
Mortgage backed securities, residential		1,528		45		—			1,573
Other securities		150		—		—			150

Total held-to-maturity	$	114,676	$	2,880	$	(254	)	$	117,302

On May 31, 2011, the Corporation transferred the municipal securities, with a net unrecognized gain of $3,478, from held-to-maturity to available-for-sale. This will enable the Corporation to sell a municipal bond if it deems it to be appropriate when there may be an opportunity due to changes in interest rate levels to reposition maturities within the portfolio and the ability to react faster to potential credit problems with non-rated issuers and sell the bond. Since the municipal securities have a longer average life than the remaining securities of the available for sale investment portfolio, it is still the intent of the Corporation to hold the municipal securities until maturity.

During the nine month period ending September 30, 2011, the Corporation sold three available-for-sale municipal securities with a net carrying amount of $1,820 resulting in a gain of $61. The non-rated municipals are out of state and monitoring their credit risk on a timely basis was difficult. There was one sale of a held-to-maturity municipal security with a net carrying amount of $483 that was sold for a loss of $5 during the nine month period ending September 30, 2010. Since the security had a non-rated issuer, a credit review of the municipality was conducted. As a result of the review, it was determined that the investment was no longer considered a pass asset and thus below investment grade. Per investment policy, the Corporation is prohibited from holding any securities below investment grade.

The fair value of debt securities and carrying amount, if different, 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.


	September 30, 2011
	Amortized		Fair
	Cost		Value
Available-for-sale
Due in one year or less	$	55,221	$	55,350
Due from one to five years		39,180		40,494
Due from five to ten years		33,286		35,659
Due after ten years		17,058		18,382

Total	$	144,745	$	149,885


Held-to-maturity
Due in one year or less	$	75	$	75
Due from one to five years		75		75
CMO/Mortgage-backed, residential		123,519		125,364

Total	$	123,669	$	125,514

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

Investment securities with a carrying value of approximately $106,000 and $103,000 were pledged as collateral for Wealth Management accounts, U.S. Department of Justice for bankruptcy accounts on deposit, and securities sold under agreements to repurchase at September 30, 2011, and December 31, 2010, respectively.

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 Longer				Total
	Fair		Unrealized			Fair		Unrealized		Fair		Unrealized
	Value		(Loss)			Value		(Loss)		Value		(Loss)
September 30, 2011
Available-for-sale
Municipal securities	$	457	$	(3	)	$	—	$	—	$	457	$	(3	)

Total available-for-sale	$	457	$	(3	)	$	—	$	—	$	457	$	(3	)


Held-to-maturity
Collateralized mortgage obligations, residential	$	11,080	$	(36	)	$	—	$	—	$	11,080	$	(36	)

Total held-to-maturity	$	11,080	$	(36	)	$	—	$	—	$	11,080	$	(36	)


December 31, 2010
Available-for-sale
U.S. Government agencies	$	16,070	$	(2	)	$	—	$	—	$	16,070	$	(2	)

Total available-for-sale	$	16,070	$	(2	)	$	—	$	—	$	16,070	$	(2	)


Held-to-maturity
Collateralized mortgage obligations, residential	$	12,744	$	(139	)	$	—	$	—	$	12,744	$	(139	)
Municipal securities		8,358		(115	)		—		—		8,358		(115	)

Total held-to-maturity	$	21,102	$	(254	)	$	—	$	—	$	21,102	$	(254	)

In determining other-than-temporary-impairment (OTTI) for debt securities, management considers many factors, including: (1) the length of time and the extent to which the fair value has been less than 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 Corporation 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 other-than-temporary decline exists involves a high degree of subjectivity and judgment and is based on the information available to management at a point in time.

When OTTI occurs, the amount of the OTTI recognized in earnings depends on whether an entity intends to sell the security or it is more likely than not it 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 it is more likely than not it will be required to sell the security before recovery of its amortized cost basis, less any current-period credit loss, the OTTI shall be recognized in earnings equal to the entire difference between the investment’s amortized cost basis and its 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 basis less any current-period loss, the OTTI shall be 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 other comprehensive income, net of applicable taxes. The previous amortized cost basis less the OTTI recognized in earnings becomes the new amortized cost basis of the investment.

As of September 30, 2011, the Corporation held five investments of which the amortized cost was greater than fair value. The Corporation has no securities in which OTTI has been recorded.

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

The unrealized losses for investments classified as available-for-sale are attributable to changes in interest rates and/or economic environment and individually were 0.64% or less of their respective amortized costs. The unrealized losses are on one municipal and one U.S. Treasury Bill. The largest unrealized loss relates to one municipal that was purchased December 1, 2005. The credit rating of the individual municipalities is assessed monthly. As of September 30, 2011, all but two of the municipal debt securities were rated BBB or better (as a result of insurance of the underlying rating on the bond). The two municipal debt securities have no underlying rating. Credit reviews of the municipalities have been conducted. As a result, we have determined that all of our non-rated debt securities would be rated a “pass” asset and thus classified as an investment grade security. All interest payments are current for all municipal securities and management expects all to be collected in accordance with contractual terms.

The unrealized losses for investments classified as held-to-maturity are attributable to changes in interest rates and/or economic environment and individually were 0.51% or less of their respective amortized costs. The unrealized losses relate primarily to residential collateralized mortgage obligations. The residential collateralized mortgage obligations were purchased between October 2010 and May 2011. There has been a decrease in long-term interest rates from the time of the investment purchase and September 30, 2011, which affects the fair value of residential collateralized mortgage obligations and prepayment speeds. All residential collateralized mortgage obligations are backed by the U.S. Government and its agencies and represent minimal credit risk at this time.

Note 3: Loans and Allowance for Loan Losses

Loans, which are principally to borrowers in central Indiana, including unamortized deferred costs net of fees, consist of the following:


	September 30, 2011			December 31, 2010
Residential loans secured by real estate	$	260,708		$	258,483
Commercial loans secured by real estate		304,543			289,286
Construction loans		38,062			44,639
Other commercial and industrial loans		308,964			287,706
Consumer loans		30,994			20,172

Total loans		943,271			900,286
Net deferred loan costs		388			46
Allowance for loan losses		(14,748	)		(15,134	)

Total loans, net	$	928,911		$	885,198

The Corporation periodically sells residential mortgage loans it originates based on the overall loan demand of the Corporation and outstanding balances of the residential mortgage portfolio.

As of September 30, 2011, and December 31, 2010, there was $80,311 and $85,851, of 1-4 family residential mortgage loans, respectively, pledged as collateral for FHLB advances. There were no borrowings at September 30, 2011, and December 31, 2010.

There was an aggregate of $227,420 and $297,617 of commercial loans, commercial real estate, and construction loans pledged as collateral at the Federal Reserve Bank Discount Window at September 30, 2011, and December 31, 2010, respectively. There were no borrowings at September 30, 2011, and December 31, 2010.

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

The following table presents the activity in the allowance for loan losses by portfolio segment:


	Three months ended
	September 30, 2011
	Commercial			Residential			Consumer			Unallocated			Total
Beginning balance	$	13,159		$	1,694		$	548		$	766		$	16,167
Loan charge offs		(952	)		(104	)		(26	)		—			(1,082	)
Recoveries		14			5			15			—			34
Provision		(216	)		133			(263	)		(25	)		(371	)

Ending balance	$	12,005		$	1,728		$	274		$	741		$	14,748


	Nine months ended
	September 30, 2011
	Commercial			Residential			Consumer			Unallocated			Total
Beginning balance	$	11,715		$	2,400		$	200		$	819		$	15,134
Loan charge offs		(2,558	)		(307	)		(170	)		—			(3,035	)
Recoveries		304			17			21			—			342
Provision		2,544			(382	)		223			(78	)		2,307

Ending balance	$	12,005		$	1,728		$	274		$	741		$	14,748

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:


	September 30, 2011
	Commercial			Residential			Consumer			Unallocated		Total
Allowance for loan losses:
Ending allowance balance attributable to loans:
Individually evaluated for impairment	$	4,001		$	683		$	47		$	—	$	4,731
Collectively evaluated for impairment		8,004			1,045			227			741		10,017

Total ending allowance balance	$	12,005		$	1,728		$	274		$	741	$	14,748

Allowance as a % of loans		1.84	%		0.66	%		0.88	%		N/A		1.56	%

Loans:
Loans individually evaluated for impairment	$	23,404		$	4,994		$	47			N/A	$	28,445
Loans collectively evaluated for impairment		627,983			256,258			30,973			N/A		915,214
Accrued interest receivable		1,788			1,246			71			N/A		3,105

Total recorded investment	$	653,175		$	262,498		$	31,091			N/A	$	946,764


	December 31, 2010
	Commercial			Residential			Consumer			Unallocated		Total
Allowance for loan losses:
Ending allowance balance attributable to loans:
Individually evaluated for impairment	$	781		$	801		$	5		$	—	$	1,587
Collectively evaluated for impairment		10,934			1,599			195			819		13,547

Total ending allowance balance	$	11,715		$	2,400		$	200		$	819	$	15,134

Allowance as a % of loans		1.89	%		0.93	%		0.99	%		N/A		1.68	%

Loans:
Loans individually evaluated for impairment	$	6,894		$	4,165		$	111			N/A	$	11,170
Loans collectively evaluated for impairment		614,277			254,798			20,087			N/A		889,162
Accrued interest receivable		1,884			1,188			43			N/A		3,115

Total recorded investment	$	623,055		$	260,151		$	20,241			N/A	$	903,447

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

The following table presents the activity in the allowance for loan losses:


	Three months ended			Nine months ended
	September 30, 2010			September 30, 2010
Beginning balance	$	15,523		$	13,716
Loan charge offs		(1,849	)		(2,566	)
Recoveries		49			104
Provision for loan losses		1,875			4,344

Ending balance	$	15,598		$	15,598

Loans are considered to be impaired when it is determined that the obligor will not pay all contractual principal and interest when due. The following table presents loans individually evaluated for impairment by class:


	September 30, 2011
	Unpaid				Allowance for
	Principal		Recorded		Loan Losses
	Balance		Investment		Allocated
With no related allowance recorded:
Commercial
Commercial & industrial	$	1,981	$	1,686	$	—
Commercial real estate		2,662		2,087		—
Construction		2,551		1,598		—
Residential
1-4 family		991		661		—
Home equity		2,058		1,883		—
Consumer
Personal		—		—		—
Installment		—		—		—
DDA Overdraft Protection		—		—		—
Credit cards		—		—		—
With an allowance recorded:
Commercial
Commercial & industrial		5,918		5,918		2,715
Commercial real estate		7,961		7,961		657
Construction		4,154		4,154		629
Residential
1-4 family		538		536		58
Home equity		1,914		1,914		625
Consumer
Personal		—		—		—
Installment		—		—		—
DDA Overdraft Protection		—		—		—
Credit cards		47		47		47

Total	$	30,775	$	28,445	$	4,731

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)


	December 31, 2010
	Unpaid				Allowance for
	Principal		Recorded		Loan Losses
	Balance		Investment		Allocated
With no related allowance recorded:
Commercial
Commercial & industrial	$	3,467	$	2,524	$	—
Commercial real estate		2,150		2,076		—
Construction		1,490		1,251		—
Residential
1-4 family		1,080		710		—
Home equity		729		630		—
Consumer
Personal		106		106		—
Installment		—		—		—
DDA Overdraft Protection		—		—		—
Credit cards		—		—		—
With an allowance recorded:
Commercial
Commercial & industrial		1,043		1,043		781
Commercial real estate		—		—		—
Construction		—		—		—
Residential
1-4 family		56		56		20
Home equity		2,769		2,769		781
Consumer
Personal		—		—		—
Installment		—		—		—
DDA Overdraft Protection		—		—		—
Credit cards		5		5		5

Total	$	12,895	$	11,170	$	1,587

The following table presents the average balance of loans individually evaluated for impairment by class:


	Three months ended		Nine months ended
	September 30, 2011		September 30, 2011
Commercial
Commercial & industrial	$	7,426	$	5,187
Commercial real estate		6,953		3,852
Construction		3,979		2,846
Residential
1-4 family		1,146		1,011
Home equity		3,805		3,588
Consumer
Personal		—		35
Installment		—		—
DDA Overdraft Protection		1		—
Credit cards		35		14

Total	$	23,345	$	16,533

The average balance of individually impaired loans for the three and nine month period ending September 30, 2010, was $14,162 and $14,853, respectively.

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

There was $5 and $7 in interest income recorded on a cash or accrual basis for all classes of impaired loans for the three and nine month period ending September 30, 2011, respectively. There was $2 in interest income recorded on a cash or accrual basis for any class of impaired loans for the three and nine month period ending September 30, 2010.

The following table presents the recorded investment in nonaccrual and loans past due over 90 days still accruing by class of loans:


					Loans Past Due
	Nonaccrual				Over 90 Days Still Accruing
	September 30, 2011		December 31, 2010		September 30, 2011		December 31, 2010
Commercial
Commercial & industrial	$	6,962	$	3,567	$	—	$	—
Commercial real estate		8,773		2,076		—		—
Construction		4,573		1,251		—		—
Residential
1-4 family		989		766		—		—
Home equity		3,763		3,399		—		—
Consumer
Personal		—		106		—		—
Installment		—		—		—		—
DDA Overdraft Protection		—		—		—		—
Credit cards		—		—		47		5

Total	$	25,060	$	11,165	$	47	$	5

The following table presents the aging of the recorded investment in past due loans, including nonaccrual loans, by class of loans:


	September 30, 2011
	30 - 89			Greater than
	Days			90 Days			Total
	Past Due			Past Due			Past Due
Commercial
Commercial & industrial	$	573		$	584		$	1,157
Commercial real estate		51			1,984			2,035
Construction		—			1,598			1,598
Residential
1-4 family		545			356			901
Home equity		78			1,706			1,784
Consumer
Personal		—			—			—
Installment		11			—			11
DDA Overdraft Protection		5			—			5
Credit cards		29			47			76

Total	$	1,292		$	6,275		$	7,567

Past due as a % of loans		0.14	%		0.66	%		0.80	%

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)


	December 31, 2010
	30 - 89			Greater than
	Days			90 Days			Total
	Past Due			Past Due			Past Due
Commercial
Commercial & industrial	$	667		$	1,501		$	2,168
Commercial real estate		1,644			1,815			3,459
Construction		205			1,251			1,456
Residential
1-4 family		1,785			289			2,074
Home equity		1,024			430			1,454
Consumer
Personal		850			106			956
Installment		14			—			14
DDA Overdraft Protection		—			—			—
Credit cards		39			5			44

Total	$	6,228		$	5,397		$	11,625

Past due as a % of loans		0.69	%		0.60	%		1.29	%

As of September 30, 2011, $18,429 of nonaccrual loans were 1-29 days past due. As of December 31, 2010, $4,360 of nonaccrual loans were 1-29 days past due.

Troubled Debt Restructurings:

As of September 30, 2011, the Corporation had $20,417 in outstanding balances and had allocated $4,635 of specific reserves to customers whose loan terms have been modified in troubled debt restructurings. This was an increase of $13,082 from the previous quarter due to the adoption of new guidance for troubled debt restructurings. See Note 10 for further discussion. Of the total $20,417 in outstanding balances of troubled debt restructurings, $17,079 are non-accrual and have a specific reserve of $3,829 and those balances have been reported as such. As of December 31, 2010, the Corporation had $58 in outstanding balances and had allocated $0 of specific reserves to customers whose loan terms have been modified in troubled debt restructurings. The Corporation has committed to lend an additional $2,502 and $0 to customers with outstanding loans that are classified as troubled debt restructurings as of September 30, 2011, and December 31, 2010, respectively.

During the period ending September 30, 2011, the terms of 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.

Modifications involving a reduction of the stated interest rate of the loan were for periods ranging from 24 years to 30 years. Modifications involving an extension of the maturity date were for periods ranging from 3 months to 9 years.

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

The following table presents loans by class modified as troubled debt restructurings that occurred during the three month period ending September 30, 2011:


	Number		Pre-Modification		Post-Modification
	of		Outstanding Recorded		Outstanding Recorded
	Loans		Investment		Investment
Troubled Debt Restructurings:
Commercial
Commercial & industrial		5	$	877	$	854
Commercial real estate		4		8,162		7,961
Construction		2		4,154		4,154
Residential
1-4 family		1		78		80
Home equity		1		33		33
Consumer
Personal		—		—		—
Installment		—		—		—
DDA Overdraft Protection		—		—		—
Credit cards		—		—		—

Total		13	$	13,304	$	13,082

The troubled debt restructurings described above decreased the allowance for loan losses by $385 and resulted in charge offs of $0 during the three month period ending September 30, 2011.

The following table presents loans by class modified as troubled debt restructurings that occurred during the nine month period ending September 30, 2011:


	Number		Pre-Modification		Post-Modification
	of		Outstanding Recorded		Outstanding Recorded
	Loans		Investment		Investment
Troubled Debt Restructurings:
Commercial
Commercial & industrial		10	$	6,508	$	6,125
Commercial real estate		4		8,162		7,961
Construction		2		4,154		4,154
Residential
1-4 family		4		262		263
Home equity		2		1,969		1,914
Consumer
Personal		—		—		—
Installment		—		—		—
DDA Overdraft Protection		—		—		—
Credit cards		—		—		—

Total		22	$	21,055	$	20,417

The troubled debt restructurings described above increased the allowance for loan losses by $233 and resulted in charge offs of $0 during the period ending September 30, 2011.

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

The following table presents loans by class modified as troubled debt restructurings for which there was a payment default within twelve months following the modification during the period ending September 30, 2011:


	Number
	of
	Loans		Recorded Investment
Troubled Debt Restructurings that subsequently defaulted:
Commercial
Commercial & industrial		3	$	599
Commercial real estate		—		—
Construction		—		—
Residential
1-4 family		1		55
Home equity		—		—
Consumer
Personal		—		—
Installment		—		—
DDA Overdraft Protection		—		—
Credit cards		—		—

Total		4	$	654

A loan is considered to be in payment default once it is 30 days contractually past due under the modified terms.

The troubled debt restructurings that subsequently defaulted described above increased the allowance for loan losses by $0 and resulted in charge offs of $0 during the period ending September 30, 2011.

The terms of certain other loans were modified during the 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 $7,571. The modification of these loans involved either a modification of the terms of a loan to borrowers who were not experiencing financial difficulties 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.

Certain loans which were modified during the period ending September 30, 2011, and did not meet the definition of a troubled debt restructuring as the modification was a delay in a payment that was considered to be insignificant had a delay in payment of 6 months.

Credit Quality Indicators:

The Corporation categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. The Corporation analyzes certain loans individually by classifying the loans as to credit risk. This analysis includes non-homogeneous loans, such as commercial, commercial real estate, and loans for personal or consumer purpose as warranted. This analysis is performed on a monthly basis. The Corporation uses the following definitions for risk ratings:

Special Mention. Loans classified as special mention have a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or of the Corporation’s credit position at some future date.

Substandard. Loans classified as substandard are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the institution will sustain some loss if the deficiencies are not corrected.

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

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. Based on the most recent analysis performed, the risk rating of the loans by class of loans is as follows:


	Not				Special
September 30, 2011	Rated		Pass		Mention		Substandard		Doubtful
Commercial
Commercial & industrial	$	—	$	286,134	$	7,135	$	15,900	$	—
Commercial real estate		—		269,563		13,983		20,654		—
Construction		—		28,951		513		8,554		—

Total	$	—	$	584,648	$	21,631	$	45,108	$	—


	Not				Special
December 31, 2010	Rated		Pass		Mention		Substandard		Doubtful
Commercial
Commercial & industrial	$	—	$	265,528	$	7,893	$	14,122	$	—
Commercial real estate		—		256,866		24,745		7,402		—
Construction		—		31,458		6,499		6,658		—

Total	$	—	$	553,852	$	39,137	$	28,182	$	—

The Corporation considers the performance of the loan portfolio and its impact on the allowance for loan losses. For residential and consumer loan classes, the Corporation also evaluates credit quality based on the aging status of the loan, which are previously presented, and by payment activity. A loan is considered to be nonperforming when one or more of the following conditions exist: past due 90 days or greater, non accruing status, or troubled debt restructurings. The following table presents the recorded investment in residential and consumer loans based on payment activity:


	Consumer								Residential
September 30, 2011	Personal		Installment		Overdraft		Credit cards		1-4 family		Home equity

Performing	$	16,495	$	9,194	$	556	$	4,728	$	107,477	$	148,781
Nonperforming		—		—		—		47		1,197		3,797

Total	$	16,495	$	9,194	$	556	$	4,775	$	108,674	$	152,578


	Consumer								Residential
December 31, 2010	Personal		Installment		Overdraft		Credit cards		1-4 family		Home equity

Performing	$	14,158	$	885	$	620	$	4,424	$	109,360	$	145,438
Nonperforming		106		—		—		5		766		3,399

Total	$	14,264	$	885	$	620	$	4,429	$	110,126	$	148,837

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

Note 4: Other Real Estate Owned

The following table presents the activity in other real estate owned:


	Three months ended						Nine months ended
	September 30,						September 30,
	2011			2010			2011			2010
Balance at beginning of period	$	9,240		$	6,370		$	9,574		$	8,432
Additions		203			4,403			1,435			5,225
Write downs		(61	)		(685	)		(293	)		(731	)
Write ups		—			—			81			—
Sales		(470	)		(108	)		(1,885	)		(2,946	)

Balance at end of period	$	8,912		$	9,980		$	8,912		$	9,980

The following table presents expenses related to other real estate owned:


	Three months ended					Nine months ended
	September 30,					September 30,
	2011		2010			2011			2010
Net (gain) loss on sales	$	3	$	(10	)	$	(191	)	$	(131	)
Net write downs		61		685			212			731
Operating expenses, net of rental income		217		(22	)		665			273

	$	281	$	653		$	686		$	873

Note 5: Mortgage Servicing

The unpaid principal balances of mortgage loans serviced for others were $208,619 and $183,171 at September 30, 2011, and December 31, 2010, respectively.

Custodial escrow balances maintained in connection with serviced loans were $1,486 and $725 at September 30, 2011, and December 31, 2010, respectively.

The following table presents activity for mortgage servicing rights:


	Three months ended						Nine months ended
	September 30,						September 30,
	2011			2010			2011			2010
Balance at beginning of period	$	1,602		$	1,236		$	1,624		$	1,459
Plus additions		249			181			523			396
Fair value adjustments		(426	)		(275	)		(722	)		(713	)

Balance at end of period	$	1,425		$	1,142		$	1,425		$	1,142

Mortgage servicing rights are carried at fair value at September 30, 2011, and December 31, 2010. Fair value at September 30, 2011, was determined using discount rates ranging from 10.6% to 15.0%, prepayment speeds ranging from 5.47% to 28.77%, depending on the stratification of the specific right, and a weighted average default rate of 0.34%. Fair value at December 31, 2010, was determined using discount rates ranging from 10.6% to 16.0%, prepayment speeds ranging from 6.39% to 23.08%, depending on the stratification of the specific right, and a weighted average default rate of 0.39%.

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

Note 6: Stock Based Compensation

During the first quarter of 2011, one officer of the Corporation exercised options to purchase 800 common shares in the aggregate. The weighted average exercise price was $27.75 and the weighted average fair market value of the stock was $41.49.

During the second quarter of 2011, four officers of the Corporation exercised options to purchase 15,100 common shares in the aggregate. The weighted average exercise price was $29.92 and the weighted average fair value of the stock was $44.73.

During the third quarter of 2011, two officers and one director of the Corporation exercised options to purchase 31,100 common shares in the aggregate. The weighted average exercise price was $27.74 and the weighted average fair value of the stock was $45.70.

Due to the exercise of these options for the nine months ended September 30, 2011, the Corporation will receive a deduction for tax purposes for the difference between the fair value of the stock at the date of grant and the date of exercise. The Corporation recorded an income tax benefit of $278 thousand as additional paid in capital for the nine months ended September 30, 2011, as per guidance issued by the Financial Accounting Standards Board (FASB) on stock compensation.

Note 7: Earnings per Share

The following table sets forth the computation of basic and diluted earnings per share:


	Three months ended				Nine months ended
	September 30,				September 30,
	2011		2010		2011		2010

Basic average shares outstanding		2,338,066		2,318,032		2,323,383		2,312,148


Net income	$	1,441	$	756	$	4,096	$	2,214


Basic net income per common share	$	0.62	$	0.33	$	1.76	$	0.96


Diluted
Average shares outstanding		2,338,066		2,318,032		2,323,383		2,312,148
Nonvested restricted stock		108,384		50,050		97,022		43,193
Net effect of the assumed exercise of stock options		18,621		18,664		19,512		20,017

Diluted average shares		2,465,071		2,386,746		2,439,917		2,375,358


Net income	$	1,441	$	756	$	4,096	$	2,214


Diluted net income per common share	$	0.58	$	0.32	$	1.68	$	0.93

For the three and nine month period ending September 30, 2011, options to purchase 14,600 shares and 0 restricted shares were outstanding but not included in the computation of diluted earnings per share because they were antidilutive.

For the three and nine month period ending September 30, 2010, options to purchase 183,800 shares and 108,300 restricted shares were outstanding but not included in the computation of diluted earnings per share because they were antidilutive.

Note 8: Commitments and Contingencies

Some financial instruments, such as loan commitments, credit lines, letters of credit, and overdraft protection are issued to meet customer financing needs. These are agreements to provide credit or to support the credit of others, as long as conditions established in the contract are met, and usually have expiration dates. Commitments may expire without being used. Off-balance sheet risk to credit loss exists up to the face amount of these instruments, although material losses are not anticipated.

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

The contractual amount of financial instruments with off-balance sheet risk was as follows:


	September 30, 2011		December 31, 2010
Committed, not funded, commercial loans	$	4,900	$	6,500
Committed, not funded, residential loans		26,888		18,037
Unused commercial credit lines		218,873		222,387
Unused revolving home equity and credit card lines		113,204		107,712
Standby letters of credit		8,868		7,712
Demand deposit account lines of credit		2,568		2,596

	$	375,301	$	364,944

The majority of commitments to fund loans are variable rate. The demand deposit account lines of credit are a fixed rate at 18% with no maturity.

The credit risk associated with loan commitments and standby letters of credit is essentially the same as that involved in extending loans to customers and is subject to normal credit policies. Collateral may be obtained based on management’s credit assessment of the customer.

A reserve for unfunded standby letters of credit and commercial credit lines in the amount of $389 was established for the nine month period ending September 30, 2011, for two commercial relationships that are currently classified as impaired loans.

Other than routine litigation incidental to business and based on the information presently available, the Corporation believes that the total amounts, if any, that will ultimately be paid arising from these claims and legal actions are reflected in the consolidated results of operations and financial position.

Note 9: Fair Value

Fair value is the exchange price that would be received for an asset or paid to transfer a liability (exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. There are three levels of inputs that may be used to measure fair values:

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 Corporation used the following methods and significant assumptions to estimate the fair value of each type of asset or liability carried at fair value:

The fair value of available-for-sale securities 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 securities’ relationship to other benchmark quoted securities (Level 2 inputs).

The fair value of mortgage servicing rights is based on a valuation model that calculates the present value of estimated net servicing income. The valuation model incorporates assumptions that market participants would use in estimating future net servicing income. The Corporation is able to compare the valuation model inputs and results to widely available published industry data for reasonableness.

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

The fair value of other real estate owned and 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 usually significant and typically result in a Level 3 classification of the inputs for determining fair value.

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 Using:
			Quoted Prices
			in Active Markets		Significant Other		Significant
			for Identical Assets		Observable Inputs		Unobservable Inputs
	Carrying Value		(Level 1)		(Level 2)		(Level 3)
September 30, 2011
Assets:
Available-for-sale securities:
U.S. Treasury securities	$	14,803	$	—	$	14,803	$	—
U.S. Government agencies		66,611		—		66,611		—
Municipal securities		68,471		—		68,471		—
Mortgage servicing rights		1,425		—		1,425		—

December 31, 2010
Assets:
Available-for-sale securities:
U.S. Treasury securities	$	8,700	$	—	$	8,700	$	—
U.S. Government agencies		66,977		—		66,977		—
Mortgage servicing rights		1,624		—		1,624		—

There were no significant transfers between Level 1 and Level 2 during the nine month period ending September 30, 2011.

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

Assets and Liabilities Measured on a Non-Recurring Basis

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


			Fair Value Measurements Using:
			Quoted Prices
			in Active Markets		Significant Other		Significant
			for Identical Assets		Observable Inputs		Unobservable Inputs
	Carrying Value		(Level 1)		(Level 2)		(Level 3)
September 30, 2011
Assets:
Impaired loans
Commercial	$	14,032	$	—	$	—	$	14,032
Residential		1,767		—		—		1,767
Consumer		—		—		—		—
Other real estate
Commercial		4,021		—		—		4,021
Residential		128		—		—		128
Consumer		—		—		—		—

December 31, 2010
Assets:
Impaired loans
Commercial	$	262	$	—	$	—	$	262
Residential		2,024		—		—		2,024
Consumer		—		—		—		—
Other real estate
Commercial		4,826		—		—		4,826
Residential		97		—		—		97
Consumer		—		—		—		—

The following represent impairment charges recognized during the period:

Impaired loans, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a carrying amount of $20,530, with a valuation allowance of $4,731, at September 30, 2011. This resulted in an additional provision for loan losses of $1,136 and $3,527 for the three and nine month period ending September 30, 2011, respectively. At December 31, 2010, impaired loans had a carrying amount of $3,873, with a valuation allowance of $1,587. There was an additional provision for loan losses of $374 and $1,626 for the three and nine month period ending September 30, 2010, respectively.

Other real estate that has been written down to fair value less costs to sell subsequent to being transferred to other real estate had a carrying amount of $4,149 at September 30, 2011. There was a charge to earnings through non performing asset expense of $61 and $212 for the three and nine month period ending September 30, 2011, respectively. At December 31, 2010, other real estate that has been written down to fair value less costs to sell subsequent to being transferred to other real estate had a carrying amount of $4,923. There was a charge to earnings through non performing asset expense of $685 and $731 for the three and nine month period ending September 30, 2010, respectively.

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

The estimated fair value of the Corporation’s financial instruments is as follows:


	September 30, 2011				December 31, 2010
	Carrying		Fair		Carrying		Fair
	Amount		Value		Amount		Value
Assets
Cash and due from banks	$	202,139	$	202,139	$	276,409	$	276,409
Federal funds sold		8,478		8,478		16,109		16,109
Reverse repurchase agreements		1,000		1,000		1,000		1,000
Investment securities available-for-sale		149,885		149,885		75,677		75,677
Investment securities held-to-maturity		123,669		125,514		114,676		117,302
Loans held for sale		2,190		2,190		1,424		1,424
Net loans		928,911		940,161		885,198		893,665
Federal Reserve and FHLB stock		2,990		N/A		3,065		N/A
Accrued interest receivable		4,718		4,718		4,216		4,216

Liabilities
Deposits		1,277,850		1,279,046		1,238,840		1,238,175
Repurchase agreements and other secured short-term borrowings		90,519		90,534		93,523		93,554
Short-term debt		2,500		2,500		2,688		2,688
Subordinated debt		5,000		5,000		5,000		5,000
Junior subordinated debt		13,918		10,353		13,918		10,245
Accrued interest payable		1,047		1,047		1,498		1,498

The following methods and assumptions, not previously presented, were used by the Corporation in estimating its fair value disclosures for financial instruments not recorded at fair value.

Carrying amount is the estimated fair value for cash and short-term investments, interest bearing deposits, accrued interest receivable and payable, demand deposits, borrowings under repurchase agreements, short-term debt, variable rate loans or deposits that reprice frequently and fully. For fixed rate loans, deposits, or other secured short-term borrowings or for variable rate loans or deposits with infrequent pricing or repricing limits, fair value is based on discounted cash flows using current market rates applied to the estimated life and adjusted for allowance for loan losses. It was not practicable to determine the fair value of Federal Reserve and FHLB stock due to restrictions placed on its transferability. The fair value of the subordinated debt and junior subordinated debentures are based upon discounted cash flows using rates for similar securities with the same maturities. The fair value of off-balance-sheet items is not considered material.

Note 10: Adoption of New Accounting Standards

In April 2011, the FASB issued updated guidance for determining whether a restructuring is a troubled debt restructuring (TDR). In determining whether a restructuring of a financing receivable is a troubled debt restructuring, the creditor must separately conclude that both the restructuring of the debt constitutes a concession and the debtor is experiencing financial difficulties.

The updated guidance is effective for public entities beginning with the first interim or annual period on or after June 15, 2011, and should be applied retrospectively to the beginning of the annual period of adoption. As a result of applying these amendments, an entity may identify receivables that are newly considered impaired and for those receivables, the entity should apply the amendments prospectively for the first interim or annual period beginning on or after June 15, 2011. Early adoption was permitted. The adoption of this standard had a material effect on the Corporation’s results of operations or financial position. Due to the adoption of this standard, the Corporation had an increase of $13,082 in outstanding balances of loans whose terms had been modified in troubled debt restructurings and held $385 less in the allowance for loan losses than it did when these loans were collectively evaluated for impairment.

Notes to Consolidated Financial Statements
($ in thousands, except share and per share data)

In April 2011, the FASB issued updated guidance on Transfers and Servicing. The update to the guidance is to improve the accounting for repurchase agreements (repos) and other agreements that both entitle and obligate a transferor to repurchase or redeem financial assets before their maturity if all of the following conditions are met: the assets to be repurchased or redeemed are the same or substantially the same as those transferred; the agreement to repurchase or redeem them before maturity, at a fixed or determinable price; the agreement is entered into contemporaneously with, or in contemplation of, the transfer. This update removes the assessment of effective control, the criterion requiring the transferor to have the ability to repurchase or redeem the financial assets on substantially the agreed terms, even in the event of default by the transferee, and the collateral maintenance implementation guidance related to that criterion. This updated guidance is effective for the first interim or annual period beginning on or after December 15, 2011. The guidance should be applied prospectively to transactions or modifications of existing transactions that occur on or after the effective date. Early adoption is not permitted. Management continues to evaluate the impact of the adoption of this update, but does not anticipate it to have a material impact on the Corporation’s financial statements.

In May 2011, the FASB issued updated guidance on Fair Value Measurement. The amendments in this update result in common fair value measurement and disclosure requirements in U.S. GAAP and IFRS. The amendments change the wording used to describe many of the requirements in U.S. GAAP for measuring fair value and for disclosing information about fair value measurements. The amendments are to clarify the Board’s intent regarding the application of existing fair value measurement requirements. The updated guidance is effective during interim and annual periods beginning after December 15, 2011, for public entities. The updates to this guidance are to be applied prospectively. Management continues to evaluate the impact of the adoption of this update, but does not anticipate it to have a material impact on the Corporation’s financial statements.

In June 2011, the FASB issued updated guidance on the presentation of Comprehensive Income in an entity’s financial statements. Currently, U.S. GAAP provides entities three alternatives for presenting other comprehensive income and its components in financial statements. The update eliminates presenting the components of other comprehensive income as part of the statement of changes in the stockholders’ equity.

The update does provide two options to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. Regardless of the presentation the entity chooses, the entity is required to present each component of net income along with total net income, each component of other comprehensive income along with a total for other comprehensive income, and a total amount for comprehensive income.

In a single continuous statement, the entity is required to present the components of net income and total net income, the components of other comprehensive income and a total of other comprehensive income along with the total of comprehensive income in that statement. In the two statement option, an entity is required to present components of net income and total net income in the statement of income. The statement of other comprehensive income should immediately follow the statement of net income and include components of other comprehensive income a total for other comprehensive income, along with a total comprehensive income. In either presentation the entity is required to present on the face of the financial statements reclassification adjustments for items that are reclassified from other comprehensive income to net income in the statement(s) where the components of net income and the components of other comprehensive income are presented.

The updated guidance is effective for public entities for fiscal years, and interim periods within those years, beginning after December 15, 2011. Early adoption is permitted, because compliance with the amendments is already permitted. The amendments do not require any transition disclosures. The Corporation early adopted this standard and it did not have a material effect on the Corporation’s results of operations or financial position.


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

Corporation Overview

The National Bank of Indianapolis Corporation (the “Corporation”) is a one-bank holding company formed in 1993 which owns all of the outstanding stock of The National Bank of Indianapolis (the “Bank”). The Bank, a national banking association, was formed in 1993 and is headquartered in Indianapolis, Indiana. The primary business activity of the Corporation is providing financial services through the Bank’s twelve banking offices in Marion, Johnson, and Hamilton County, Indiana.

The primary source of the Corporation’s revenue is net interest income from loans and deposits and fees from financial services provided to customers. Overall economic factors including market interest rates, business spending, and consumer confidence, as well as competitive conditions within the marketplace tend to influence business volumes.

The Corporation recorded net income of $1,441 or $0.58 per diluted share for the three month period ending September 30, 2011, as compared to $756 or $0.32 per diluted share for the three month period ending September 30, 2010. Net income increased for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010, primarily due to an increase in net interest income and a decrease in the provision for loan losses, non-performing assets expense, and other expenses. The increase is partially offset by an increase in salary expense and a decrease in mortgage banking income.

The Corporation recorded net income of $4,096 or $1.68 per diluted share for the nine month period ending September 30, 2011, as compared to $2,214 or $0.93 per diluted share for the nine month period ending September 30, 2010. Net income increased for the nine month period ending September 30, 2011, as compared to nine month period ending September 30, 2010, primarily due to an increase in net interest income and a decrease in the provision for loan losses, FDIC insurance, and other expenses. The increase is partially offset by an increase in salary expense and a decrease in mortgage banking income.

The risks and challenges that management believes will be important for the remainder of 2011 are price competition for loans and deposits by competitors, marketplace credit effects, continued spread compression, a continuation of the slow recovery of the local economy that could adversely impact the ability of borrowers to repay outstanding loans or the value of the collateral securing these loans, and the lingering effects from the financial crisis in the U.S. market and foreign markets.

The Corporation has determined that it has one reportable segment, banking services. The Bank provides a full range of deposit, credit, and money management services to its target markets, which are small to medium size businesses, affluent executive and professional individuals, and not-for-profit organizations in the Indianapolis Metropolitan Statistical Area of Indiana.

Forward-Looking Information

This section contains forward-looking statements. Forward-looking statements give current expectations or forecasts of future events and are not guarantees of future performance. The forward-looking statements are based on management’s expectations and are subject to a number of risks and uncertainties. Although management believes the expectations reflected in such forward-looking statements are reasonable, actual results may differ materially from those expressed or implied in such statements. Risks and uncertainties that could cause actual results to differ materially include, without limitation, the Corporation’s ability to execute its business plans; changes in general economic and financial market conditions; changes in interest rates; changes in competitive conditions; continuing consolidation in the financial services industry; new litigation or changes in existing litigation; losses, customer bankruptcy, claims and assessments; changes in banking regulations or other regulatory or legislative requirements that impact the Corporation’s business; and changes in accounting policies and procedures as may be required by the Financial Accounting Standards Board or other regulatory agencies. Additional information concerning factors that could cause actual results to differ materially from those expressed or implied in the forward-looking statements is available in the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2010.

Critical Accounting Policies

The Corporation’s consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States and follow general practices within the industries in which it operates. Application of these principles requires management to make estimates, assumptions, and judgments that affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions, and judgments are based on information available as of the date of the financial statements; accordingly, as this information changes, the financial statements could reflect different estimates, assumptions, and judgments. Certain policies inherently have a greater reliance on the use of estimates, assumptions, and judgments and as such have a greater possibility of producing results that could be materially different than originally reported. Estimates, assumptions, and judgments are necessary when assets and liabilities are required to be recorded at fair value, when a decline in the value of an asset not carried on the financial statements at fair value warrants an impairment write-down or valuation reserve to be established, or when an asset or liability needs to be recorded contingent upon a future event. Carrying assets and liabilities at fair value inherently results in more financial statement volatility. The fair values and the information used to record valuation adjustments for certain assets are based either on quoted market prices or are provided by other third-party sources, when available. When third-party information is not available, valuation adjustments are estimated in good faith by management primarily through the use of internal cash flow modeling techniques.

Based on the valuation techniques used and the sensitivity of financial statement amounts to the methods, assumptions, and estimates underlying those amounts, management has identified the valuation of the mortgage servicing asset, the valuation of investment securities, foreclosed assets, and the determination of the allowance for loan losses to be the accounting areas that require the most subjective or complex judgments, and as such could be most subject to revision as new information becomes available.

Investment Securities Valuation

When the Corporation classifies debt securities as held-to-maturity, it has the positive intent and ability to hold the securities to maturity. Held-to-maturity securities are stated at amortized cost. Debt securities not classified as held-to-maturity are classified as available-for-sale. Available-for-sale securities are stated at fair value, with the unrealized gains and losses, net of tax, reported as a component of other comprehensive income. Interest income includes amortization of purchase premium or discount. Premiums and discounts on securities are amortized on the level-yield method without anticipating prepayments, except for mortgage backed securities where prepayments are anticipated. Gains and losses on sales are recorded on the trade date and determined using the specific identification method.

The Corporation obtains fair values from a third party on a monthly basis in order to adjust the available-for-sale securities to fair value. Equity securities that do not have readily determinable fair values are carried at cost. When other-than-temporary-impairment (“OTTI”) occurs, the amount of the OTTI recognized in earnings depends on whether an entity intends to sell the security or it is more likely than not it 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 it is more likely than not it will be required to sell the security before recovery of its amortized cost basis, less any current-period credit loss, the OTTI shall be recognized in earnings equal to the entire difference between the investment’s amortized cost basis and its 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 basis less any current-period loss, the OTTI shall be 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 other comprehensive income, net of applicable taxes. The previous amortized cost basis less the OTTI recognized in earnings becomes the new amortized cost basis of the investment. In determining whether a market value decline is other-than-temporary, management considers the reason for the decline, the extent of the decline and the duration of the decline. Management evaluates securities for OTTI at least on a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation.

Loans

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 deferred loan fees and costs. Interest income on commercial, mortgage, and consumer loans is accrued on the principal amount of such loans outstanding and is recognized when earned. Loan origination fees and certain direct origination costs are deferred and recognized in interest income using the level-yield method without anticipating prepayments. The recorded investment in loans includes accrued interest receivable.

All loan classes, except overdraft protection lines of credit and credit cards, are typically placed on non-accrual when they become 90 days past due, unless the loan is well secured and in the process of collection, or it is determined that the obligor will not pay all contractual principal and interest due. Unless there is a significant reason to the contrary, overdraft protection lines of credit and credit cards are charged off when deemed uncollectible, but generally no later than when they become 150 days past due. Any accrued interest is charged against interest income. Interest continues to legally accrue on these non-accrual loans, but no income is recognized for financial statement purposes. Both principal and interest payments received on non-accrual loans are applied to the outstanding principal balance, until the remaining balance is considered collectible, at which time interest income may be recognized when received.

Allowance for Loan Losses

The allowance for loan losses is a valuation allowance for probable incurred credit losses. The allowance for loan losses is established through provisions for loan losses charged against income. Loans deemed to be uncollectible are charged against the allowance for loan losses, and subsequent recoveries, if any, are credited to the allowance for loan losses.

Management estimates the allowance balance required for each loan portfolio segment by 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.

Within the allowance, there are specific and general loss components. The specific loss component is assessed for non-homogeneous loans that management believes to be impaired. All loan classes are considered to be impaired when it is determined that the obligor will not pay all contractual principal and interest due or they become 90 days past due, unless the loan is both well secured and in the process of collection. For loans determined to be impaired, the loan’s carrying value is compared to its fair value using one of the following fair value measurement techniques: present value of expected future cash flows, observable market price, or fair value of the associated collateral less costs to sell. An allowance is established when the fair value is lower than the carrying value of that loan. The general component covers non-impaired loans and is based on a three-year historical loss experience supplemented with other economic factors based on the risks present for each portfolio segment. These economic factors include consideration of the following: changes in lending policies and procedures; effects of changes in risk selection and underwriting standards; national and local economic trends and conditions; trends in nature, volume, and growth rate of loans; experience, ability, and depth of lending management and other relevant staff; levels of and trends in past due and classified loans; collateral valuations in the market for collateral dependent loans; effects of changes in credit concentrations; and competition, legal, and regulatory factors. These loans are segregated by loan class and/or risk grade with an estimated loss ratio applied against each loan class and/or risk grade.

Loans for which the terms have been modified resulting in concessions and for which the borrower is experiencing financial difficulties are considered troubled debt restructuring and are classified as impaired. Troubled debt restructurings 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 troubled debt restructuring is considered to be a collateral dependent loan, the loan is reported, net, at the fair value of the collateral. For troubled debt restructurings that subsequently default, the Corporation determines the amount of the reserve in accordance with the accounting policy for the allowance for loan losses.

The following portfolio segments have been identified: commercial, residential, and consumer. Commercial credits and personal lines of credit are subject to the assignment of individual risk grades in accordance with the Corporation’s Loan Risk Rating Guidelines. These loans are individually graded as Pass, Special Mention, Substandard or Doubtful, with the “Pass” rating further subdivided into risk gradients. Residential loans (including home equity lines of credit) and consumer loans (excluding aforementioned personal lines of credit) are not generally individually graded; rather, these loans are treated as homogenous pools within each category. When included in these pools, these loans are assigned a “Pass” Risk Rating. These loans may be or may become individually graded based on a pledge of liquid collateral, delinquency status, identified changes in the borrower’s repayment capacity, or as a result of legal action.

It is the policy of the Corporation to promptly charge off any loan, or portion thereof, which is deemed to be uncollectible. This includes, but is not limited to, any loan rated “Loss” by the regulatory authorities. All impaired loan classes are considered on a case-by-case basis.

An assessment of the adequacy of the allowance is performed on a quarterly basis. Management believes the allowance for loan losses is maintained at a level that is adequate to absorb probable losses inherent in the loan portfolio.

Foreclosed Assets

Assets acquired through or instead of loan foreclosure are initially recorded at fair value less costs to sell when acquired, establishing a new cost basis. Any excess recorded investment over the fair value of the property received is charged to the allowance for loan losses. The fair value of foreclosed assets is subject to fluctuations in appraised values which are affected by the local and national economy. If fair value declines subsequent to foreclosure, a valuation allowance is recorded through non performing assets expense.

When the Corporation owns and operates these assets, it is exposed to risks inherent in the ownership of real estate. In addition to declines in the value of the property, there are expenditures associated with the ownership of real estate which are expensed after the Corporation acquires the property. These expenditures primarily include real estate taxes, insurance, and maintenance costs. These expenses may adversely affect the income since they may exceed the amount of rental income collected.

Mortgage Servicing Assets

Mortgage servicing rights are recognized separately when they are acquired through sales of loans. Capitalized mortgage servicing rights are reported in other assets. When mortgage loans are sold, servicing rights are initially recorded at fair value with the income statement effect recorded in gains on sales of loans. Fair value is based on a valuation model that calculates the present value of estimated future net servicing income. The valuation model incorporates assumptions that market participants would use in estimating future net servicing income, such as the cost to service, the discount rate, the custodial earnings rate, an inflation rate, ancillary income, prepayment speeds and default rates and losses. The Corporation obtains fair value estimates from an independent third party and compares significant valuation model inputs to published industry data in order to validate the model assumptions and results.

Under the fair value measurement method, the Corporation measures servicing rights at fair value at each reporting date and reports changes in fair value of servicing assets in earnings in the period in which the changes occur, and these changes are included in mortgage banking income on the income statement. The fair values of servicing rights are subject to significant fluctuations as a result of changes in estimated and actual prepayment speeds and default rates and losses.

Results of Operations

Net Interest Income

The Corporation’s results of operations depend primarily on the level of its net interest income, its non-interest income and its operating expenses. Net interest income depends on the volume of and rates associated with interest earning assets and interest bearing liabilities which results in the net interest spread. The Corporation had net interest income fully taxable equivalent (“FTE”) of $31,935 for the nine month period ending September 30, 2011, as compared to net interest income FTE of $29,476 for the nine month period ending September 30, 2010. The increase in net interest income FTE is due to an increase in total earning assets of $172,684 for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. Additionally, total interest bearing liabilities increased $131,864 for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. The net interest income spread FTE decreased 0.14% to 2.98% for the nine month period ending September 30, 2011, from 3.12% for the nine month period ending September 30, 2010. The contribution of non-interest bearing funds decreased 0.03% to 0.12% from 0.15% for the nine month period ending September 30, 2011 and 2010, respectively, resulting in an overall decrease to the net interest margin FTE to 3.10% from 3.27% for the nine month period ending September 30, 2011 and 2010, respectively.

The following table details average balances, interest income/expense average rates/yields for the Corporation’s earning assets and interest bearing liabilities at the dates indicated.


	Nine months ended
	September 30,
	2011							2010
			Interest		Average					Interest		Average
	Average		Income/		Rate/			Average		Income/		Rate/
	Balance		Expense		Yield			Balance		Expense		Yield
Assets:
Interest bearing due from banks	$	186,770	$	352		0.25	%	$	144,176	$	272		0.25	%
Reverse repurchase agreements		1,000		—		0.01	%		1,000		—		0.01	%
Federal funds		13,174		23		0.23	%		7,979		15		0.25	%
Non taxable investment securities — FTE		63,323		2,650		5.58	%		56,371		2,393		5.66	%
Taxable investment securities		187,572		2,043		1.45	%		111,203		1,638		1.96	%
Loans (gross) — FTE		923,832		32,529		4.69	%		882,258		32,120		4.85	%

Total earning assets	$	1,375,671	$	37,597		3.64	%	$	1,202,987	$	36,438		4.04	%
Non-earning assets		92,497							89,409

Total assets	$	1,468,168						$	1,292,396


Liabilities:
Interest bearing DDA	$	202,497	$	208		0.14	%	$	202,066	$	380		0.25	%
Savings		638,555		2,017		0.42	%		500,133		2,207		0.59	%
CD’s under $100		68,893		683		1.32	%		64,628		886		1.83	%
CD’s over $100		95,029		1,045		1.47	%		119,464		1,608		1.79	%
Individual retirement accounts		22,136		282		1.70	%		22,765		360		2.11	%
Repurchase agreements and other secured short term borrowings		96,920		171		0.24	%		81,660		213		0.35	%
Short-term debt		2,624		93		4.73	%		4,074		141		4.61	%
Subordinated debt		5,000		57		1.52	%		5,000		61		1.63	%
Long term debt		13,918		1,106		10.60	%		13,918		1,106		10.60	%

Total interest bearing liabilities	$	1,145,572	$	5,662		0.66	%	$	1,013,708	$	6,962		0.92	%
Non-interest bearing liabilities		232,227							197,497
Other liabilities		6,414							5,768

Total liabilities	$	1,384,213						$	1,216,973
Equity		83,955							75,423

Total liabilities & equity	$	1,468,168						$	1,292,396


Recap:
Interest income — FTE			$	37,597		3.64	%			$	36,438		4.04	%
Interest expense				5,662		0.66	%			$	6,962		0.92	%


Net interest income/spread — FTE			$	31,935		2.98	%			$	29,476		3.12	%


Contribution of non-interest bearing funds						0.12	%						0.15	%

Net interest margin — FTE						3.10	%						3.27	%

Notes to the average balance and interest rate tables:

	•		Average balances are computed using daily actual balances.

	•		The average loan balance includes loans, loans held for sale, and non-accrual loans. The interest recognized prior to becoming non-accrual is reflected in the interest income for loans.

	•		Interest income on loans includes loan costs net of loan fees, of $542 thousand and $512 thousand, for the nine month period ending September 30, 2011 and 2010, respectively.

	•		Net interest income on a fully taxable equivalent basis, the most significant component of the Corporation’s earnings, is total interest income on a fully taxable equivalent basis less total interest expense. The level of net interest income on a fully taxable equivalent basis is determined by the mix and volume of interest earning assets, interest bearing deposits and borrowed funds, and changes in interest rates.

	•		Net interest spread on a fully taxable equivalent is the difference between the fully taxable equivalent rate earned on interest earning assets less the rate expensed on interest bearing liabilities.

	•		Net interest margin represents net interest income on a fully taxable equivalent basis as a percentage of average interest earning assets. Net interest margin is affected by both the interest rate spread and the level of non-interest bearing sources of funds, primarily consisting of demand deposits and shareholders’ equity.

	•		Interest income on a fully taxable equivalent basis includes the additional amount of interest income that would have been earned on tax exempt loans and if investments in certain tax-exempt interest earning assets had been made in assets subject to federal taxes yielding the same after-tax income. Interest income on tax exempt loans and municipal securities has been calculated on a fully taxable equivalent basis using a federal and state income tax blended rate of 40%. The appropriate tax equivalent adjustments to interest income on loans were $700 thousand and $395 thousand for the nine month period ending September 30, 2011 and 2010, respectively. The appropriate tax equivalent adjustments to interest income on municipal securities were $939 thousand and $884 thousand for the nine month period ending September 30, 2011 and 2010, respectively.

	•		Management believes the disclosure of the fully taxable equivalent net interest income information improves the clarity of financial analysis, and is particularly useful to investors in understanding and evaluating the changes and trends in the Corporation’s results of operations. This adjustment is considered helpful in the comparison of one financial institution’s net interest income to that of another institution, as each will have a different proportion of tax-exempt interest from their earning asset portfolios.

Provision for Loan Losses

The amount charged to the provision for loan losses by the Bank is based on management’s evaluation as to the amounts required to maintain an allowance adequate to provide for probable incurred losses inherent in the loan portfolio. The provision for loan losses made was at a level deemed necessary by management to absorb estimated, probable incurred losses in the loan portfolio. A detailed evaluation of the adequacy of the allowance for loan losses is completed quarterly by management, the results of which are used to determine the provision for loan losses. The level of this allowance is dependent upon the total amount of past due and non-performing loans, general economic conditions and management’s assessment of probable incurred losses based upon internal credit evaluations of loan portfolios and particular loans.

Due to the imprecise nature of estimating the allowance for loan losses, the allowance for loan losses includes a minor unallocated component. The unallocated component of the allowance for loan losses incorporates the management’s judgmental determination of inherent losses that may not be fully reflected in other allocations, including factors such as economic uncertainties, industry trends impacting specific portfolio segments, and broad portfolio quality trends. Therefore, the ratio of allocated to unallocated components within the total allowance may fluctuate from period to period. For the three months ended September 30, 2011, the unallocated component of the allowance decreased $25. For the nine months ended September 30, 2011, the unallocated component of the allowance decreased $78. The allocation decrease was driven by longer term improvements in asset quality, primarily lower net charge offs.

The provision for loan losses is affected by net chargeoffs on loans and changes in specific and general allocations of the allowance. The provision for loan losses was ($371) and $1,875, for the three month period ending September 30, 2011 and 2010, respectively. During the third quarter, the Corporation had $12,979 in loans that migrated to impaired status. These loans were individually evaluated for impairment and as a result of a detailed cash flow or collateral analysis, the allocation on these loans was $377 less than when they were collectively evaluated for impairment last quarter. On one of the larger non-performing loan relationships, the Corporation obtained additional collateral, which required minimal specific reserves for this relationship. Net chargeoffs for the three month period ending September 30, 2011, were $1,048 but included $953 that had been previously specifically provided for. Based on these two factors, management recorded no provision for loan losses for the three month period ending September 30, 2011, and reversed $371 of provision expense previously recorded.

The provision for loan losses was $2,307 for the nine month period ending September 30, 2011, compared to a provision for loan losses of $4,344 for the nine month period ending September 30, 2010. The decrease was driven by longer term improvements in asset quality, primarily lower net charge offs in the three-year historical loss experience, which affects the level of allocation required for loans collectively evaluated for impairment.

Other Operating Income

The following table details the components of other operating income:


	Three months ended
	September 30,				$			%
	2011		2010		Change			Change
Wealth management fees	$	1,403	$	1,263	$	140			11.1	%
Service charges and fees on deposit accounts		750		759		(9	)		-1.2	%
Rental income		44		59		(15	)		-25.4	%
Mortgage banking income		595		1,122		(527	)		-47.0	%
Interchange income		362		330		32			9.7	%
Net gain on sale of securities		61		—		61			100.0	%
Other		484		675		(191	)		-28.3	%

Total other operating income	$	3,699	$	4,208	$	(509	)		-12.1	%

Total other operating income for the three month period ending September 30, 2011, decreased as compared to the three month period ending September 30, 2010.

Wealth Management fees increased for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010. The increase in wealth management fees is attributable to an increase in Irrevocable Life Insurance Trust (“ILIT”) fees, tax preparation fees, and an overall increase in assets under management.

Service charges and fees on deposit accounts decreased for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010. The decrease is primarily attributable to a decrease in service charges collected for checking accounts and overdraft and NSF fees. The decrease is partially offset by an increase in wire transfer fees and ATM fees.

Rental income decreased for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010. The decrease was primarily due to the Bank occupying more space at the 4930 North Pennsylvania Street and 107 North Pennsylvania Street locations thus reducing the space available for tenants.

Mortgage banking income decreased for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010. The decrease for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010, is due to a decrease in the net gain on the sale of mortgage loans. A net gain on the sale of mortgage loans of $890 was recorded for the three month period ending September 30, 2011, as compared to a net gain on the sale of mortgage loans of $1,293 for the three month period ending September 30, 2010. The gains recorded in 2011 over 2010 are lower due to a lower sales price compared to the par amount of the mortgage period over period. Also, contributing to the decrease was an increase in the write down of the fair value of mortgage servicing rights (“MSRs”) of $426 for the three month period ending September 30, 2011, as compared to a write down of $275 for the three month period ending September 30, 2010.

When mortgage loans are sold and the MSRs are retained, the MSRs are recorded as an asset on the balance sheet. The value of the MSRs is sensitive to changes in interest rates. In a declining interest rate environment, mortgage loan refinancings generally increase, causing actual and expected loan prepayments to increase, which decreases the value of existing MSRs. Conversely, as interest rates rise, mortgage loan refinancings generally decline, causing actual and expected loan prepayments to decrease, which increases the value of the MSRs.

Interchange income increased for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010. The increase is attributable to higher transaction volumes for debit cards and credit cards during the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010. The increase is partially offset by an increase in cash back rewards expense for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010.

Net gain on sale of securities increased for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010. Three available-for-sale municipal securities were sold during the three month period ending September 30, 2011. The non-rated municipals are out of state making it difficult to monitor their credit risk on a timely basis.

Other income decreased for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010. The decrease is primarily due to a decrease in other real estate rental income, bank owned life insurance income, loan modification fees, and prepayment penalties collected.

The following table details the components of other operating income:


	Nine months ended
	September 30,					$			%
	2011		2010			Change			Change
Wealth management fees	$	4,487	$	3,934		$	553			14.1	%
Service charges and fees on deposit accounts		2,242		2,277			(35	)		-1.5	%
Rental income		143		204			(61	)		-29.9	%
Mortgage banking income		812		1,602			(790	)		-49.3	%
Interchange income		1,071		928			143			15.4	%
Net gain (loss) on sale of securities		61		(5	)		66			-1320.0	%
Other		1,623		1,508			115			7.6	%

Total other operating income	$	10,439	$	10,448		$	(9	)		-0.1	%

Total other operating income for the nine month period ending September 30, 2011, decreased as compared to the nine month period ending September 30, 2010.

Wealth Management fees increased for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. The increase in wealth management fees is attributable to an increase in estate fees, ILIT fees, tax preparation fees, and an overall increase in assets under management.

Service charges and fees on deposit accounts decreased for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. The decrease is primarily attributable to a decrease in service charges collected for checking accounts and overdraft and NSF fees. The decrease is partially offset by an increase in wire transfer fees and ATM fees.

Rental income decreased for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. This was due to the bank occupying more space at the 4930 North Pennsylvania Street and 107 North Pennsylvania Street locations thus reducing the space available for tenants.

Mortgage banking income decreased for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. The decrease for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010, is due to a decrease in the net gain on the sale of mortgage loans. A net gain on the sale of mortgage loans of $1,167 was recorded for the nine month period ending September 30, 2011, as compared to a net gain on the sale of mortgage loans of $2,006 for the nine month period ending September 30, 2010. The gains recorded in 2011 over 2010 are lower due to a lower sales price compared to the par amount of the mortgage period over period. Also, contributing to the decrease was an increase in the write down of the fair value of mortgage servicing rights of $722 for the nine period ending September 30, 2011, as compared to a write down of $713 for the nine month period ending September 30, 2010.

Interchange income increased for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. The increase is attributable to higher transaction volumes for debit cards and credit cards during the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. The increase is partially offset by an increase in cash back rewards expense for the nine months ended September 30, 2011, as compared to the nine months ended September 30, 2010.

Net gain on sale of securities increased for the nine month period ending September 30, 2011, as compared the nine month period ending September 30, 2010. Three available-for-sale municipal securities were sold during the nine month period ending September 30, 2011. The non-rated municipals are out of state making it difficult to monitor their credit risk on a timely basis.

Other income increased for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. The increase is primarily due to an increase in other real estate rental income and on fees collected for loan covenant waivers. The increase is partially offset by a decrease in bank owned life insurance income, letter of credit fees, Dreyfus money market funds sweep fees, late fee income, loan modification fees, and prepayment penalties collected.

Other Operating Expenses

The following table details the components of other operating expense:


	Three months ended
	September 30,				$			%
	2011		2010		Change			Change
Salaries, wages and employee benefits	$	7,572	$	5,249	$	2,323			44.3	%
Occupancy		673		610		63			10.3	%
Furniture and equipment		286		295		(9	)		-3.1	%
Professional services		474		535		(61	)		-11.4	%
Data processing		811		736		75			10.2	%
Business development		468		438		30			6.8	%
FDIC Insurance		296		505		(209	)		-41.4	%
Non performing assets		434		964		(530	)		-55.0	%
Other		1,422		1,805		(383	)		-21.2	%

Total other operating expenses	$	12,436	$	11,137	$	1,299			11.7	%

Total other operating expenses for the three month period ending September 30, 2011, increased as compared to the three month period ending September 30, 2010.

Salaries, wages, and employee benefits increased for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010. The increase is the result of increased salary expense, employer FICA expense, group medical benefits, 401K expense, deferred compensation, training expense, and performance bonus expense. The percentage accrued for the performance bonus was higher in 2011 as compared to the percentage in 2010. The increase is partially offset by a decrease in contract labor.

Occupancy expense increased for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010. The increase is due to an increase in real estate taxes, building and improvements depreciation expense, building maintenance, and utilities expense.

Furniture and equipment expense decreased for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010. This decrease is due to a decrease in computer equipment depreciation expense and maintenance contracts. The decrease is partially offset by an increase in furniture, fixture, and equipment repair expense, furniture, fixture, and equipment purchased for less than $500 and expensed, and furniture, fixture, and equipment depreciation expense.

Professional services expense decreased for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010. The decrease is due to a decrease in advertising agency fees, outsourced internal audit fees, design services, attorney fees, and courier service.

Data processing expenses increased for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010. The increase is due to an increase in bill payment services, ATM/debit cards, credit cards, transaction processing fees and mutual fund expense for Wealth Management accounts, and software maintenance. The increase is partially offset by a decrease in service bureau fees of the Bank and fiduciary income tax preparation for Wealth Management accounts.

Business development expenses increased for the three month period ending September 30, 2011, as compared to the three period ending September 30, 2010. The increase is due to an increase in customer entertainment, public relations, and customer promotions.

FDIC insurance expense decreased for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010. The decrease is due to the new rate schedule adopted by the FDIC effective April 1, 2011. In addition, effective January 1, 2011, the FDIC changed the Temporary Liquidity Guarantee Program and the Corporation is no longer required to pay for this program. The decrease is partially offset by an increase in the FDIC assessment because of higher assets period over period.

Nonperforming assets expenses decreased for the three month period ending September 30, 2011, as compared to the three month period ending September 30, 2010. This decrease is due to a decrease in the write down of the carrying value of other real estate owned period over period and classified loan expense. The decrease is partially offset by an increase in real estate taxes, lawn maintenance, and appraisal fees related to other real estate owned by the Corporation. Additionally, there was an increase in the net loss on the sale of the other real estate.

Other expenses decreased for the three month period ending September 30, 2011, as compared to the three period ending September 30, 2010. In 2010, the Corporation recorded a reserve as a result of a wire transfer inadvertently sent to the wrong beneficiary.

The following table details the components of other operating expense:


	Nine months ended
	September 30,				$			%
	2011		2010		Change			Change
Salaries, wages and employee benefits	$	20,775	$	17,362	$	3,413			19.7	%
Occupancy		2,049		1,898		151			8.0	%
Furniture and equipment		868		954		(86	)		-9.0	%
Professional services		1,521		1,678		(157	)		-9.4	%
Data processing		2,482		2,263		219			9.7	%
Business development		1,360		1,328		32			2.4	%
FDIC Insurance		1,079		1,540		(461	)		-29.9	%
Non performing assets		1,266		1,268		(2	)		-0.2	%
Other		1,938		3,532		(1,594	)		-45.1	%

Total other operating expenses	$	33,338	$	31,823	$	1,515			4.8	%

Total other operating expenses for the nine month period ending September 30, 2011, increased as compared to the nine month period ending September 30, 2010.

Salaries, wages, and employee benefits increased for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. The increase is the result of increased salary expense, employer FICA expense, federal and state unemployment tax expense, contract labor, group medical benefits, 401K expense, performance bonus expense, training expense, and deferred compensation. The percentage accrued for the performance bonus was higher in 2011 as compared to the percentage in 2010. The increase is partially offset by an increase in direct loan origination costs capitalized.

Occupancy expense increased for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. The increase is due to an increase in real estate taxes, building and improvements depreciation expense, lawn maintenance, building operating costs, and utilities expense. The increase is partially offset by a decrease in building and property repair expense, land and leasehold improvements depreciation expense, snow removal, and building cleaning and supplies.

Furniture and equipment expense decreased for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. This decrease is due to a decrease in furniture, fixture, and equipment purchased for less than $500 and expensed, computer equipment depreciation expense, and maintenance contracts. The decrease is partially offset by an increase in furniture, fixture, and equipment repair expense and furniture, fixture, and equipment depreciation expense.

Professional services expense decreased for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. The decrease is due to a decrease in consulting fees, advertising agency fees, design services, attorney fees, and courier service. The decrease is partially offset by an increase in outsourced internal audit services.

Data processing expenses increased for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. The increase is due to an increase in bill payment services, remote deposit capture fees, ATM/debit cards, credit cards, fiduciary income tax preparation for Wealth Management accounts, transaction processing fees and mutual fund expense for Wealth Management accounts, computer software amortization, and software maintenance. The increase is partially offset by a decrease in service bureau fees of the Bank.

Business development expenses increased for the nine month period ending September 30, 2011, as compared to the nine period ending September 30, 2010. The increase is due to an increase in public relations, market research, customer entertainment, and customer relations. The increase is partially offset by a decrease in customer promotions and direct mail campaign.

FDIC insurance expense decreased for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. The decrease is due to the new rate schedule adopted by the FDIC effective April 1, 2011. In addition, effective January 1, 2011, the FDIC changed the Temporary Liquidity Guarantee Program and the Corporation is no longer required to pay for this program. The decrease is partially offset by an increase in the FDIC assessment because of higher assets period over period.

Nonperforming assets expenses decreased for the nine month period ending September 30, 2011, as compared to the nine month period ending September 30, 2010. This decrease is due to a decrease in the write down of the carrying value of other real estate owned period over period and classified loan expense. Also contributing to the decrease is a net gain on the sale of the other real estate. The decrease is partially offset by an increase in real estate taxes, lawn maintenance, and appraisal fees related to other real estate owned by the Corporation.

Other expenses decreased for the nine month period ending September 30, 2011, as compared to the nine period ending September 30, 2010. The decrease is due to a reversal of a $1,000 accrual established by the Corporation in 2008 relating to a certain deposit account. In 2010, the Corporation recorded a reserve as a result of a wire transfer in advertently sent to the wrong beneficiary. During 2011, the Corporation recovered $395 relating to the wire transfer.

Federal and State Income Tax

The following table presents the statutory rate reconciliation:


	Three months ended						Nine months ended
	September 30,						September 30,
	2011			2010			2011			2010

Income before federal and state income tax	$	1,831		$	842		$	5,090		$	2,518


Tax expense at federal statutory rate		623			286			1,731		$	856

Increase (decrease) in taxes resulting from:
State income tax		123			26			245		$	77
Tax exempt interest		(345	)		(266	)		(926	)	$	(661	)
Bank owned life insurance		(29	)		(33	)		(87	)	$	(99	)
Customer entertainment		29			27			75		$	72
Other		(11	)		46			(44	)	$	59

Total income tax	$	390		$	86		$	994		$	304

Financial Condition

Total assets increased $45,776 from $1,441,393 at December 31, 2010, to $1,487,169 at September 30, 2011. The increase is the result of an increase of $43,327 in loans. Investment securities increased $83,201, but were offset by a decrease in cash and cash equivalents of $81,901. Deposits increased $39,010 from $1,238,840 at December 31, 2010, to $1,277,850 at September 30, 2011, due to new deposit relationships. The increase in deposits and decrease in cash and cash equivalents funded the increase in loans as well as the purchase of investments securities.

Liquidity and Interest Rate Sensitivity

The Corporation must maintain an adequate liquidity position in order to respond to the short-term demand for funds caused by withdrawals from deposit accounts, extensions of credit and for the payment of operating expenses. Maintaining an adequate liquidity position is accomplished through the management of the liquid assets — those which can be converted into cash — and access to additional sources of funds. The Corporation must monitor its liquidity ratios as established by the Asset Liability Committee (“ALCO”). In addition, the Corporation has established a contingency funding plan to address liquidity needs in the event of depressed economic or market conditions, unexpected events, and/or situations beyond the Corporation’s control. The liquidity position is continually monitored and reviewed by ALCO.

The Corporation has many sources of funds available, they include: cash and due from Federal Reserve, overnight federal funds sold, investments available for sale, maturity of investments held for sale, deposits, Federal Home Loan Bank (“FHLB”) advances, and issuance of debt. Proceeds from maturities of investment securities were the most significant funding source and purchases of investment securities were the most significant use of funds during the nine month period ending September 30, 2011. Deposits were the most significant funding source and loans were the most significant use of funds during the nine month period ending September 30, 2010.

The Corporation entered into a $2,000 revolving line of credit with U.S. Bank which matured on August 31, 2011. On September 1, 2011, the Corporation renewed the revolving loan agreement which will mature on August 31, 2012. As part of the renewal of the revolving loan agreement, the revolving loan amount was reduced from $2,000 to $1,000. Under the terms of the revolving line of credit, the Corporation paid prime plus 1.25% which equated to 4.50% at September 30, 2011. In addition, the Corporation paid a 0.25% fee on the unused portion of the revolving line of credit. As of September 30, 2011, the outstanding balance of the revolving line of credit was $0.

The Corporation also has a $3,000 one-year term facility with U.S. Bank which matured on August 31, 2011. The one-year term facility was renewed and will now mature on August 31, 2012. Under the terms of the one-year term facility, the Corporation pays prime plus 1.25% which equated to 4.50% at September 30, 2011. In addition to quarterly interest payments, the Corporation makes quarterly principal payments of $62.5. As of September 30, 2011, the outstanding balance of the term facility was $2,500.

All of the U.S. Bank agreements contain various financial and non-financial covenants. As of September 30, 2011, the Corporation was in compliance with all covenants.

Primary liquid assets of the Corporation are cash and due from banks, federal funds sold, investments held as available for sale, and maturing loans. Interest bearing due from banks represented the Corporation’s primary source of immediate liquidity and averaged $186,770 and $144,176 for the nine month period ending September 30, 2011, and September 30, 2010, respectively. The Corporation believes these balances are maintained at a level adequate to meet immediate needs. Reverse repurchase agreements may serve as a source of liquidity, but are primarily used as collateral for customer balances in overnight repurchase agreements. Maturities in the Corporation’s loan and investment portfolios are monitored regularly to avoid matching short-term deposits with long-term loans and investments. Other assets and liabilities are also monitored to provide the proper balance between liquidity, safety, and profitability. This monitoring process must be continuous due to the constant flow of cash which is inherent in a financial institution.

The Corporation’s management believes its liquidity sources are adequate to meet its operating needs and does not know of any trends, events or uncertainties that may result in a significant adverse effect on the Corporation’s liquidity position.

The Corporation actively manages its interest rate sensitive assets and liabilities to reduce the impact of interest rate fluctuations. At September 30, 2011, the Corporation’s rate sensitive liabilities exceeded rate sensitive assets due within one year by $111,328.

As part of managing liquidity, the Corporation monitors its loan to deposit ratio on a monthly basis. At September 30, 2011, the ratio was 73.8%. This is well within the board approved policy.

The Corporation experienced a decrease in cash and cash equivalents, another primary source of liquidity, of $81,901 during the nine month period ending September 30, 2011. Proceeds from the maturity of investment securities provided cash of $64,508 and deposit growth provided cash of $39,010. Lending activities used cash of $64,031 and purchases of investment securities used cash of $146,769.

The purpose of the Bank’s Investment Committee is to manage and balance interest rate risk of the investment portfolio, to provide a readily available source of liquidity to cover deposit runoff and loan growth, and to provide a portfolio of safe, secure assets of high quality that generate a supplemental source of income in concert with the overall asset/liability policies and strategies of the Bank.

Capital Resources

The Corporation has a $1,000 revolving line of credit and a $3,000 one-year term loan with U.S. Bank. See “Liquidity and Interest Rate Sensitivity” section of this report for further discussion.

On June 29, 2007, the Bank entered into a Subordinated Debenture Purchase Agreement with U.S. Bank in the amount of $5,000, which will mature on June 28, 2017. Under the terms of the Subordinated Debenture Purchase Agreement, the Bank pays 3-month London Interbank Offered Rate (LIBOR) plus 1.20% which equated to 1.58% at September 30, 2011. Interest payments are due quarterly.

In September 2000, the Trust, which is wholly owned by the Corporation, issued $13,500 of company obligated mandatorily redeemable capital securities. The proceeds from the issuance of the capital securities and the proceeds from the issuance of the common securities of $418 were used by the Trust to purchase from the Corporation $13,918 fixed rate junior subordinated debentures. The capital securities mature September 7, 2030, or upon earlier redemption as provided by the Indenture. The Corporation has the right to redeem the capital securities, in whole or in part, but in all cases in a principal amount with integral multiples of a thousand dollars on any March 7 or September 7 on or after September 7, 2010, at a premium of 104.8%, declining ratably to par on September 7, 2020. The capital securities and the debentures have a fixed interest rate of 10.60% and are guaranteed by the Bank. The net proceeds received by the Corporation from the sale of capital securities were used for general corporate purposes.

There were no FHLB advances outstanding as of September 30, 2011, or 2010.

The Bank may add indebtedness of this nature in the future if determined to be in the best interest of the Bank.

Capital for the Bank is at or above the well capitalized regulatory requirements at September 30, 2011. Pertinent capital ratios for the Bank as of September 30, 2011, are as follows:


				Well			Adequately
	Actual			Capitalized			Capitalized
Tier 1 risk-based capital ratio		9.4	%		6.0	%		4.0	%
Total risk-based capital ratio		11.1	%		10.0	%		8.0	%
Leverage ratio		6.4	%		5.0	%		4.0	%

Dividends from the Bank to the Corporation may not exceed the net undivided profits of the Bank (included in consolidated retained earnings) for the current calendar year and the two previous calendar years without prior approval from the Office of the Comptroller of the Currency. In addition, Federal banking laws limit the amount of loans the Bank may make to the Corporation, subject to certain collateral requirements. No loans were made by the Bank to the Corporation during the nine month period ending September 30, 2011 or 2010. A dividend of $1,068 and $1,115 was declared and paid by the Bank to the Corporation during the nine month period ending September 30, 2011 and 2010, respectively.

On November 20, 2008, the Board of Directors adopted a new three-year stock repurchase program for directors and employees. Under the stock repurchase program, the Corporation may repurchase shares in individually negotiated transactions from time to time as such shares become available and spend up to $8 million to repurchase such shares over the three-year term. Subject to the $8 million limitation, the Corporation intends to purchase shares recently acquired by the selling shareholder pursuant to the exercise of stock options or the vesting of restricted stock, and limit its acquisition of shares which were not recently acquired by the selling shareholder pursuant to the exercise of stock options or the vesting of shares of restricted stock to no more than 10,000 shares per year.

On February 18, 2011, the Corporation amended its stock repurchase program. Under the amended repurchase program, the Corporation may repurchase up to 15,000 shares from outside shareholders in addition to the previously approved employee and director repurchase plan. The Corporation anticipates that it will fund purchases under the repurchase program from available working capital.

Under the amended repurchase plan, the Corporation purchased 28,475 shares during the nine month period ending September 30, 2011, and $4 million is still available under the new repurchase plan as of September 30, 2011. The stock repurchase program does not require the Corporation to acquire any specific number of shares and may be modified, suspended, extended or terminated by the Corporation at any time without prior notice. The repurchase program will terminate on December 31, 2011, unless earlier suspended or discontinued by the Corporation.

Recent Accounting Pronouncements and Developments

Note 10 to the Consolidated Financial Statements under Item 1 discusses new accounting policies adopted by the Corporation during the third quarter of 2011 and the expected impact of the adoption of the new accounting policies.


Item 3.		Quantitative and Qualitative Disclosures about Market Risk

Market risk is the risk of loss due to adverse changes in market prices and rates. The Corporation’s market risk arises primarily from interest rate risk inherent in its lending and deposit taking activities. Management actively monitors and manages its interest rate exposure and makes monthly reports to ALCO. ALCO is responsible for reviewing the interest rate sensitivity position and establishing policies to monitor and limit exposure to interest rate risk. The guidelines established by ALCO are reviewed by the ALCO/Investment Committee of the Corporation’s Board of Directors.

The Corporation’s profitability is affected by fluctuations in interest rates. A sudden and substantial increase in interest rates may adversely impact the Corporation’s earnings to the extent that the interest rates earned by assets and paid on liabilities do not change at the same speed, to the same extent, or on the same basis. The Corporation monitors the impact of changes in interest rates on its net interest income. The Corporation attempts to maintain a relatively neutral gap between earning assets and liabilities at various time intervals to minimize the effects of interest rate risk.

One of the primary goals of asset/liability management is to maximize net interest income and the net value of future cash flows within authorized risk limits. Net interest income is affected by changes in the absolute level of interest rates. Net interest income is also subject to changes in the shape of the yield curve. In general, a flattening of the yield curve would result in a decline in earnings due to the compression of earning asset yields and funding rates, while a steepening would result in increased earnings as investment margins widen. Earnings are also affected by changes in spread relationships between certain rate indices, such as prime rate.

At September 30, 2011, the interest rate risk position of the Corporation was liability sensitive, meaning net income should decrease as rates rise and increase as rates fall. The Corporation performs a 200 basis point upward and downward interest rate shock to determine whether there would be an adverse impact on its annual net income and that it is within the established policy limits. A downward interest rate shock scenario was not performed due to the low level of current interest rates. The earnings simulation model as of September 30, 2011, projects an approximate decrease of 14.1% in net income in a 200 basis point upward interest rate shock. The Corporation was well within the policy limits established by the ALCO policy at September 30, 2011.

See “Liquidity and Interest Rate Sensitivity” section of this report for further discussion.

There have been no material changes in the quantitative analysis used by the Corporation since filing the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2010, (the “2010 Form 10-K”); for further discussion of the quantitative analysis used by the Corporation refer to page 48 of the 2010 Form 10-K filed with the U.S. Securities and Exchange Commission on March 11, 2011.


Item 4.		Controls and Procedures

Evaluation of Disclosure Controls and Procedures

The Corporation’s management is responsible for establishing and maintaining effective disclosure controls and procedures, as defined under Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934. As of September 30, 2011, an evaluation was performed under the supervision and with the participation of management, including the principal executive officer and principal financial officer, of the effectiveness of the design and operation of the Corporation’s disclosure controls and procedures. Based on that evaluation, the principal executive officer and principal financial officer concluded that the Corporation’s disclosure controls and procedures as of September 30, 2011, were effective in ensuring information required to be disclosed in this Quarterly Report on Form 10-Q was recorded, processed, summarized, and reported on a timely basis.

Changes in Internal Control Over Financial Reporting

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

Limitations on the Effectiveness of Controls

The Corporation’s management, including its principal executive officer and principal financial officer, does not expect that the Corporation’s disclosure controls and procedures and other internal controls will prevent all error and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Corporation have been detected. These inherent limitations include the realities that judgments in decision making can be faulty and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control.

The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can only be reasonable assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost effective control system, misstatements due to error or fraud may occur and not be detected.

Part II — Other Information.


Item 1.		Legal Proceedings

Neither the Corporation nor its subsidiaries are involved in any pending material legal proceedings at this time, other than routine litigation incidental to their business.


Item 1A.		Risk Factors

The repeal of Regulation Q may increase competition for deposits and increase our interest expense.

On July 18, 2011, the Board of Governors of the Federal Reserve System published a final rule repealing Regulation Q, which prohibits the payment of interest on demand deposits by institutions that are member banks of the Federal Reserve System. The rule implements Section 627 of the Dodd-Frank Wall Street Reform and Consumer Protection Act signed by President Obama on July 21, 2010, which repealed Section 19(i) of the Federal Reserve Act in its entirety effective July 21, 2011. As a result, banks and thrifts may now offer interest-bearing demand deposit accounts to commercial customers, which were previously forbidden under Regulation Q. The repeal of Regulation Q may cause increased competition from other financial institutions for these deposits. If the Bank decides to pay interest on demand accounts, it would expect interest expense to increase.

Other than as set forth above, there have been no material changes to the risk factors disclosed in the Corporation’s Form 10-K for the year ended December 31, 2010, as filed with the SEC on March 11, 2011.


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

	(a)		On July 1, 2011, the Corporation sold a total of 29,000 shares of common stock for proceeds of $804,750 to one director of the Corporation pursuant to the exercise of stock options by the director.

			On July 5, 2011, the Corporation sold a total of 1,100 shares of common stock for proceeds of $30,250 to one officer of the Corporation pursuant to the exercise of stock options by the officer.

			On July 28, 2011, the Corporation sold a total of 1,000 shares of common stock for proceeds of $27,750 to one officer of the Corporation pursuant to the exercise of stock options by the officer.

			These sales were made pursuant to an exemption from registration under Sections 3(a)(11) and 4(2) of the Securities Act of 1933, as amended.

	(b)		Not applicable.

	(c)		The following table sets forth the issuer repurchases of equity securities that are registered by the Corporation pursuant to Section 12 of the Securities Exchange Act of 1934 during the third quarter of 2011.

Maximum

Number (or

Approximate

Total

Dollar Value)

Number of

of Shares that

May Yet Be

Purchased as

Purchased

Part of

Under the

Total

Publicly

Plans or

Number of

Average

Announced

Programs

Price Paid

Plans or

(Dollars in

Period

Purchased

per Share

Programs**

thousands)

July 1 - July 31, 2011

2,400

45.73

2,400

4,103

August 1 - August 31, 2011

1,715

45.88

1,715

4,024

September 1 - September 30, 2011

—

4,024

Total

4,115


*		The weighted average price per share for the period July 2011 through September 2011 was $45.79.

**		All shares repurchased by the Corporation during 2011 were completed pursuant to the repurchase program.

			On November 20, 2008, the Board of Directors adopted a new three-year stock repurchase program for directors and employees. Under the stock repurchase program, the Corporation may repurchase shares in individually negotiated transactions from time to time as such shares become available and spend up to $8 million to repurchase such shares over the three-year term. Subject to the $8 million limitation, the Corporation intends to purchase shares recently acquired by the selling shareholder pursuant to the exercise of stock options or the vesting of restricted stock and limit its acquisition of shares which were not recently acquired by the selling shareholder pursuant to the exercise of stock options or the vesting of shares of restricted stock to no more than 10,000 shares per year.

			On February 18, 2011, the Corporation amended its stock repurchase program. Under the amended repurchase program, the Corporation may repurchase up to 15,000 shares from outside shareholders in addition to the previously approved employee and director repurchase plan. The Corporation anticipates that it will fund purchases under the repurchase program from available working capital.

			Under the amended repurchase plan, the Corporation purchased 28,475 shares during the nine month period ending September 30, 2011, and $4 million is still available under the new repurchase plan as of September 30, 2011. The stock repurchase program does not require the Corporation to acquire any specific number of shares and may be modified, suspended, extended or terminated by the Corporation at any time without prior notice. The repurchase program will terminate on December 31, 2011, unless earlier suspended or discontinued by the Corporation.


Item 3.		Defaults on Senior Securities

Not applicable.


Item 4.		(Removed and Reserved)


Item 5.		Other Information

Not applicable.


Item 6.		Exhibits


3.01		Articles of Incorporation of the Corporation, filed as Exhibit 3(i) to the Corporation’s Form 10-QSB as of September 30, 1995, are incorporated by reference and Articles of Amendment filed as Exhibit 3(i) to the Form 10-K for the fiscal year ended December 31, 2001.

3.02		Bylaws of the Corporation, filed as Exhibit 3(ii) to the Corporation’s Form 8-K filed July 30, 2009, are incorporated by reference.

10.01	*	1993 Key Employees’ Stock Option Plan of the Corporation, as amended, filed as Exhibit 10(a) to the Form 10-K for the fiscal year ended December 31, 2004, is incorporated by reference.

10.02	*	1993 Directors’ Stock Option Plan of the Corporation, as amended, filed as Exhibit 10(b) to the Corporation’s Form 10-Q as of June 30, 2001, is incorporated by reference.

10.03	*	1993 Restricted Stock Plan of the Corporation, as amended, filed as Exhibit 10(c) to the Form 10-K for the fiscal year ended December 31, 2004, is incorporated by reference.

10.04	*	Form of agreement under the 1993 Key Employees Stock Option Plan, filed as Exhibit 10(d) to the Form 10-K for the fiscal year ended December 31, 2004, is incorporated by reference.

10.05	*	Form of agreement under the 1993 Restricted Stock Plan, filed as Exhibit 10(e) to the Form 10-K for the fiscal year ended December 31, 2004, is incorporated by reference.

10.06	*	Schedule of Directors Compensation Arrangements, filed as part of the Corporation’s Form 8-K dated March 17, 2010, is incorporated by reference.

10.07	*	Schedule of Named Executive Officers Compensation Arrangements, filed as Exhibit 10.07 to the Corporation’s Form 8-K dated May 18, 2006, is incorporated by reference, as amended by the Corporation’s Form 8-K filed January 6, 2011 and April 21, 2011.

10.08	*	The National Bank of Indianapolis Corporation Amended and Restated 2005 Equity Incentive Plan, filed as Exhibit 10.01 to the Corporation’s Form 8-K dated June 23, 2010, is incorporated by reference.

10.09	*	Form of Restricted Stock Award Agreement for The National Bank of Indianapolis Corporation 2005 Equity Incentive Plan, filed as Exhibit 10.02 to the Corporation’s Form 8-K dated June 22, 2005, is incorporated by reference.

10.10	*	Form of Stock Option Award Agreement for The National Bank of Indianapolis Corporation 2005 Equity Incentive Plan, filed as Exhibit 10.03 to the Corporation’s Form 8-K dated June 22, 2005, is incorporated by reference.


10.11	*	Employment Agreement dated December 15, 2005, between Morris L. Maurer and the Corporation, filed as Exhibit 10.06 to the Corporation’s Form 8-K dated December 21, 2005, and as amended by Exhibit 10.06 to the Corporation’s Form 8-K dated November 26, 2008, is incorporated by reference.

10.13	*	The National Bank of Indianapolis Corporation Executive’s Deferred Compensation Plan, filed as Exhibit 10.08 to the Corporation’s Form 8-K dated December 21, 2005, and as amended by Exhibit 10.08 to the Corporation’s Form 8-K dated November 26, 2008, is incorporated by reference.

10.14	*	The National Bank of Indianapolis Corporation 401(k) Savings Plan (as amended and restated generally effective January 1, 2006), filed as Exhibit 10.14 to the Corporation’s Form 10-K dated December 31, 2005, is incorporated by reference.

31.1		Certificate of Chief Executive Officer pursuant to Rule 13a-14(a)/Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended.

31.2		Certificate of Chief Financial Officer pursuant to Rule 13a-14(a)/Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended.

32.1		Chief Executive Officer Certification pursuant to 18 U.S.C. Section 1350.

32.2		Chief Financial Officer Certification pursuant to 18 U.S.C. Section 1350.

101.		The following material from The National Bank of Indianapolis Corporation’s Form 10-Q Report for the quarterly period ended September 30, 2011, formatted in XBRL pursuant to Rule 405 of Regulation S-T: (i) the Consolidated Balance Sheets, (ii) the Consolidated Statements of Income, (iii) the Consolidated Statements of Cash Flows, (iv) the Consolidated Statements of Shareholders’ Equity, and (v) the Notes to Consolidated Financial Statements.* *


*		Management contract or compensatory plan or arrangement.

**		Furnished, not filed, for purposes of Sections 11 and 12 of the Securities Act of 1933 and Section 18 of the Securities Exchange Act of 1934.

EXHIBIT INDEX


3.01		Articles of Incorporation of the Corporation, filed as Exhibit 3(i) to the Corporation’s Form 10-QSB as of September 30, 1995, are incorporated by reference and Articles of Amendment filed as Exhibit 3(i) to the Form 10-K for the fiscal year ended December 31, 2001.

3.02		Bylaws of the Corporation, filed as Exhibit 3(ii) to the Corporation’s Form 8-K filed July 30, 2009, are incorporated by reference.

10.01	*	1993 Key Employees’ Stock Option Plan of the Corporation, as amended, filed as Exhibit 10(a) to the Form 10-K for the fiscal year ended December 31, 2004, is incorporated by reference.

10.02	*	1993 Directors’ Stock Option Plan of the Corporation, as amended, filed as Exhibit 10(b) to the Corporation’s Form 10-Q as of June 30, 2001, is incorporated by reference.

10.03	*	1993 Restricted Stock Plan of the Corporation, as amended, filed as Exhibit 10(c) to the Form 10-K for the fiscal year ended December 31, 2004, is incorporated by reference.

10.04	*	Form of agreement under the 1993 Key Employees Stock Option Plan, filed as Exhibit 10(d) to the Form 10-K for the fiscal year ended December 31, 2004, is incorporated by reference.

10.05	*	Form of agreement under the 1993 Restricted Stock Plan, filed as Exhibit 10(e) to the Form 10-K for the fiscal year ended December 31, 2004, is incorporated by reference.

10.06	*	Schedule of Directors Compensation Arrangements, filed as part of the Corporation’s Form 8-K dated March 17, 2010, is incorporated by reference.

10.07	*	Schedule of Named Executive Officers Compensation Arrangements, filed as Exhibit 10.07 to the Corporation’s Form 8-K dated May 18, 2006, is incorporated by reference, as amended by the Corporation’s Form 8-K filed January 6, 2011 and April 21, 2011.

10.08	*	The National Bank of Indianapolis Corporation Amended and Restated 2005 Equity Incentive Plan, filed as Exhibit 10.01 to the Corporation’s Form 8-K dated June 23, 2010, is incorporated by reference.

10.09	*	Form of Restricted Stock Award Agreement for The National Bank of Indianapolis Corporation 2005 Equity Incentive Plan, filed as Exhibit 10.02 to the Corporation’s Form 8-K dated June 22, 2005, is incorporated by reference.

10.10	*	Form of Stock Option Award Agreement for The National Bank of Indianapolis Corporation 2005 Equity Incentive Plan, filed as Exhibit 10.03 to the Corporation’s Form 8-K dated June 22, 2005, is incorporated by reference.

10.11	*	Employment Agreement dated December 15, 2005, between Morris L. Maurer and the Corporation, filed as Exhibit 10.06 to the Corporation’s Form 8-K dated December 21, 2005, and as amended by Exhibit 10.06 to the Corporation’s Form 8-K dated November 26, 2008, is incorporated by reference.


10.13	*	The National Bank of Indianapolis Corporation Executive’s Deferred Compensation Plan, filed as Exhibit 10.08 to the Corporation’s Form 8-K dated December 21, 2005, and as amended by Exhibit 10.08 to the Corporation’s Form 8-K dated November 26, 2008, is incorporated by reference.

10.14	*	The National Bank of Indianapolis Corporation 401(k) Savings Plan (as amended and restated generally effective January 1, 2006), filed as Exhibit 10.14 to the Corporation’s Form 10-K dated December 31, 2005, is incorporated by reference.

31.1		Certificate of Chief Executive Officer pursuant to Rule 13a-14(a)/Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended.

31.2		Certificate of Chief Financial Officer pursuant to Rule 13a-14(a)/Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended.

32.1		Chief Executive Officer Certification pursuant to 18 U.S.C. Section 1350.

32.2		Chief Financial Officer Certification pursuant to 18 U.S.C. Section 1350.

101.		The following material from The National Bank of Indianapolis Corporation’s Form 10-Q Report for the quarterly period ended September 30, 2011, formatted in XBRL pursuant to Rule 405 of Regulation S-T: (i) the Consolidated Balance Sheets, (ii) the Consolidated Statements of Income, (iii) the Consolidated Statements of Cash Flows, (iv) the Consolidated Statements of Shareholders’ Equity, and (v) the Notes to Consolidated Financial Statements.**


*		Management contract or compensatory plan or arrangement.

**		Furnished, not filed, for purposes of Sections 11 and 12 of the Securities Act of 1933 and Section 18 of the Securities Exchange Act of 1934.


PART I — FINANCIAL INFORMATION

Item 1. Consolidated Financial Statements (Unaudited)

Consolidated Balance Sheets — September 30, 2011 and December 31, 2010			1

Consolidated Statements of Comprehensive Income — Three Months ended September 30, 2011 and 2010			2
Nine Months ended September 30, 2011 and 2010			4

Consolidated Statements of Cash Flows — Nine Months ended September 30, 2011 and 2010			6

Consolidated Statements of Shareholders’ Equity — Nine Months ended September 30, 2011 and 2010			7

Notes to Consolidated Financial Statements			8

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			27

Item 3. Quantitative and Qualitative Disclosures about Market Risk			41

Item 4. Controls and Procedures			42

PART II — OTHER INFORMATION

Item 1. Legal Proceedings			42

Item 1A. Risk Factors			42

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds			43

Item 3. Defaults Upon Senior Securities			44

Item 4. (Removed and Reserved)			44

Item 5. Other Information			44

Item 6. Exhibits			45

Signatures			47

Exhibit 31.1
Exhibit 31.2
Exhibit 32.1
Exhibit 32.2
EX-101 INSTANCE DOCUMENT
EX-101 SCHEMA DOCUMENT
EX-101 CALCULATION LINKBASE DOCUMENT
EX-101 LABELS LINKBASE DOCUMENT
EX-101 PRESENTATION LINKBASE DOCUMENT
EX-101 DEFINITION LINKBASE DOCUMENT


	THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
	/s/ Debra L. Ross .
	Debra L. Ross
	Chief Financial Officer (Principal Financial Officer)