UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 10-Q

(Mark One)

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

For the quarterly period ended September 30, 2011

or

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

For the transition period from        to        

Commission File Number 001-33872

Susquehanna Bancshares, Inc.

(Exact Name of Registrant as Specified in Its Charter)

Pennsylvania	23-2201716
(State or Other Jurisdiction of Incorporation or Organization)	(I.R.S. Employer Identification No.)
26 North Cedar St., Lititz, Pennsylvania	17543
(Address of Principal Executive Offices)	(Zip Code)

Registrant’s telephone number, including area code (717) 626-4721

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

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

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

Large Accelerated Filer	x		Accelerated Filer	¨
Non-Accelerated Filer	¨	(Do not check if a smaller reporting company)	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¨  Nox

As of October 28, 2011, there were 156,689,888 shares of the registrant’s common stock outstanding, par value $2.00 per share.

SUSQUEHANNA BANCSHARES, INC.

TABLE OF CONTENTS

		Page
PART I.	FINANCIAL INFORMATION
Item 1	Financial Statements (Unaudited)
	Consolidated Balance Sheets as of September 30, 2011 and 2010, and December 31, 2010		3
	Consolidated Statements of Income for the three and nine months ended September 30, 2011 and 2010		4
	Consolidated Statements of Cash Flows for the nine months ended September 30, 2011 and 2010		5
	Consolidated Statements of Changes in Shareholders’ Equity for the nine months ended September 30, 2011 and 2010		7
	Notes to the Consolidated Financial Statements		8
Item 2	Management’s Discussion and Analysis of Financial Condition and Results of Operations		39
Item 3	Quantitative and Qualitative Disclosures About Market Risk		55
Item 4	Controls and Procedures		57
PART II.	OTHER INFORMATION
Item 1	Legal Proceedings		57
Item 1A	Risk Factors		59
Item 2	Unregistered Sales of Equity Securities and Use of Proceeds		61
Item 3	Defaults Upon Senior Securities		61
Item 4	Reserved		61
Item 5	Other Information		61
Item 6	Exhibits		62
SIGNATURES			63
EXHIBIT INDEX			64

2

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements.

Susquehanna Bancshares, Inc. and Subsidiaries

CONSOLIDATED BALANCE SHEETS (UNAUDITED)

	September 30, 2011			December 31, 2010			September 30, 2010
	(in thousands, except share data)
Assets
Cash and due from banks	$	254,074		$	200,646		$	201,353
Unrestricted short-term investments		31,040			52,252			66,497
Cash and cash equivalents		285,114			252,898			267,850
Interest-bearing deposits held by consolidated variable interest entities that can be used only to settle obligations of the consolidated variable interest entities		4,878			7,260			5,875
Restricted short-term investments		68,290			34,435			60,835
Securities available for sale		2,691,287			2,408,943			2,363,331
Securities held to maturity (fair values approximate $8,477; $8,668; and $8,735)		8,477			8,668			8,735
Loans and leases, net of unearned income		9,503,538			9,417,801			9,472,511
Loans held by consolidated variable interest entities that can be used only to settle obligations of the consolidated variable interest entities		199,131			215,396			224,289
Less: Allowance for loan and lease losses		190,960			191,834			191,115
Net loans and leases		9,511,709			9,441,363			9,505,685
Premises and equipment, net		163,992			165,557			163,205
Other real estate and foreclosed assets		31,036			19,962			18,856
Accrued income receivable		35,358			36,121			37,942
Bank-owned life insurance		359,908			359,579			353,036
Goodwill		1,018,031			1,018,031			1,018,031
Intangible assets with finite lives		27,661			34,076			36,424
Other assets		159,488			167,192			186,815
Total Assets	$	14,365,229		$	13,954,085		$	14,026,620
Liabilities and Shareholders’ Equity
Deposits:
Demand	$	1,404,366		$	1,372,235		$	1,362,116
Interest-bearing demand		3,964,428			3,646,714			3,527,064
Savings		787,536			767,852			758,672
Time		2,024,999			2,168,503			2,285,754
Time of $100 or more		1,377,302			1,235,903			1,268,572
Total deposits		9,558,631			9,191,207			9,202,178
Federal Home Loan Bank short-term borrowings		400,000			300,000			300,000
Other short-term borrowings		551,245			770,623			584,023
Federal Home Loan Bank long-term borrowings		715,026			801,620			817,116
Other long-term debt		176,032			176,038			176,040
Junior subordinated debentures		323,221			322,880			322,742
Long-term debt of consolidated variable interest entities for which creditors do not have recourse to Susquehanna’s general credit		172,909			207,036			215,959
Accrued interest, taxes, and expenses payable		47,841			46,449			57,099
Deferred taxes		48,620			33,729			38,329
Other liabilities		335,859			119,701			213,471
Total Liabilities		12,329,384			11,969,283			11,926,957
Shareholders’ equity:
Preferred stock, $1,000 liquidation value, 5,000,000 shares authorized. Outstanding: 0 at September 30, 2011 and December 31, 2010 and 100,000 at September 30, 2010		0			0			97,891
Common stock, $2.00 par value, 400,000,000 shares authorized. Issued: 130,115,580 at September 30, 2011; 129,965,635 at December 31, 2010; and 129,794,795 at September 31, 2010		260,231			259,931			259,590
Treasury stock, at cost. 5,096 at September 30, 2011 and 0 at December 31, 2010 and September 30, 2010		(39	)		0			0
Additional paid-in capital		1,298,607			1,301,042			1,300,102
Retained earnings		511,239			481,964			474,161
Accumulated other comprehensive loss, net of taxes of $19,221; $32,526; and $17,983, respectively		(34,193	)		(58,135	)		(32,081	)
Total Shareholders’ Equity		2,035,845			1,984,802			2,099,663
Total Liabilities and Shareholders’ Equity	$	14,365,229		$	13,954,085		$	14,026,620

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

3

Susquehanna Bancshares, Inc. and Subsidiaries

CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)

	Three Months Ended September 30,						Nine Months Ended September 30,
	2011			2010			2011			2010
	(in thousands, except per share data)
Interest Income:
Loans and leases, including fees	$	128,234		$	134,047		$	382,231		$	406,529
Securities:
Taxable		13,993			13,468			44,700			40,955
Tax-exempt		3,958			3,891			11,944			10,951
Dividends		994			1,027			3,012			2,964
Short-term investments		29			56			80			129
Total interest income		147,208			152,489			441,967			461,528
Interest Expense:
Deposits:
Interest-bearing demand and savings		5,274			5,785			16,711			17,475
Time		13,595			19,196			42,884			62,990
Federal Home Loan Bank short-term borrowings		3,083			711			8,421			749
Other short-term borrowings		2,220			982			5,954			2,277
Federal Home Loan Bank long-term borrowings		7,884			11,148			23,767			31,844
Other long-term debt		8,313			9,256			26,281			26,260
Total interest expense		40,369			47,078			124,018			141,595
Net interest income		106,839			105,411			317,949			319,933
Provision for loan and lease losses		25,000			40,000			88,000			128,000
Net interest income, after provision for loan and lease losses		81,839			65,411			229,949			191,933
Noninterest Income:
Service charges on deposit accounts		8,206			8,923			24,039			25,878
Vehicle origination and servicing fees		1,979			1,717			5,878			5,202
Asset management fees		7,046			6,653			21,332			21,279
Income from fiduciary-related activities		1,819			1,784			5,507			5,375
Commissions on brokerage, life insurance, and annuity sales		1,894			1,866			6,504			5,527
Commissions on property and casualty insurance sales		2,956			2,589			10,409			8,871
Other commissions and fees		7,075			6,103			19,581			17,715
Income from bank-owned life insurance		1,136			1,218			3,392			3,849
Net gain on sale of loans and leases		2,953			2,580			9,423			7,312
Net realized gain on sales of securities		1,653			393			4,584			11,285
Total other-than-temporary impairment, net of recoveries		(894	)		119			(5,260	)		(4,004	)
Portion of loss (gain) recognized in other comprehensive income (before taxes)		679			(441	)		2,200			945
Net impairment losses recognized in earnings		(215	)		(322	)		(3,060	)		(3,059	)
Other		298			1,903			3,732			3,126
Total noninterest income		36,800			35,407			111,321			112,360
Noninterest Expenses:
Salaries and employee benefits		53,315			48,850			157,719			146,243
Occupancy		8,982			8,610			27,499			26,961
Furniture and equipment		3,143			3,335			9,448			10,422
Advertising and marketing		3,138			2,980			8,624			8,875
FDIC insurance		3,596			4,500			12,383			13,284
Legal fees		3,425			2,823			8,742			6,422
Amortization of intangible assets		2,118			2,346			6,415			7,089
Vehicle lease disposal		2,676			3,923			7,733			11,095
Other		20,352			18,845			59,222			56,288
Total noninterest expenses		100,745			96,212			297,785			286,679
Income before income taxes		17,894			4,606			43,485			17,614
Provision for (benefit from) income taxes		2,934			(1,374	)		7,709			(1,260	)
Net Income		14,960			5,980			35,776			18,874
Preferred stock dividends and accretion		0			1,396			0			12,338
Net Income Available to Common Shareholders	$	14,960		$	4,584		$	35,776		$	6,536
Earnings per common share:
Basic	$	0.12		$	0.04		$	0.28		$	0.06
Diluted	$	0.12		$	0.04		$	0.28		$	0.06
Cash dividends per common share	$	0.02		$	0.01		$	0.05		$	0.03
Average common shares outstanding:
Basic		129,837			129,687			129,775			118,103
Diluted		129,895			129,718			129,846			118,135

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

4

Susquehanna Bancshares, Inc. and Subsidiaries

CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

	Nine Months Ended September 30,
	2011			2010
	(in thousands)
Cash Flows from Operating Activities:
Net income	$	35,776		$	18,874
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation, amortization, and accretion		26,384			22,086
Provision for loan and lease losses		88,000			128,000
Realized gain on available-for-sale securities, net		(1,524	)		(8,226	)
Deferred income taxes		1,487			(42,125	)
Gain on sale of loans and leases		(9,423	)		(7,312	)
(Gain) loss on sale of other real estate and foreclosed assets		(917	)		1,403
Mortgage loans originated for sale		(234,653	)		(263,553	)
Proceeds from sale of mortgage loans originated for sale		233,969			260,156
Payments received on loans and leases transferred from held for sale to held for investment, net of advances on home equity lines of credit		107,211			120,764
Increase in cash surrender value of bank-owned life insurance		(2,256	)		(3,285	)
Decrease (increase) in accrued interest receivable		763			(1,149	)
(Decrease) increase in accrued interest payable		(753	)		2,158
Increase in accrued expenses and taxes payable		2,145			7,217
Other, net		12,596			10,543
Net cash provided by operating activities		258,805			245,551
Cash Flows from Investing Activities:
Net increase in restricted short-term investments		(31,473	)		(59,019	)
Activity in available-for-sale securities:
Sales		182,749			280,683
Maturities, repayments, and calls		421,750			515,775
Purchases		(647,709	)		(1,175,706	)
Net (increase) decrease in loans and leases		(288,580	)		142,642
Purchase of bank-owned life insurance		(3,287	)		0
Proceeds from bank-owned life insurance		5,214			5,622
Proceeds from sale of foreclosed assets		22,973			21,569
Additions to premises and equipment, net		(8,193	)		(8,124	)
Net cash used in investing activities		(346,556	)		(276,558	)
Cash Flows from Financing Activities:
Net increase in deposits		367,424			227,815
Net decrease in other short-term borrowings		(219,378	)		(456,680	)
Net increase in short-term FHLB borrowings		100,000			200,000
Proceeds from long-term FHLB borrowings		0			150,000
Repayment of long-term FHLB borrowings		(85,271	)		(255,143	)
Proceeds from issuance of long-term debt		0			47,749
Repayment of long-term debt		(34,133	)		(23,987	)
Proceeds from issuance of common stock		3,134			329,440
Redemption of preferred stock		0			(200,000	)
Purchase of treasury stock		(39	)		0
Redemption of warrant		(5,269	)		0
Cash dividends paid		(6,501	)		(11,543	)
Net cash provided by financing activities		119,967			7,651

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

5

Susquehanna Bancshares, Inc. and Subsidiaries

CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (continued)

Net change in cash and cash equivalents		32,216		(23,356	)
Cash and cash equivalents at January 1		252,898		291,206
Cash and cash equivalents at September 30	$	285,114	$	267,850
Supplemental Disclosure of Cash Flow Information
Cash paid for interest on deposits and borrowings	$	124,771	$	139,400
Income tax payments		2,936		38,492
Supplemental Schedule of Noncash Activities
Interest-bearing deposits held by consolidated variable interest entities that can be used only to settle obligations of the consolidated variable interest entities at January 1, 2010	$	0	$	7,537
Loans held by consolidated variable interest entities that can be used only to settle obligations of the consolidated variable interest entities at January 1, 2010		0		248,333
Real estate acquired in settlement of loans		30,849		18,006
Long-term debt of consolidated variable interest entities for which creditors do not have recourse to Susquehanna’s general credit at January 1, 2010		0		239,936
Securities purchased not settled		185,018		70,013
Accretion of preferred stock discount		0		5,532
Home equity line of credit loans transferred from held for sale to held for investment		0		434,897
Cumulative-effect adjustment to retained earnings relating to the consolidation of variable interest entities		0		(5,805	)
Adjustment to accumulated other comprehensive income relating to the consolidation of variable interest entities		0		(6,922	)

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

6

Susquehanna Bancshares, Inc. and Subsidiaries

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (UNAUDITED)

(In thousands, except share data)

	Preferred Stock			Shares of Common Stock		Common Stock		Treasury Stock			Additional Paid-in Capital			Retained Earnings			Accumulated Other Comprehensive Loss			Total
Balance at January 1, 2010	$	292,359			86,473,612	$	172,947	$	0		$	1,057,305		$	478,167		$	(19,697	)	$	1,981,081
Cumulative-effect adjustment resultingfrom the consolidation of variable interest entities															(5,805	)		(6,922	)		(12,727	)
Comprehensive income:
Net income															18,874						18,874
Change in unrealized loss on securities available for sale, net of taxes and reclassification adjustment of $4,137																		29,893			29,893
Non-credit related unrealized loss onother-than-temporarily impaired debt securities, net of taxes of $346																		(599	)		(599	)
Change in unrealized loss on cash flow hedges, net of taxes																		(34,756	)		(34,756	)
Total comprehensive income																					13,412
Issuance of common stock					43,125,000		86,250					241,090									327,340
Issuance of common stock and options under employee benefit plans					196,183		393					1,707									2,100
Redemption of preferred stock		(200,000	)																		(200,000	)
Accretion of discount on preferred stock		5,532													(5,532	)					0
Cash dividends paid on preferred stock															(8,083	)					(8,083	)
Cash dividends paid on common stock ($0.03 per share)															(3,460	)					(3,460	)
Balance at September 30, 2010	$	97,891			129,794,795	$	259,590	$	0		$	1,300,102		$	474,161		$	(32,081	)	$	2,099,663
Balance at January 1, 2011	$	0			129,965,635	$	259,931	$	0		$	1,301,042		$	481,964		$	(58,135	)	$	1,984,802
Comprehensive income:
Net income															35,776						35,776
Change in unrealized gain on securities available for sale, net of taxes and reclassification adjustment of $965																		40,922			40,922
Non-credit related unrealized loss onother-than-temporarily impaired debt securities, net of taxes of $807																		(1,393	)		(1,393	)
Change in unrealized loss on cash flow hedges, net of taxes of $8,844																		(15,286	)		(15,286	)
Adjustment to postretirement benefit obligations, net of taxes of $162																		(301	)		(301	)
Total comprehensive income																					59,718
Issuance of common stock and options under employee benefit plans					149,945		300					2,834									3,134
Treasury stock purchased									(39	)											(39	)
Redemption of warrant												(5,269	)								(5,269	)
Cash dividends paid on common stock ($0.05 per share)															(6,501	)					(6,501	)
Balance at September 30, 2011	$	0			130,115,580	$	260,231	$	(39	)	$	1,298,607		$	511,239		$	(34,193	)	$	2,035,845

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

7

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

NOTE 1. Accounting Policies

The information contained in this report is unaudited. In the opinion of management, the information reflects all normal recurring adjustments necessary for a fair statement of results for the periods ended September 30, 2011 and 2010. Certain prior-year amounts have been reclassified to conform to current period classifications and are not material to previously issued financial statements. The year-end condensed balance sheet data was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the United States of America (“U.S. GAAP”). Operating results for the three-month and nine-month periods ended September 30, 2011 are not necessarily indicative of the results that may be expected for the year ending December 31, 2011.

The accounting policies of Susquehanna Bancshares, Inc. and Subsidiaries (“Susquehanna”), as applied in the consolidated interim financial statements presented herein, are substantially the same as those followed on an annual basis as presented on pages 76 through 83 of Susquehanna’s Annual Report on Form 10-K for the fiscal year ended December 31, 2010.

Recently Adopted Accounting Guidance

In September 2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2011-08, Intangibles – Goodwill and Other (Topic 350) – Testing Goodwill for Impairment. This ASU allows entities an option to first assess qualitative factors to determine whether it is necessary to perform the two-step quantitative goodwill impairment test. Under that option, an entity no longer would be required to calculate the fair value of a reporting unit unless the entity determines, based on that qualitative assessment, that it is more likely than not that its fair value is less than its carrying amount. Early adoption of this guidance has not had a material impact on results of operations or financial condition.

In April 2011, FASB issued ASU 2011-02, Receivables (Topic 310) – A Creditor’s Determination of Whether a Restructuring Is a Troubled Debt Restructuring. This ASU clarifies which loan modifications constitute troubled debt restructurings for purposes of recording an impairment loss and for disclosure of troubled debt restructurings. This guidance was effective for interim and annual periods beginning on or after June 15, 2011, and applies retrospectively to restructurings occurring on or after the beginning of the fiscal year of adoption. In addition, ASU 2011-02 requires that an entity disclose the information required by ASU 2010-20, Receivables (Topic 310) – Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses, which was previously deferred by ASU 2011-01. Adoption of this guidance has not had a material impact on results of operations or financial condition.

In December 2010, FASB issued ASU 2010-29, Business Combinations (Topic 805) – Disclosure of Supplementary Pro Forma Information for Business Combinations, a consensus of the FASB Emerging Issues Task Force. The amendments in this ASU specify that if a public entity presents comparative financial statements, the entity should disclose revenue and earnings of the combined entity as though the business combination(s) that occurred during the current year had occurred as of the beginning of the comparable prior annual reporting period only. The amendments in this ASU also expand the supplemental pro forma disclosures under Topic 805 to include a description of the nature and amount of material, nonrecurring pro forma adjustments directly attributable to the business combination included in the reported pro forma revenue and earnings. This ASU was effective prospectively for business combinations for which the acquisition date was on or after the beginning of the first annual reporting period beginning on or after December 15, 2010. Adoption of this guidance has not had a material impact on results of operations or financial condition.

8

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

In July 2010, FASB issued ASU 2010-20, Receivables (Topic 310) – Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses. This ASU requires companies to provide more information in their disclosures about the credit quality of their financing receivables and the credit reserves held against them. The additional disclosures required for financing receivables include: aging of past due receivables, credit quality indicators, and modifications of financing receivables. Under the update, a company will need to disaggregate new and existing disclosures based on how it develops its allowance for credit losses and how it manages credit exposures. The amendments that require disclosures as of the end of a reporting period were effective for periods ending on or after December 15, 2010. The amendments that require disclosures about activity that occurs during a reporting period were effective for periods beginning on or after December 15, 2010. Adoption of this guidance has not had a material impact on results of operations or financial condition.

In January 2010, FASB issued ASU 2010-06, Fair Value Measurements and Disclosures (Topic 820) - Improving Disclosures about Fair Value Measurements. This ASU provides amendments to Subtopic 820-10 that require new disclosures as follows: a reporting entity should disclose separately the amounts of significant transfers in and out of Level 1 and Level 2 fair value measurements and describe the reasons for the transfers. This ASU also provides amendments that clarify existing disclosures relating to the level of disaggregation and inputs and valuation techniques. This ASU was effective for interim and annual reporting periods that began after December 15, 2009, except for the disclosures about purchases, sales, issuances, and settlements in the roll forward of activity in Level 3 fair value measurements. Those disclosures were effective for fiscal years beginning after December 15, 2010, and for interim periods within those fiscal years. Adoption of this ASU has not had a material impact on results of operations or financial condition.

Recently Issued Accounting Guidance

In June 2011, FASB issued ASU 2011-05, Comprehensive Income (Topic 220) – Presentation of Comprehensive Income. This ASU requires an entity that reports items of other comprehensive income 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. The option in current GAAP that permits the presentation of other comprehensive income in the statement of changes in equity has been eliminated. This guidance is to be applied retrospectively and is effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. Early adoption is permitted. Adoption of this guidance is not expected to have a material impact on results of operations or financial condition.

In May 2011, FASB issued ASU 2011-04, Fair Value Measurement (Topic 820) - Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs. This ASU does not extend the use of fair value accounting, but provides guidance on how it should be applied where its use is already required or permitted. This guidance is to be applied prospectively and is effective during interim and annual periods beginning after December 15, 2011. Early application is not permitted. Adoption of this guidance is not expected to have a material impact on results of operations or financial condition.

In April 2011, FASB issued ASU 2011-03, Transfer and Servicing (Topic 860) – Reconsideration of Effective Control for Repurchase Agreements. This ASU removes from the assessment of effective control (1) 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 (2) the collateral maintenance implementation guidance related to that criterion. This 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. Adoption of this guidance is not expected to have a material impact on results of operations or financial condition.

NOTE 2. Acquisitions

Agreement to Acquire Tower Bancorp, Inc.

On June 20, 2011, Susquehanna announced the signing of a definitive agreement under which Susquehanna agreed to acquire all outstanding shares of Tower Bancorp, Inc. (“Tower”) common stock in a stock and cash transaction. The

9

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

transaction, with an approximate total value of $343,000, is expected to be completed on or around February 17, 2012. Under the terms of the agreement, Tower shareholders will have the option of receiving either 3.4696 shares of Susquehanna common stock or $28.00 in cash for each share of Tower common stock, with $88,000 of the aggregate consideration being paid in cash. The transaction will enhance Susquehanna’s already strong presence in central and southeastern Pennsylvania and will significantly increase its market share in the Pennsylvania counties of Chester, Dauphin, and Franklin. Additionally, the merger will give Susquehanna branch presence in the Pennsylvania counties of Lebanon, Fulton, and Centre.

The boards of directors of both Susquehanna and Tower have unanimously approved the transaction. Completion of the transaction is subject to customary closing conditions, including regulatory approvals and the approval of shareholders of both companies.

On September 28, 2011, Susquehanna and Tower entered into an amendment (the “Amendment”) to Tower Merger Agreement in order to correct an inconsistency in the way the performance of the Nasdaq Bank Index is measured as compared to the performance of Susquehanna’s stock price for purposes of determining whether Tower may terminate the Tower Merger Agreement. The Tower Merger Agreement provided a termination right to Tower if, as of a date that is approximately four days prior to the merger, (1) Susquehanna’s stock price declined from $8.07 by more than 20% and (2) Susquehanna’s stock price underperformed the Nasdaq Bank Index by more than 20% since the last trading day prior to the date the Tower Merger Agreement was announced. Prior to the Amendment, the performance of Susquehanna’s stock price was measured by comparing $8.07 to the average closing price of Susquehanna’s stock over a 20-trading-day period immediately prior to the closing, while the performance of the Nasdaq Bank Index was measured by comparing the closing price on the last trading day prior to the date of the announcement of the Tower Merger Agreement to the closing price on the fourth day prior to the closing. The Amendment changes the measurement of the Nasdaq Bank Index so that its performance is measured over the same 20-trading-day period over which Susquehanna’s stock performance is measured. The recent extreme volatility in the stock markets highlighted the need for the amendment to the boards of directors of Susquehanna and Tower. The respective boards approved the amendment of the termination right in order to avoid the unintended consequences that could occur if the two prices to be compared were measured over different periods in the context of a volatile market. The Amendment did not change Susquehanna’s right to prevent the termination by increasing the consideration paid in connection with the Tower Merger to the extent necessary to cause either of the two termination conditions to be deemed not to exist. All other terms and provisions of the Tower Merger Agreement in effect prior to the Amendment remain in full force and effect.

Abington Bancorp, Inc.

On October 1, 2011, Susquehanna completed the acquisition of Abington Bancorp, Inc. (“Abington”) in a stock-for-stock transaction. The transaction, in which Abington shareholders received 1.32 shares of Susquehanna common stock for each share of Abington common stock, had an approximate total value of $145,908 compared to a book value of $205,866. Under the current accounting rules, Susquehanna expects to record a bargain purchase gain in the fourth quarter of 2011. The locations of Abington’s bank branches provide a natural extension of Susquehanna’s network in the greater Philadelphia area.

NOTE 3. Investment Securities

The amortized cost and fair values of investment securities at September 30, 2011 and December 31, 2010, were as follows:

At September 30, 2011	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
Available-for-Sale:
U.S. Government agencies	$	233,206	$	2,553	$	2	$	235,757
Obligations of states and political subdivisions		390,196		22,820		82		412,934
Agency residential mortgage-backed securities		1,653,420		38,376		209		1,691,587
Non-agency residential mortgage-backed securities		83,655		0		8,888		74,767
Commercial mortgage-backed securities		63,144		2,146		0		65,290
Other structured financial products		24,792		0		12,052		12,740
Other debt securities		54,152		170		3,650		50,672
Equity securities of the Federal Home Loan Bank		73,007		0		0		73,007
Equity securities of the Federal Reserve Bank		50,225		0		0		50,225
Other equity securities		24,292		855		839		24,308
Total available-for-sale securities	$	2,650,089	$	66,920	$	25,722	$	2,691,287
Held-to-Maturity:
Other	$	4,570	$	0	$	0	$	4,570
State and municipal		3,907		0		0		3,907
Total held-to-maturity securities	$	8,477	$	0	$	0	$	8,477

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Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

At December 31, 2010	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
Available-for-Sale:
U.S. Government agencies	$	268,828	$	2,230	$	2,883	$	268,175
Obligations of states and political subdivisions		397,777		4,869		5,986		396,660
Agency residential mortgage-backed securities		1,321,771		19,671		17,873		1,323,569
Non-agency residential mortgage-backed securities		129,206		32		12,427		116,811
Commercial mortgage-backed securities		99,501		5,341		0		104,842
Other structured financial products		24,680		0		12,177		12,503
Other debt securities		41,842		88		930		41,000
Equity securities of the Federal Home Loan Bank		71,065		0		0		71,065
Equity securities of the Federal Reserve Bank		50,225		0		0		50,225
Other equity securities		24,689		251		847		24,093
Total available-for-sale securities	$	2,429,584	$	32,482	$	53,123	$	2,408,943
Held-to-Maturity:
Other	$	4,560	$	0	$	0	$	4,560
State and municipal		4,108		0		0		4,108
Total held-to-maturity securities	$	8,668	$	0	$	0	$	8,668

At September 30, 2011 and December 31, 2010, investment securities with carrying values of $1,799,101 and $1,561,964, respectively, were pledged to secure public funds and for other purposes as required by law.

The amortized cost and fair value of U.S. Government agencies, obligations of states and political subdivisions, synthetic collateralized debt obligations, other structured financial products, other debt securities, and residential and commercial mortgage-backed securities, at September 30, 2011, by contractual maturity, are shown below. Actual maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

	September 30, 2011
	Amortized Cost		Fair Value
Securities available for sale:
Within one year	$	29,910	$	30,523
After one year but within five years		242,547		245,806
After five years but within ten years		497,607		508,534
After ten years		1,732,501		1,758,884
Total securities available for sale	$	2,502,565	$	2,543,747
Securities held to maturity:
Within one year	$	0	$	0
After one year but within five years		0		0
After five years but within ten years		0		0
After ten years		8,477		8,477
Total securities held to maturity	$	8,477	$	8,477

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Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

Gross realized gains and gross realized losses on available-for-sale securities transactions are summarized below. These gains and losses were recognized using the specific identification method and were included in noninterest income.

	Available-for-sale Securities
	Three Months Ended September 30,						Nine Months Ended September 30,
	2011			2010			2011			2010
Gross gains	$	2,070		$	394		$	8,562		$	11,409
Gross losses		(417	)		(1	)		(3,978	)		(124	)
Other-than-temporary impairment		(215	)		(322	)		(3,060	)		(3,059	)
Net gain	$	1,438		$	71		$	1,524		$	8,226

The following table presents Susquehanna’s investments’ gross unrealized losses and the corresponding fair values by investment category and length of time that the securities have been in a continuous unrealized loss position, at September 30, 2011 and December 31, 2010.

		$0000000000		$0000000000		$0000000000		$0000000000		$0000000000		$0000000000
	Less than 12 Months				12 Months or More				Total
September 30, 2011	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
U.S. Government agencies	$	997	$	2	$	0	$	0	$	997	$	2
Obligations of states and political subdivisions		1,306		77		1,154		5		2,460		82
Agency residential mortgage-backed securities		65,235		209		0		0		65,235		209
Non-agency residential mortgage-backed securities		7,697		327		67,070		8,561		74,767		8,888
Other structured financial products		0		0		12,740		12,052		12,740		12,052
Other debt securities		1,645		144		34,729		3,506		36,374		3,650
Other equity securities		592		124		1,634		715		2,226		839
	$	77,472	$	883	$	117,327	$	24,839	$	194,799	$	25,722
	Less than 12 Months				12 Months or More				Total
December 31, 2010	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
U. S. Government agencies	$	114,618	$	2,883	$	0	$	0	$	114,618	$	2,883
Obligations of states and political subdivisions		147,732		5,483		6,215		503		153,947		5,986
Agency residential mortgage-backed securities		642,864		17,873		0		0		642,864		17,873
Non-agency residential mortgage-backed securities		5,664		124		109,272		12,303		114,936		12,427
Other structured financial products		0		0		12,503		12,177		12,503		12,177
Other debt securities		15,120		630		1,480		300		16,600		930
Other equity securities		666		210		2,103		637		2,769		847
	$	926,664	$	27,203	$	131,573	$	25,920	$	1,058,237	$	53,123

Non-agency residential mortgage-backed securities (At September 30, 2011, all of the 13 securities were in a loss position, and seven of the securities were rated below investment grade). None of Susquehanna’s non-agency residential mortgage-backed securities include subprime or Alt-A components. Management has analyzed the assets underlying these issues with respect to defaults, loan to collateral value ratios, current levels of subordination, and geographic concentrations and concluded that the unrealized losses were caused principally by decreased liquidity and larger risk premiums in the marketplace and not credit quality. However, Susquehanna’s analysis also concluded that four of these securities were other-than-temporarily impaired, and Susquehanna recorded other-than-temporary impairment losses as presented in the following table.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

Credit Losses on Non-agency Residential Mortgage-backed Securities for which a Portion of an

Other-than-temporary Impairment was Recognized in Other Comprehensive Income

	Three months ended September 30,				Nine months ended September 30,
	2011		2010		2011		2010
Balance - beginning of period	$	4,582	$	1,737	$	1,737	$	0
Additions:
Amount related to credit losses for which an other- than-temporary impairment was not previously recognized		215		0		2,791		1,737
Additional amount related to credit losses for which an other- than-temporary impairment was previously recognized		0		0		269		0
Balance - end of period	$	4,797	$	1,737	$	4,797	$	1,737

Susquehanna estimated the portion of loss attributable to credit using a discounted cash flow model. Susquehanna, in conjunction with an independent third-party, estimated the expected cash flows of the underlying collateral using internal credit risk, interest rate risk, and prepayment risk models that incorporated management’s best estimate of current key assumptions, such as default rates, loss severity, and prepayment rates. Assumptions used can vary widely from loan to loan and are influenced by such factors as loan interest rate, geographical location of the borrower, borrower characteristics, and collateral type. The distribution of underlying cash flows is determined in accordance with the security’s indenture. Expected principal and interest cash flows on an other-than-temporarily impaired debt security are discounted using the book yield of that debt security.

Based on the expected cash flows derived from the model, Susquehanna expects to recover the aggregate unrealized loss in accumulated other comprehensive income ($1,996 at September 30, 2011). Significant assumptions used in the valuation of these other-than-temporarily impaired securities were as follows:

As of September 30, 2011	Weighted-average (%)
Annual constant prepayment speed		8.44
Loss severity (1)		45.01
Life default rate, net of recoveries (2)		7.54

(1) Loss severity rates are projected considering collateral characteristics such as loan-to-value, creditworthiness of borrowers (FICO score) and geographic concentration.

(2) Default rates, net of expected recoveries, are projected by considering collateral characteristics including, but not limited to, loan-to-value, FICO score, and geographic concentration.

Other structured financial products. Other structured financial products are comprised of pooled trust preferred securities. All four of these securities are in unrealized loss positions and are rated below investment grade. Management has analyzed the assets underlying these securities with respect to interest deferrals and defaults, collateral coverage, and current levels of subordination and concluded that the unrealized losses were caused principally by decreased liquidity and larger risk premiums in the marketplace and not credit quality.

Susquehanna determines whether it expects to recover the entire amortized cost basis by comparing the present value of the expected cash flows to be collected with the amortized cost basis. To make this comparison, Susquehanna works with a third-party financial advisory firm to determine (a) the estimation of cash flows, (b) the application of the cash flows to the percent owned, and (c) the assessment of other-than-temporary impairment.

To determine expected cash flows, the valuation analysis considers credit default rates, prepayments and deferrals, waterfall structure, and covenants relating to the trust preferred securities. The third-party firm uses publicly available data to assess the creditworthiness of each underlying issue in the collateralized debt obligation and through its proprietary valuation methodology, projects the cash flows of the class. Assessments are made relative to the capital adequacy, earnings, asset quality, liquidity, and interest-rate sensitivity of the underlying issuer to determine default-risk. If the issuer is in default, a recovery rate of 10% is estimated with a lag for that recovery being twenty-four months. No recoveries are

13

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

forecasted for those issuers that have a current Texas ratio greater than 250%. For current performing issuers or those issuers deferring interest payments, determination is made based on the previously mentioned financial assessment as to if and when the issuer is forecasted to default. Future interest deferrals are only projected in the estimate of the projected cash flows for issuers who are currently deferring, and it is assumed that they will defer for the full twenty quarters if not projected to default.

When considering Susquehanna’s pooled trust preferred securities, management considers prepayment less relevant than call options (the option of the issuer to call the issue on certain dates). The projected exercising of the call options will change as economic and market conditions change, and management will adjust the valuation model accordingly. As of September 30, 2011, the exercising of call options was assumed to be remote.

In addition to the proprietary valuation methodology used in the estimation of the projected cash flows, the trust indenture documentation and the trustee reports for each specific trust preferred security issuance provide information regarding deferral rights, call options, various triggers (including over-collateralization triggers), and waterfall structure, all of which management believes to be essential in determining projected base cash flows.

The discount rate that is applied to the projected cash flows for the specific class is calculated using a spread to the current swap curve. The swap curve gives a market perspective of the term structure of interest rates and on credit spreads. The determination of the discount rate used in Susquehanna’s valuation is based upon the referenced swap curve plus an additional credit spread based upon the credit rating of the class. Lower rated classes would have a wider implied credit spread. These multiple discount rates are then applied to the projected cash flows in determining the estimated value.

Susquehanna’s management has assisted with the development of, and reviews and comments on the results of, this proprietary valuation methodology, and believes that the valuation analysis and methodology reasonably support the value and projected performance of the specific trust preferred securities. Susquehanna’s management also believes this valuation methodology presents a logical and analytical approach for the determination of other-than-temporary impairment charges in accordance with Accounting Standards Codification Topic 320-10-35.

The present value of the expected cash flows for Susquehanna’s specific class and all subordinate classes, as well as additional information about the pooled trust preferred securities, is included in the following table.

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Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

As of September 30, 2011	Pooled Trust #1			Pooled Trust #2			Pooled Trust #3			Pooled Trust #4
Class		B			B			B			A2L
Class face value	$	35,000		$	57,995		$	87,498		$	45,500
Book value	$	3,000		$	7,051		$	7,991		$	6,750
Fair value		1,742			3,637			4,076			3,285
Unrealized loss	$	(1,258	)	$	(3,414	)	$	(3,915	)	$	(3,465	)
Present value of expected cash flows for class noted above and all subordinate classes (1)	$	161,233		$	165,727		$	279,813		$	140,625
Lowest credit rating assigned		CCC-			Caa3			Ca			CCC-
Original collateral	$	623,984		$	501,470		$	700,535		$	487,680
Performing collateral		371,728			300,200			507,281			314,700
Actual defaults		3,000			42,580			93,500			71,500
Actual deferrals		97,400			129,690			98,900			83,480
Projected future defaults		68,392			79,609			56,912			52,151
Actual defaults as a % of original collateral		0.5	%		8.5	%		13.3	%		14.7	%
Actual deferrals as a % of original collateral (2)		15.6			25.9			14.1			17.1
Actual defaults and deferrals as a % of original collateral		16.1	%		34.4	%		27.4	%		31.8	%
Projected future defaults as a % of original collateral (3)		11.0	%		15.9	%		8.1	%		10.7	%
Actual institutions deferring and defaulted as a % of total institutions		16.4			37.5			31.1			38.6
Projected future defaults as a % of performing collateral plus deferrals		14.6			18.5			9.4			13.1

(1) Susquehanna determines whether it expects to recover the entire amortized cost basis by comparing the present value of the expected cash flows to be collected with the amortized cost basis, using documented assumptions. The present value of the expected cash flows for Susquehanna’s specific class and all subordinate classes is listed above. As of September 30, 2011, the present value of the current estimated cash flows was equal to or greater than the face amount of the specific class for all trust preferred securities, and consequently, there was no other-than-temporary impairment.

(2) Includes current interest deferrals for the quarter for those institutions deferring as of the date of the assessment of the other-than-temporary impairment. Current deferrals are assumed to continue for the full twenty quarters if the institutions are not projected to default prior to that time.

(3) Includes those institutions that are performing but are not projected to continue to perform and includes those institutions that are currently deferring interest that are projected to default, based upon third-party proprietary valuation methodology used to determine future defaults. Creditworthiness of each underlying issue in the collateralized debt obligation is determined using publicly available data.

Other debt securities. Other debt securities consist of single-issuer trust preferred securities. Eight of the 12 securities are in unrealized loss positions, and one security is rated below investment grade. Management has analyzed the assets underlying these securities with respect to interest deferrals and defaults, collateral coverage, and current levels of subordination and concluded that the unrealized losses were caused principally by decreased liquidity and larger risk premiums in the marketplace and not credit quality.

Susquehanna does not have the intent to sell any of its available-for-sale securities that are in an unrealized loss position, and it is more likely than not that Susquehanna will not be required to sell these securities before recovery of its amortized cost basis.

15

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

NOTE 4. Loans and Leases

Loans and Leases, Net of Unearned Income

		$0000000000000		$0000000000000
	September 30, 2011		December 31, 2010
Commercial, financial, and agricultural	$	1,810,664	$	1,816,519
Real estate - construction		771,734		877,223
Real estate secured - residential		2,728,934		2,666,692
Real estate secured - commercial		3,013,787		2,998,176
Consumer		698,804		603,084
Leases		678,746		671,503
Total loans and leases	$	9,702,669	$	9,633,197
Nonaccrual loans and leases	$	160,099	$	196,895
Loans and leases contractually past due 90 days and still accruing		13,034		20,588
Troubled debt restructurings		62,331		114,566

Net Investment in Direct Financing Leases

		$0000000000000			$0000000000000
	September 30, 2011			December 31, 2010
Minimum lease payments receivable	$	485,086		$	461,569
Estimated residual value of leases		263,608			276,911
Unearned income under lease contracts		(69,948	)		(66,977	)
Total leases	$	678,746		$	671,503

Allowance for Credit Losses and Recorded Investment in Financing Receivables

Three Months Ended September 30, 2011

	Commercial			Real Estate - Construction			Real Estate Secured - Residential			Real Estate Secured - Commercial			Consumer			Leases			Unallocated			Total
Allowance for credit losses:
Balance at July 1, 2011	$	29,358		$	44,432		$	29,990		$	72,554		$	2,755		$	10,091		$	112		$	189,292
Charge-offs		(6,445	)		(7,227	)		(5,476	)		(6,712	)		(483	)		(1,084	)					(27,427	)
Recoveries		1,123			738			214			1,100			582			338						4,095
Provision		4,557			3,015			4,991			11,072			634			774			(43	)		25,000
Balance at September 30, 2011	$	28,593		$	40,958		$	29,719		$	78,014		$	3,488		$	10,119		$	69		$	190,960

16

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

Nine Months Ended September 30, 2011

	Commercial			Real Estate - Construction			Real Estate Secured - Residential			Real Estate Secured - Commercial			Consumer			Leases			Unallocated		Total
Allowance for credit losses:
Balance at January 1, 2011	$	31,608		$	50,250		$	28,320		$	70,137		$	2,841		$	8,643		$	35	$	191,834
Charge-offs		(21,386	)		(27,189	)		(15,604	)		(33,446	)		(3,175	)		(4,224	)				(105,024	)
Recoveries		3,226			6,194			1,497			2,925			1,128			1,180					16,150
Provision		15,145			11,703			15,506			38,398			2,694			4,520			34		88,000
Balance at September 30, 2011	$	28,593		$	40,958		$	29,719		$	78,014		$	3,488		$	10,119		$	69	$	190,960
Balance at September 30, 2011:
Individually evaluated for impairment	$	3,064		$	1,478		$	2,550		$	10,368		$	148		$	0				$	17,608
Collectively evaluated for impairment	$	25,528		$	39,481		$	27,169		$	67,646		$	3,340		$	10,119		$	69	$	173,352
Financing receivables:
Balance at September 30, 2011	$	1,810,664		$	771,734		$	2,728,934		$	3,013,787		$	698,804		$	678,746				$	9,702,669
Balance at September 30, 2011:
Individually evaluated for impairment	$	18,041		$	37,296		$	27,836		$	86,330		$	148		$	0				$	169,651
Collectively evaluated for impairment	$	1,792,623		$	734,438		$	2,701,098		$	2,927,457		$	698,656		$	678,746				$	9,533,018

17

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

Credit Quality Indicators at September 30, 2011

Commercial Credit Exposure

Credit-risk Profile by Internally Assigned Grade

	Commercial		Real Estate - Construction (1)		Real Estate - Secured - Commercial (2)		Total Commercial Credit Exposure
Grade:
Pass (3)	$	1,696,175	$	540,132	$	3,183,504	$	5,419,811
Special mention (4)		45,237		72,082		156,283		273,602
Substandard (5)		69,253		85,074		248,967		403,294
Total	$	1,810,665	$	697,288	$	3,588,754	$	6,096,707
Other Credit Exposure
Credit-risk Profile based on Payment Activity
	Real Estate - Secured - Residential		Consumer		Leases		Total Other Credit Exposure
Performing	$	2,194,280	$	697,104	$	676,496	$	3,567,880
Nonperforming (6)		34,133		1,701		2,248		38,082
Total	$	2,228,413	$	698,805	$	678,744	$	3,605,962

Credit Quality Indicators at December 31, 2010

Commercial Credit Exposure

Credit-risk Profile by Internally Assigned Grade

	Commercial		Real Estate - Construction (1)		Real Estate - Secured - Commercial (2)		Total Commercial Credit Exposure
Grade:
Pass (3)	$	1,677,506	$	612,330	$	3,134,762	$	5,424,598
Special mention (4)		59,988		64,283		201,833		326,104
Substandard (5)		79,025		125,672		280,287		484,984
Total	$	1,816,519	$	802,285	$	3,616,882	$	6,235,686
Other Credit Exposure
Credit-risk Profile based on Payment Activity
	Real Estate - Secured - Residential		Consumer		Leases		Total Other Credit Exposure
Performing	$	2,085,067	$	600,627	$	667,936	$	3,353,630
Nonperforming (6)		37,857		2,457		3,567		43,881
Total	$	2,122,924	$	603,084	$	671,503	$	3,397,511

(1) Includes only construction loans granted to commercial customers. Construction loans for individuals are included in Real Estate – Secured – Residential, below.

(2) Includes loans obtained for commercial purposes that are also secured by residential real estate.

(3) Includes loans of acceptable risk. Possibility of loss is considered unlikely.

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Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

(4) Includes loans considered potentially weak; however, no loss of principal or interest is anticipated.

(5) Includes loans that are inadequately protected by the current net-worth and paying capacity of the borrower or by the collateral pledged, if any. Loss of principal or interest is considered reasonably possible or likely.

(6) Includes loans that are on non-accrual status or past due 90 days or more.

Age Analysis of Past Due Financing Receivables as of September 30, 2011

Financing Receivables that are Accruing

		$00000000		$00000000		$00000000		$00000000		$00000000		$00000000
	30-59 Days Past Due		60-89 Days Past Due		Greater than 90 Days		Total Past Due		Current		Total Financing Receivables
Commercial	$	5,784	$	5,775	$	1,090	$	12,649	$	1,783,594	$	1,796,243
Real estate - construction		113		0		900		1,013		733,234		734,247
Real estate secured - residential		7,664		5,867		7,577		21,108		2,666,588		2,687,696
Real estate secured - commercial		4,118		913		1,093		6,124		2,942,286		2,948,410
Consumer		4,748		1,307		1,701		7,756		691,048		698,804
Leases		2,102		1,106		673		3,882		673,288		677,170
Total	$	24,529	$	14,968	$	13,034	$	52,532	$	9,490,038	$	9,542,570

Financing Receivables that are Nonaccruing

		$00000000		$00000000		$00000000		$00000000		$00000000		$00000000
	30-59 Days Past  Due		60-89 Days Past  Due		Greater than 90 Days		Total Past  Due		Current		Total Financing Receivables
Commercial	$	374	$	1,106	$	7,081	$	8,561	$	5,860	$	14,421
Real estate - construction		0		0		36,994		36,994		493		37,487
Real estate secured - residential		684		580		27,472		28,737		12,501		41,238
Real estate secured - commercial		3,889		410		39,839		44,137		21,240		65,377
Leases		0		102		501		604		972		1,576
Total	$	4,947	$	2,198	$	111,887	$	119,033	$	41,066	$	160,099

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Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

Age Analysis of Past Due Financing Receivables as of December 31, 2010

Financing Receivables that are Accruing

		$000000000		$000000000		$000000000		$000000000		$000000000		$000000000
	30-59 Days Past Due		60-89 Days Past Due		Greater than 90 Days		Total Past Due		Current		Total Financing Receivables
Commercial	$	12,808	$	5,190	$	947	$	18,945	$	1,777,563	$	1,796,507
Real estate - construction		2,466		2,845		751		6,062		813,382		819,444
Real estate secured - residential		18,466		6,923		12,724		38,113		2,577,605		2,615,719
Real estate secured - commercial		12,324		8,384		2,961		23,669		2,909,195		2,932,863
Consumer		6,385		828		2,455		9,668		593,415		603,083
Leases		5,274		3,126		750		9,150		659,536		668,686
Total	$	57,723	$	27,296	$	20,588	$	105,607	$	9,330,696	$	9,436,302

Financing Receivables that are Nonaccruing

		$000000000		$000000000		$000000000		$000000000		$000000000		$000000000
	30-59 Days Past Due		60-89 Days Past Due		Greater than 90 Days		Total Past Due		Current		Total Financing Receivables
Commercial	$	1,392	$	365	$	14,227	$	15,983	$	4,029	$	20,012
Real estate - construction		2,418		2,513		45,417		50,348		7,431		57,779
Real estate secured - residential		2,196		615		36,479		39,290		11,683		50,973
Real estate secured - commercial		8,812		4,666		38,947		52,425		12,888		65,313
Consumer		0		0		0		0		1		1
Leases		0		178		1,461		1,639		1,178		2,817
Total	$	14,818	$	8,337	$	136,531	$	159,685	$	37,210	$	196,895

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Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

Impaired Loans at September 30, 2011

	Unpaid Principal Balance			Related Allowance		Average Unpaid Principal Balance		Interest Income Recognized
Impaired loans without a related reserve:
Commercial, financial, and agricultural	$	10,885				$	12,592	$	239
Real estate - construction		24,699					29,589		187
Real estate secured - residential		16,294					15,771		444
Real estate secured - commercial		37,993					43,324		794
Consumer		0					49		4
Total impaired loans without a related reserve		89,871	(1)				101,325		1,668
Impaired loans with a related reserve:
Commercial, financial, and agricultural		7,156		$	3,064		9,787		206
Real estate - construction		12,597			1,478		23,254		150
Real estate secured - residential		11,541			2,550		15,555		351
Real estate secured - commercial		48,338			10,368		59,747		1,341
Consumer		148			148		49		2
Total impaired loans with a related reserve		79,780	(2)		17,608		108,392		2,050
Total impaired loans:
Commercial, financial, and agricultural		18,041			3,064		22,379		445
Real estate - construction		37,296			1,478		52,843		337
Real estate secured - residential		27,835			2,550		31,326		795
Real estate secured - commercial		86,331			10,368		103,071		2,135
Consumer		148			148		98		6
Total impaired loans	$	169,651		$	17,608	$	209,717	$	3,718

(1) $51,792 of the $89,871 total impaired loans without a related reserve represents loans which had been written down to the fair value of the collateral through direct charge-offs of $56,177.

(2) Charge-offs related to these loans totaled $23,941.

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Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

Impaired Loans at December 31, 2010

	Unpaid Principal Balance			Related Allowance		Average Unpaid Principal Balance		Interest Income Recognized
Impaired loans without a related reserve:
Commercial, financial, and agricultural	$	10,071				$	24,816	$	907
Real estate - construction		31,827					43,857		652
Real estate secured - residential		10,624					10,703		594
Real estate secured - commercial		59,953					50,434		1,591
Consumer		264					100		3
Total impaired loans without a related reserve		112,739	(1)				129,910		3,747
Impaired loans with a related reserve:
Commercial, financial, and agricultural		15,497		$	6,343		20,078		406
Real estate - construction		31,483			6,986		39,053		307
Real estate secured - residential		16,331			3,273		13,245		470
Real estate secured - commercial		70,606			13,627		60,766		1,747
Consumer		198			68		222		13
Total impaired loans with a related reserve		134,115	(2)		30,297		133,364		2,943
Total impaired loans:
Commercial, financial, and agricultural		25,568			6,343		44,894		1,313
Real estate - construction		63,310			6,986		82,910		959
Real estate secured - residential		26,955			3,273		23,948		1,064
Real estate secured - commercial		130,559			13,627		111,200		3,338
Consumer		462			68		322		16
Total impaired loans	$	246,854		$	30,297	$	263,274	$	6,690

(1) $67,496 of the $112,739 total impaired loans without a related reserve represents loans which had been written down to the fair value of the collateral through direct charge-offs of $65,617.

(2) Charge-offs related to these loans totaled $39,962.

Financing Receivables on Nonaccrual Status

	September 30, 2011		December 31, 2010
Commercial, financial, and agricultural	$	14,421	$	20,012
Real estate - construction		37,487		57,779
Real estate secured - residential		41,238		50,973
Real estate secured - commercial		65,377		65,313
Consumer		0		1
Leases		1,576		2,817
Total nonaccrual financing receivables	$	160,099	$	196,895

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Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

Modifications For the Nine Months Ended September 30, 2011

		$000000000		$000000000		$000000000
	Number of Loans		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment
Troubled Debt Restructurings
Commercial, financial, and agricultural		1	$	500	$	469
Real estate secured - residential		32		6,417		6,276
Real estate secured - commercial		5		5,755		5,703
Consumer		2		148		148
	Number of Loans		Recorded Investment
Troubled Debt Restructurings that
Subsequently Defaulted
Commercial, financial, and agricultural		2	$	2,462
Real estate - construction		2		354
Real estate secured - residential		1		118
Real estate secured - commercial		6		17,051
Consumer		1		484

NOTE 5. Goodwill

Susquehanna assesses goodwill for impairment on an annual basis, or more often if events or circumstances indicate that there may be an impairment. This assessment, which requires significant judgment and analysis, involves discounted cash flows and market-price multiples of non-distressed financial institutions.

Susquehanna performed its annual goodwill impairment assessments in the second quarter of 2011 and determined that the fair value of each of its reporting units exceeded its book value, and that there was no goodwill impairment. However, taking into consideration the new qualitative indicators for testing goodwill for impairment (as put forth in the revised standard issued by FASB in September 2011) and current market conditions, Susquehanna decided that it would be prudent to perform an interim assessment of its bank reporting unit’s goodwill at September 30, 2011.

Bank Reporting Unit

Goodwill assigned to the bank reporting unit at both September 30, 2011 and May 31, 2011 was $915,421. Fair value of the bank reporting unit was determined utilizing the market multiples approach, which measures the value of the reporting unit using information pertaining to recent non-distressed sales of financial institutions in Susquehanna’s market. Susquehanna considered two key ratios to measure goodwill of the bank reporting unit for impairment: price to book and price to tangible book. In keeping with the investment community’s current valuations of financial institutions, Susquehanna gave no consideration to the price to earnings ratio. The following table shows the ratios used at September 30, 2011 and May 31, 2011.

	Interim		Annual
Ratio	September 30, 2011		May 31, 2011
Price to book		1.36X		1.36X
Price to tangible book		1.60X		1.60X

Fair value of the bank reporting unit exceeded carrying value by 13.8% at September 30, 2011 and by 13.0% at May 31, 2011.

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Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

Wealth Management Reporting Unit

Goodwill assigned to the wealth management reporting unit at both May 31, 2011 and 2010 was $82,746. Fair value of the wealth management reporting unit was determined utilizing the “market multiples” approach and the “income” approach. The income approach measures the value of the reporting unit based on a discount rate to determine the present value of the reporting unit’s future economic benefit over ten years, assuming a weighted increase in the reporting unit’s revenues and a weighted increase in the reporting unit’s expenses. In keeping with the investment community’s current valuations of wealth management institutions, Susquehanna predominantly uses the income approach. The following table shows the factors used in the income approach at May 31, 2011 and 2010.

	Annual			Annual
Factor	May 31, 2011			May 31, 2010
Discount rate		17.5	%		17.5	%
Weighted-average increase in revenues		6.0	%		6.0	%
Weighted-average increase in expenses		5.0	%		5.0	%

Fair value of the wealth management reporting unit exceeded carrying value by 59.7% at May 31, 2011 and by 53.6% at May 31, 2010.

Property and Casualty Insurance Reporting Unit

Goodwill assigned to the property and casualty insurance reporting unit at both May 31, 2011 and 2010 was $17,177. Fair value of the property and casualty insurance reporting unit was determined utilizing the market multiples approach, which measures the value of the reporting unit using recent sales of property and casualty insurance companies in Susquehanna’s market. Susquehanna uses two key ratios to measure goodwill of the property and casualty insurance reporting unit for impairment: average price to book and median price to earnings. The following table shows the ratios used at May 31, 2011 and 2010.

	Annual		Annual
Ratio	May 31, 2011		May 31, 2010
Average price to book		1.23X		1.06X
Median price to earnings		13.8X		8.5X

Fair value of the property and casualty insurance reporting unit exceeded carrying value by 48.4% at May 31, 2011 and by 33.9% at May 31, 2010.

NOTE 6. Borrowings

Other short-term borrowings

	September 30, 2011		December 31, 2010
Securities sold under repurchase agreements	$	294,845	$	306,423
Federal funds purchased		250,000		458,000
Treasury tax and loan notes		6,400		6,200
Total other short-term borrowings	$	551,245	$	770,623

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Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

NOTE 7. Earnings per Share (“EPS”)

The following tables set forth the calculation of basic and diluted EPS for the three-month and nine-month periods ended September 30, 2011 and 2010.

Basic earnings per common share

	Three Months Ended September 30,				Nine Months Ended September 30,
	2011		2010		2011		2010
Net income available to common shareholders	$	14,960	$	4,584	$	35,776	$	6,536
Average common shares outstanding		129,837		129,687		129,775		118,103
Basic earnings per common share	$	0.12	$	0.04	$	0.28	$	0.06

Diluted earnings per common share

	Three Months Ended September 30,				Nine Months Ended September 30,
	2011		2010		2011		2010
Net income available to common shareholders	$	14,960	$	4,584	$	35,776	$	6,536
Average common shares outstanding		129,837		129,687		129,775		118,103
Dilutive potential common shares		58		31		71		32
Total diluted average common shares outstanding		129,895		129,718		129,846		118,135
Diluted earnings per common share	$	0.12	$	0.04	$	0.28	$	0.06

For the three months ended September 30, 2011 and 2010, average options to purchase 2,400 shares and 2,301 shares, respectively, were outstanding but were not included in the computation of diluted EPS because the options’ common stock equivalents were antidilutive. For the three months ended September 30, 2011 and 2010, warrants to purchase 0 shares and 3,028 shares of common stock, respectively, were outstanding but were not included in the computation of diluted EPS because the warrants’ common stock equivalents were antidilutive.

For the nine months ended September 30, 2011 and 2010, average options to purchase 2,400 shares and 2,075 shares, respectively, were outstanding but were not included in the computation of diluted EPS because the options’ common stock equivalents were antidilutive. For the nine months ended September 30, 2011 and 2010, warrants to purchase 0 shares and 3,028 shares of common stock, respectively, were outstanding but were not included in the computation of diluted EPS because the warrants’ common stock equivalents were antidilutive.

NOTE 8. Pension and Other Postretirement Benefits

Components of Net Periodic Benefit Cost

	Three Months Ended September 30,
	Pension Benefits						Supplemental  Executive Retirement Plan				Other Postretirement Benefits
	2011			2010			2011		2010		2011		2010
Service cost	$	863		$	640		$	18	$	18	$	194	$	137
Interest cost		1,771			1,613			77		67		185		186
Expected return on plan assets		(2,072	)		(2,445	)		0		0		0		0
Amortization of prior service cost		6			6			29		30		16		16
Amortization of transition obligation (asset)		0			0			0		0		28		28
Amortization of net actuarial loss		58			757			26		18		0		0
Net periodic benefit cost	$	626		$	571		$	150	$	133	$	423	$	367

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Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

	Nine Months Ended September 30,
	Pension Benefits						Supplemental Executive Retirement Plan				Other Postretirement Benefits
	2011			2010			2011		2010		2011		2010
Service cost	$	3,359		$	3,442		$	80	$	84	$	582	$	519
Interest cost		5,159			4,791			219		213		555		572
Expected return on plan assets		(7,198	)		(7,319	)		0		0		0		0
Amortization of prior service cost		18			18			87		88		48		48
Amortization of transition obligation (asset)		0			0			0		0		84		84
Amortization of net actuarial loss		2,098			1,947			98		68		0		0
Net periodic benefit cost	$	3,436		$	2,879		$	484	$	453	$	1,269	$	1,223

Employer Contributions

Susquehanna previously disclosed in its financial statements for the year ended December 31, 2010, that it expected to contribute $191 to its pension plans and $690 to its other postretirement benefit plan in 2011. As of September 30, 2011, $143 of contributions have been made to its pension plans, and $518 of contributions have been made to its other postretirement benefit plan. Susquehanna anticipates contributing an additional $48 to fund its pension plans in 2011, for a total of $191, and an additional $172 to its other postretirement benefit plan, for a total of $690.

NOTE 9. Derivative Financial Instruments

Risk Management Objective of Using Derivatives

Susquehanna is exposed to certain risks arising from both its business operations and economic conditions, and principally manages its exposures through management of its core business activities. Susquehanna manages economic risks, including interest rate, liquidity, and credit risk, primarily by managing the amount, sources, and duration of its assets and liabilities and through the use of derivative financial instruments. Specifically, Susquehanna enters into derivative financial instruments to manage exposures that arise from business activities that result in the receipt or payment of future known and uncertain cash amounts, the value of which are determined by interest rates. Susquehanna’s derivative financial instruments are used to manage differences in the amount, timing, and duration of its known or expected cash payments principally related to certain variable-rate liabilities. Susquehanna also has derivatives that are a result of a service it provides to certain qualifying customers, and therefore, are not used to manage interest-rate risk in its assets or liabilities. Susquehanna manages a matched book with respect to its derivative instruments offered as a part of this service to its customers in order to minimize its net exposure resulting from such transactions. All derivatives are recorded at fair value.

Cash Flow Hedges of Interest Rate Risk

Susquehanna’s objectives in using interest rate derivatives are to add stability to interest income and expense and to manage its exposure to interest rate movements. To accomplish this objective, Susquehanna primarily uses interest rate swaps as part of its interest rate risk management strategy. For hedges of its variable-rate borrowings, Susquehanna uses interest rate swaps designated as cash flow hedges that involve the receipt of variable amounts from a counterparty in exchange for fixed-rate payments from Susquehanna. As of September 30, 2011, Susquehanna had 8 interest rate swaps with an aggregate notional amount of $715,104 that were designated as cash flow hedges of interest-rate risk. One of these interest rate swaps, with a notional amount of $40,104 and a fair value of $40, relates to a consolidated variable interest entity.

The effective portion of changes in the fair value of derivatives designated and qualifying as cash flow hedges is recorded in accumulated other comprehensive income and is subsequently reclassified into earnings in the period that the hedged transaction affects earnings. During the first nine months of 2011, such derivatives were used to hedge the variable cash outflows associated with Federal Home Loan Bank borrowings, federal funds borrowings, and long-term debt. The ineffective portion of the change in fair value of the derivatives is recognized directly in earnings.

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Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

Amounts recorded in accumulated other comprehensive income related to derivatives will be reclassified to interest expense as interest payments are made on Susquehanna’s variable-rate liabilities. During the next 12 months, Susquehanna estimates that $17,390 will be reclassified as an increase to interest expense.

Non-designated Derivatives

Derivatives not designated as hedges are used to manage Susquehanna’s exposure to interest rate movements and other identified risks but do not meet the strict requirements of hedge accounting. Changes in the fair value of derivatives not designated in hedging relationships are recognized directly in earnings.

Susquehanna has interest rate derivatives, including interest rate swaps and option products, resulting from a service it provides to certain customers with high-quality credit ratings. Susquehanna executes interest rate derivatives with commercial banking customers to facilitate their respective risk management strategies. The credit risk associated with derivatives executed with these customers is essentially the same as that involved in extending loans and is subject to our normal credit policies. Susquehanna obtains collateral based upon its assessment of the customers’ credit quality. Those derivatives are simultaneously hedged by offsetting derivatives that Susquehanna executes with a third party to minimize Susquehanna’s net risk exposure resulting from those transactions. At September 30, 2011, Susquehanna had 92 derivative transactions related to this program with an aggregate notional amount of $597,294. For the first nine months of 2011, Susquehanna recognized a net gain of $122 related to changes in fair value of the derivatives in this program. For the first nine months of 2010, Susquehanna recognized a net gain of $71 related to changes in fair value of the derivatives in this program.

Credit-risk-related Contingent Features

Susquehanna has agreements with certain of its derivative counterparties that contain the following provisions:

• if Susquehanna defaults on any of its indebtedness, including default where repayment of the indebtedness has not been accelerated by the lender, then Susquehanna could also be declared in default on its derivative obligations;

• if Susquehanna fails to maintain its status as a well/adequately capitalized institution, then the counterparty could terminate the derivative positions, and Susquehanna would be required to settle its obligations under the agreements;

• if Susquehanna fails to maintain a specified minimum leverage ratio, then Susquehanna could be declared in default on its derivative obligations;

• if a specified event or condition occurs that materially changes Susquehanna’s creditworthiness in an adverse manner, it may be required to fully collateralize its obligations under the derivative instrument; and

• if Susquehanna’s credit rating is reduced below investment grade, then a termination event shall be deemed to have occurred and the non-affected counterparty shall have the right, but not the obligation, to terminate all transactions under the agreement.

At September 30, 2011, the fair value of derivatives in a net liability position, which includes accrued interest and any credit valuation adjustments related to these agreements, was $57,182. At September 30, 2011, Susquehanna had minimum collateral posting thresholds with certain of its derivative counterparties and had posted cash collateral of $68,190. If Susquehanna had breached any of the above provisions at September 30, 2011, it would have been required to settle its obligations under the agreements at termination value and would have been required to pay any additional amounts due in excess of amounts previously posted as collateral with the respective counterparty.

27

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

Fair Values of Derivative Instruments

	September 30, 2011
	Asset Derivatives				Liability Derivatives
	Balance Sheet Location		Fair Value		Balance Sheet Location		Fair Value
Derivatives designated as hedging instruments
Interest rate contracts		Other assets	$	40		Other liabilities	$	53,802
Derivatives not designated or qualifying as hedging instruments
Interest rate contracts		Other assets		23,708		Other liabilities		22,283
Total derivatives			$	23,748			$	76,085
	December 31, 2010
	Asset Derivatives				Liability Derivatives
	Balance Sheet Location		Fair Value		Balance Sheet Location		Fair Value
Derivatives designated as hedging instruments
Interest rate contracts		Other assets	$	181		Other liabilities	$	31,793
Derivatives not designated or qualifying as hedging instruments
Interest rate contracts		Other assets		17,167		Other liabilities		16,767
Total derivatives			$	17,348			$	48,560

The Effect of Derivative Instruments on the Statement of Income

Three months ended September 30, 2011

Derivatives in cash flow hedging relationships	Amount of  Loss Recognized in OCI			Location of Loss Reclassified from Accumulated OCI into Income			Amount of Loss Reclassified from Accumulated OCI into Income			Location of Gain Recognized in Income (Ineffective Portion)		Amount of Gain Recognized in Income (Ineffective Portion)
Interest rate contracts:	$	(10,510	)		Interest expense		$	(4,687	)		Other expense	$	291
Derivatives not designated or qualifying as hedging instruments	Location of Loss Recognized in Income on Derivatives			Amount of  Loss Recognized in Income on Derivatives
Interest rate contracts:		Other income		$	(362	)
		Other expense			(36	)

28

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

Three months ended September 30, 2010

Derivatives in cash flow hedging relationships	Amount of  Loss Recognized in OCI			Location of  Loss Reclassified from Accumulated  OCI into Income			Amount of  Loss Reclassified from Accumulated  OCI into Income			Location of Gain Recognized in Income (Ineffective Portion)		Amount of Gain Recognized in Income (Ineffective Portion)
Interest rate contracts:	$	(11,368	)		Interest expense		$	(2,295	)		Other expense	$	48
Derivatives not designated or qualifying as hedging instruments	Location of Loss Recognized in Income on Derivatives			Amount of Loss Recognized in Income on Derivatives
Interest rate contracts:		Other income		$	(91	)

Nine months ended September 30, 2011

Derivatives in cash flow hedging relationships	Amount of  Loss Recognized in OCI			Location of  Loss Reclassified from Accumulated  OCI into Income			Amount of  Loss Reclassified from Accumulated  OCI into Income			Location of Gain Recognized in Income (Ineffective Portion)		Amount of Gain Recognized in Income (Ineffective Portion)
Interest rate contracts:	$	(15,286	)		Interest expense		$	(12,312	)		Other expense	$	509
Derivatives not designated or qualifying as hedging instruments	Location of Gain (Loss)  Recognized in Income on Derivatives			Amount of Gain (Loss) Recognized in Income on Derivatives
Interest rate contracts:		Other income		$	152
		Other expense			(159	)

Nine months ended September 30, 2010

Derivatives in cash flow hedging relationships	Amount of  Loss Recognized in OCI			Location of  Loss Reclassified from Accumulated  OCI into Income			Amount of  Loss Reclassified from Accumulated  OCI into Income			Location of Loss Recognized in Income (Ineffective Portion)		Amount of Loss Recognized in Income (Ineffective Portion)
Interest rate contracts:	$	(34,756	)		Interest expense		$	(4,761	)		Other expense	$	(413	)
Derivatives not designated or qualifying as hedging instruments	Location of Loss Recognized in Income on Derivatives			Amount of Loss Recognized in Income on Derivatives
Interest rate contracts:		Other income		$	(19	)

29

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

NOTE 10. Securitizations and Variable Interest Entities (“VIEs”)

In 2005 and 2006, Susquehanna entered into term securitization transactions in which it sold portfolios of home equity loans to securitization trusts. Both of the securitization trusts are, by definition, variable interest entities. Susquehanna performed an analysis to determine whether it has a controlling financial interest in these entities, and thus, as the primary beneficiary, would be required to consolidate the entities. An enterprise is deemed to have a controlling financial interest in a VIE if it has both of the following characteristics: (a) the power to direct the activities of a VIE that most significantly impact the entity’s economic performance, and (b) the obligation to absorb losses of the entity that could potentially be significant to the VIE or the right to receive benefits from the entity that could potentially be significant to the VIE. Susquehanna retained servicing responsibilities and interests in the VIEs. Susquehanna receives servicing fees and rights to cash flows remaining after the investors have received the return for which they contracted. Susquehanna, as servicer, has the ability to manage the entities’ assets that become delinquent to improve the economic performance of the entities. Therefore, Susquehanna meets the “power criterion.” In addition, through its ownership of the entities’ equity certificates, Susquehanna has the right to receive potentially significant benefits. Therefore, Susquehanna meets the “losses/benefits criterion.” Since Susquehanna meets both criteria, it is the primary beneficiary of the VIEs and is required to consolidate them. Upon consolidation, Susquehanna removed retained interests of $23,705 and recorded interest-bearing deposits of $7,537, aggregate loans balances of $248,333, and long term-debt of $239,936 on January 1, 2010. In addition, Susquehanna recognized a cumulative-effect adjustment that reduced retained earnings by $5,805 and an adjustment that reduced accumulated other comprehensive income by $6,922. Susquehanna entered into these securitization transactions primarily to achieve low-cost funding for the growth of its loan and lease portfolios and to manage capital. The investors and the VIEs have no recourse to Susquehanna’s general credit for failure of debtors to pay when due.

2006 Transaction

In September 2006, Susquehanna securitized $349,403 of fixed-rate home mortgage loans and variable-rate line of credit loans. Susquehanna retained the right to service the loans and recorded a servicing asset of $2,334.

In this securitization, approximately 70.5% of the variable-rate loans as of the cut-off date included a feature that permits the obligor to convert all or a portion of the loan from a variable interest rate to a fixed interest rate. If the total principal balance of the converted loans is greater than 10% of the total outstanding balance of the portfolio, Susquehanna is required to purchase the converted loans in excess of the 10% threshold until the total principal balance of the loans purchased by Susquehanna is equal to 10% of the original principal balance of the loans. Based upon Susquehanna’s experience with this product, Susquehanna has concluded that the event requiring the purchase of converted loans of the VIE would be remote. The maximum dollar amount of this purchase obligation at the cut-off date was $11,140, and its related fair value was considered to be de minimis.

2005 Transaction

In December 2005, Susquehanna securitized $239,766 of home equity line of credit loans. Susquehanna retained the right to service the loans and recorded a servicing asset of $1,289.

In this securitization, approximately 35.4% of the loans as of the cut-off date included a feature that permits the obligor to convert all or a portion of the loan from a variable interest rate to a fixed interest rate. If the total principal balance of the converted loans is greater than 10% of the total outstanding balance of the portfolio, Susquehanna is required to purchase the converted loans in excess of the 10% threshold until the total principal balance of the loans purchased by Susquehanna is equal to 10% of the original principal balance of the loans. Based upon Susquehanna’s experience with this product, Susquehanna has concluded that the event requiring the purchase of converted loans of the VIE would be remote. The maximum dollar amount of this purchase obligation at the cut-off date was $23,980, and its related fair value was considered to be de minimis.

The following table presents quantitative information about delinquencies, net credit losses, and components of loan and lease sales serviced by Susquehanna, including securitization transactions.

30

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

									For the Nine Months Ended September 30,
	Principal Balance				Risk Assets (1)				Net Credit Losses (Recoveries)
	Sept 30, 2011		December 31, 2010		Sept 30, 2011		December 31, 2010		2011		2010
Loans and leases held in portfolio	$	9,503,538	$	9,417,801	$	202,696	$	235,972	$	88,874	$	109,253
Home equity loans held by VIEs		199,131		215,396		4,399		5,511		653		636
Leases serviced for others		25		2,548		9		11		4		(3	)
Total loans and leases serviced	$	9,702,694	$	9,635,745	$	207,104	$	241,494	$	89,531	$	109,886

(1) Includes nonaccrual loans and leases, foreclosed real estate, and loans and leases past due 90 days and still accruing.

Certain cash flows received from or conveyed to the VIEs associated with the securitizations are as follows:

Home Equity Loans	Three Months Ended September 30,				Nine Months Ended September 30,
	2011		2010		2011		2010
Additional draws conveyed	$	7,712	$	8,057	$	22,814	$	25,570
Servicing fees received		225		250		684		765
Other cash flows received		811		2,117		3,293		4,751

NOTE 11. Fair Value Disclosures

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement dates. Observable inputs reflect the assumptions market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the reporting entity. Unobservable inputs reflect the reporting entity’s own assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities that the entity has the ability to access at the measurement date. Level 2 inputs are inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. Level 3 inputs are unobservable inputs for the asset or liability. The level in the hierarchy within which the fair value measurement in its entirety falls shall be determined based on the lowest level input that is significant to the fair value measurement in its entirety.

At September 30, 2011, Susquehanna had made no elections to use fair value as an alternative measurement for selected financial assets and financial liabilities not previously carried at fair value.

The following is a description of Susquehanna’s valuation methodologies for assets and liabilities carried at fair value. These methods may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values. Furthermore, while Susquehanna believes that its valuation methods are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date.

Securities

Where quoted prices are available in an active market, securities are classified in Level 1 of the valuation hierarchy. Securities in Level 1 are exchange-traded equities. If quoted market prices are not available for the specific security, then fair values are provided by independent third-party valuations services. These valuations services estimate fair values using pricing models and other accepted valuation methodologies, such as quotes for similar securities and observable yield curves and spreads. As part of Susquehanna’s overall valuation process, management evaluates these third-party methodologies to ensure that they are representative of exit prices in Susquehanna’s principal markets. Securities in Level 2 include U.S. Government agencies, mortgage-backed securities, state and municipal securities, Federal Home Loan Bank stock, and Federal Reserve Bank stock. Securities in Level 3 include thinly traded bank stocks, collateralized debt obligations, certain trust preferred securities, and indexed-amortizing notes.

31

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

Derivatives

Currently, Susquehanna uses interest rate swaps to manage its interest rate risk and to assist its borrowers in managing their interest rate risk. The fair values of interest rate swaps are determined using the market standard methodology of netting the discounted future fixed cash receipts (or payments) and the discounted expected variable cash payments (or receipts). The variable cash payments (or receipts) are based on an expectation of future interest rates derived from observable market interest rate curves. Susquehanna incorporates credit valuation adjustments to appropriately reflect both its own nonperformance risk and the respective counterparty’s nonperformance risk in the fair value measurements. In adjusting the fair value of its derivative contracts for the effect of nonperformance risk, Susquehanna has considered the impact of netting and any applicable credit enhancements, such as collateral postings, thresholds, mutual puts, and guarantees.

Although Susquehanna has determined that the majority of the inputs used to value its derivatives fall within Level 2 of the fair value hierarchy, the credit valuation adjustments associated with its derivatives may utilize Level 3 inputs, such as estimates of current credit spreads to evaluate the likelihood of default by itself and its counterparties. However, as of September 30, 2011, Susquehanna has assessed the significance of the impact of the credit valuation adjustments on the overall valuation of its derivative positions and has determined that the credit valuation adjustments are not significant to the overall valuation of its derivatives. As a result, Susquehanna has determined that its derivative valuations in their entirety are classified in Level 2 of the fair value hierarchy.

Assets and Liabilities Measured at Fair Value on a Recurring Basis

The following tables present the financial instruments carried at fair value at September 30, 2011 and December 31, 2010, on the consolidated balance sheets and by levels within the valuation hierarchy.

			Fair Value Measurements at Reporting Date Using
Description	September 30, 2011		Quoted Prices in Active  Markets for Identical Instruments (Level 1)		Significant Other Observable  Inputs (Level 2)		Significant Unobservable  Inputs (Level 3)
Assets
Available-for-sale securities:
U.S. Government Agencies	$	235,757	$	0	$	235,757	$	0
Obligations of states and political subdivisions		412,934				412,934
Agency residential mortgage-backed securities		1,691,587				1,691,587
Non-agency residential mortgage-backed securities		74,767				74,767
Commercial mortgage-backed securities		65,290				65,290
Other structured financial products		12,740				0		12,740
Other debt securities		50,672				50,672
Equity securities of the FHLB		73,007				73,007
Equity securities of the FRB		50,225				50,225
Other equity securities		24,308		1,574		19,304		3,430
Derivatives: (1)						`
Designated as hedging instruments		40				40
Not designated or qualifying as hedging instruments		23,708				23,708
Total	$	2,715,035	$	1,574	$	2,697,291	$	16,170
Liabilities
Derivatives: (2)
Designated as hedging instruments	$	53,802	$	0	$	53,802	$	0
Not designated or qualifying as hedging instruments		22,283				22,283
Total	$	76,085	$	0	$	76,085	$	0

(1) Included in Other assets

(2) Included in Other liabilities

32

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

			Fair Value Measurements at Reporting Date Using
Description	December 31, 2010		Quoted Prices in Active Markets for Identical Instruments (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets
Available-for-sale securities:
U.S. Government Agencies	$	268,175	$	0	$	268,175	$	0
Obligations of states and political subdivisions		396,660				396,660
Agency residential mortgage-backed securities		1,323,569				1,323,569
Non-agency residential mortgage-backed securities		116,811				116,811
Commercial mortgage-backed securities		104,842				104,842
Other structured financial products		12,503				0		12,503
Other debt securities		41,000				41,000
Equity securities of the FHLB		71,065				71,065
Equity securities of the FRB		50,225				50,225
Other equity securities		24,093		2,446		18,266		3,381
Derivatives: (1)
Designated as hedging instruments		181				181
Not designated or qualifying as hedging instruments		17,167				17,167
Total	$	2,426,291	$	2,446	$	2,407,961	$	15,884
Liabilities
Derivatives: (2)
Designated as hedging instruments	$	31,793	$	0	$	31,793	$	0
Not designated or qualifying as hedging instruments		16,767				16,767
Total	$	48,560	$	0	$	48,560	$	0

(1) Included in Other assets

(2) Included in Other liabilities

33

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

Assets Measured at Fair Value on a Recurring Basis Using Significant Unobservable Inputs

The following tables present roll forwards of the balance sheet amounts for the three months ended September 30, 2011 and 2010, for financial instruments classified by Susquehanna within Level 3 of the valuation hierarchy.

Fair Value Measurements Using Significant Unobservable Inputs (Level 3)

	Available-for-sale Securities
	Equity Securities		Other Structured Financial Products			Total
Balance at January 1, 2011	$	3,399	$	14,133		$	17,532
Total gains or losses (realized/unrealized): Included in other comprehensive income (before taxes)		31		(1,393	)		(1,362	)
Balance at September 30, 2011	$	3,430	$	12,740		$	16,170

	Available-for-sale Securities
	Equity Securities			Synthetic Collateralized Debt Obligations			Other Structured Financial Products		Total
Balance at January 1, 2010	$	3,556		$	1,576		$	10,953	$	16,085
Total gains or losses (realized/unrealized):
Other-than-temporary impairment (1)		(240	)		0			0		(240	)
Included in other comprehensive income (before taxes)		240			(353	)		760		647
Balance at September 30, 2010	$	3,556		$	1,223		$	11,713	$	16,492

34

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

The following tables present roll forwards of the balance sheet amounts for the nine months ended September 30, 2011 and 2010, for financial instruments classified by Susquehanna within Level 3 of the valuation hierarchy.

Fair Value Measurements Using Significant Unobservable Inputs (Level 3)

	Available-for-sale Securities
	Equity Securities		Other Structured Financial Products		Total
Balance at January 1, 2011	$	3,381	$	12,503	$	15,884
Total gains or losses (realized/unrealized):
Included in other comprehensive income (before taxes)		49		237		286
Balance at September 30, 2011	$	3,430	$	12,740	$	16,170

	Available-for-sale Securities
	Equity Securities			Synthetic Collateralized Debt Obligations			Other Structured Financial Products			Non-agency Residential Mortgage- backed Securities			Interest-only Strips			Total
Balance at January 1, 2010	$	4,081		$	1,331		$	14,113		$	2,111		$	17,840		$	39,476
Adjustments relating to the consolidation of variable interest entities											(2,111	)		(17,840	)		(19,951	)
Total gains or losses (realized/unrealized):
Other-than-temporary impairment (1)		(240	)		(557	)											(797	)
Included in other comprehensive income (before taxes)		(285	)		449			(2,400	)								(2,236	)
Balance at September 30, 2010	$	3,556		$	1,223		$	11,713		$	0		$	0		$	16,492

(1) Included in noninterest income, net impairment losses recognized in earnings.

Assets Measured at Fair Value on a Nonrecurring Basis

Impaired loans

Certain loans are evaluated for impairment in accordance with U.S. GAAP. To estimate the impairment of a loan, Susquehanna uses the practical expedient method, which is based upon the fair value of the underlying collateral for collateral-dependent loans. Currently, most of Susquehanna’s impaired loans are secured by real estate. The value of the real estate collateral is determined through appraisals performed by independent licensed appraisers. As part of Susquehanna’s overall valuation process, management evaluates these third-party appraisals to ensure that they are representative of the exit prices in Susquehanna’s principal markets. When the value of the real estate, less estimated costs to sell, is less than the principal balance of the loan, a specific reserve is established. Susquehanna considers the appraisals used in its impairment analysis to be Level 3 inputs. Impaired loans are reviewed at least quarterly for additional impairment, and reserves are adjusted accordingly.

Foreclosed Real Estate

Other real estate property acquired through foreclosure is recorded at the lower of its carrying value or the fair market value of the related real estate collateral at the transfer date, less estimated selling costs. The value of the real estate collateral is determined through appraisals performed by independent licensed appraisers. As part of Susquehanna’s overall valuation process, management evaluates these third-party appraisals to ensure that they are representative of the exit prices in Susquehanna’s principal markets. Susquehanna considers the appraisals used in its impairment analysis to be Level 3 inputs.

35

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

The following tables present assets measured at fair value on a nonrecurring basis at September 30, 2011 and December 31, 2010, on the consolidated balance sheets and by the valuation hierarchy.

		$00000000000		$00000000000		$00000000000		$00000000000
Description	September 30, 2011		Quoted Prices in Active Markets for Identical Instruments (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Impaired loans	$	62,172	$	0	$	0	$	62,172
Foreclosed real estate		29,563		0		0		29,563
	$	91,735	$	0	$	0	$	91,735

Specific reserves for the first nine months of 2011 were reduced by $12,689. These specific reserves were taken into consideration when the required level of the allowance for loan and lease losses was determined at September 30, 2011.

		$00000000000		$00000000000		$00000000000		$00000000000
Description	December 31, 2010		Quoted Prices in Active Markets for Identical Instruments (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Impaired loans	$	103,818	$	0	$	0	$	103,818
Foreclosed real estate		18,489		0		0		18,489
	$	122,307	$	0	$	0	$	122,307

Specific reserves identified during 2010 were reduced by $4,732. These specific reserves were taken into consideration when the required level of the allowance for loan and lease losses was determined at December 31, 2010.

Additional Disclosures about Fair Value of Financial Instruments

The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value:

Cash and due from banks and short-term investments

For those short-term instruments, the carrying amount is a reasonable estimate of fair value.

Investment securities

Refer to the above discussion on securities.

Loans and leases

Variable-rate loans, which do not expose Susquehanna to interest-rate risk, have a fair value that equals their carrying value, discounted for estimated future credit losses. The fair value of fixed-rate loans and leases was based upon the present value of projected cash flows. The discount rate was based upon the U.S. Treasury yield curve.

Deposits

The fair values of demand, interest-bearing demand, and savings deposits are the amounts payable on demand at the balance sheet date. The carrying value of variable-rate time deposits represents a reasonable estimate of fair value. The fair value of fixed-rate time deposits is based upon the discounted value of future cash flows expected to be paid at maturity. Discount rates were based upon the U.S. Treasury yield curve.

36

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

Short-term borrowings

For those short-term instruments, the carrying amount is a reasonable estimate of fair value.

FHLB borrowings and long-term debt

Fair values were based upon quoted rates of similar instruments issued by banking institutions with similar credit ratings.

Derivatives

Refer to the above discussion on derivatives.

Off-balance-sheet items

The fair values of unused commitments to lend and standby letters of credit are considered to be the same as their contractual amounts. The fair values of commitments to originate mortgage loans to be held for sale and their corresponding forward-sales agreements are calculated as the reasonable amounts that Susquehanna would agree to pay or receive, after considering the likelihood of the commitments expiring.

The following table represents the carrying amounts and estimated fair values of Susquehanna’s financial instruments:

	September 30, 2011				December 31, 2010
	Carrying Amount		Fair Value		Carrying Amount		Fair Value
Financial assets:
Cash and due from banks	$	254,074	$	254,074	$	200,646	$	200,646
Short-term investments		104,208		104,208		93,947		93,947
Investment securities		2,699,764		2,699,764		2,417,611		2,417,611
Loans and leases		9,511,709		9,617,224		9,441,363		9,492,108
Derivatives		23,748		23,748		17,348		17,348
Financial liabilities:
Deposits		9,558,631		9,403,964		9,191,207		9,265,942
Short-term borrowings		551,245		551,245		770,623		770,623
FHLB borrowings		1,115,026		1,177,460		1,101,620		1,167,743
Long-term debt		672,162		643,231		705,954		683,628
Derivatives		76,085		76,085		48,560		48,560

NOTE 12. Share-based Compensation

On April 7, 2011, Susquehanna’s Compensation Committee granted to certain employees nonqualified stock options to purchase an aggregate of 248 shares of common stock with an exercise price of $9.77. The following table presents the assumptions used in the Black-Scholes-Merton model to estimate the fair values of options granted in 2011 and 2010, and the resultant fair values.

	2011			2010
Volatility		37.09	%		32.50	%
Expected dividend yield		4.00	%		4.00	%
Expected term (in years)		7.0			7.0
Risk-free interest rate		2.97	%		2.39	%
Fair value	$	2.61		$	1.85

37

Susquehanna Bancshares, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Amounts in thousands, except as noted and per share data)

In addition, on May 17, 2011, Susquehanna’s Compensation Committee granted an aggregate of 40 shares of restricted stock with a grant date fair value of $8.65 per share to Susquehanna’s directors and an aggregate of 158 restricted shares and restricted stock units with a weighted-average grant date fair value of $8.71 per share or unit to certain senior officers.

NOTE 13. Income Taxes

Susquehanna’s provision for income taxes during interim reporting periods historically has been calculated by applying an estimate of the annual effective tax rate for the full fiscal year to “ordinary” income or loss (pre-tax income or loss excluding significant, unusual or infrequently occurring items) for the reporting period. For the reporting period ended September 30, 2011, Susquehanna has computed its provision for income taxes based on the actual effective tax rate for the year-to-date by applying the discrete method. Susquehanna determined that, as small changes in estimated “ordinary” income result in significant changes in the estimated annual effective tax rate, the historical method would not provide a reliable estimate for the reporting period ended September 30, 2011. The actual effective rate for the reporting period ended September 30, 2011 was impacted by the level of permanent differences, including tax-advantaged investment and loan income, resulting in an effective rate below statutory rates for the interim reporting periods.

NOTE 14. Loss Contingency

In September 2010, Lehman Brothers Special Financing Inc. (“LBSF”) filed suit in the United States Bankruptcy Court for the Southern District of New York against certain indenture trustees, certain special-purpose entities (issuers) and a class of noteholders and trust certificate holders who received distributions from the trustees, including Susquehanna, to recover funds that were allegedly improperly paid to the noteholders in forty-seven separate collateralized debt obligation transactions (“CDO”). In June 2007, two affiliates of Susquehanna each purchased $5,000 in AAA rated Class A Notes of a CDO offered by Lehman Brothers Inc. Concurrently with the issuance of the notes, the issuer entered into a credit swap with LBSF. Lehman Brothers Holdings Inc. (“LBHI”) guaranteed LBSF’s obligations to the issuer under the credit swap. When LBHI filed for bankruptcy in September 2008, an Event of Default under the indenture occurred, and the trustee declared the notes to be immediately due and payable. Susquehanna was repaid its principal on the notes in September 2008. This legal proceeding is in the early stages of discovery; thus it is not yet possible for Susquehanna to estimate potential loss, if any. Management, after consultation with legal counsel, currently does not anticipate that the aggregate liability, if any, arising out of this proceeding, will have a material adverse effect on Susquehanna’s financial position, or cash flows, although, at the present time, management is not in a position to determine whether such proceeding will have a material adverse effect on Susquehanna’s results of operations in any future quarterly reporting period.

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

Management’s discussion and analysis of the significant changes in the consolidated results of operations, financial condition, and cash flows of Susquehanna Bancshares, Inc. and its subsidiaries is set forth below for the periods indicated. Unless the context requires otherwise, the terms “Susquehanna,” “we,” “us,” and “our” refer to Susquehanna Bancshares, Inc. and its subsidiaries.

Certain statements in this document may be considered to be “forward-looking statements” as that term is defined in the U.S. Private Securities Litigation Reform Act of 1995, such as statements that include the words “expect,” “estimate,” “project,” “anticipate,” “should,” “intend,” “probability,” “risk,” “target,” “objective,” and similar expressions or variations on such expressions. In particular, this document includes forward-looking statements relating, but not limited to, general economic conditions, an expected bargain purchase gain in the fourth quarter, the impact of new regulations on our business, our potential exposures to various types of market risks, such as interest rate risk and credit risk; whether our allowance for loan and lease losses is appropriate to meet probable loan and lease losses; whether we will be required to sell available-for-sale securities that are in an unrealized loss position; our ability to achieve loan growth; our ability to maintain sufficient liquidity; our ability to manage credit quality; our ability to maintain market share through monitoring our time-deposit portfolio; and our ability to achieve our 2011 financial goals. Such statements are subject to certain risks and uncertainties. For example, certain of the market risk disclosures are dependent on choices about essential model characteristics and assumptions and are subject to various limitations. By their nature, certain of the market risk disclosures are only estimates and could be materially different from what actually occurs in the future. As a result, actual income gains and losses could materially differ from those that have been estimated. Other factors that could cause actual results to differ materially from those estimated by the forward-looking statements contained in this document include, but are not limited to:

• adverse changes in our loan and lease portfolios and the resulting credit-risk-related losses and expenses;

• adverse changes in regional real estate values;

• interest rate fluctuations which could increase our cost of funds or decrease our yield on earning assets and therefore reduce our net interest income;

• decreases in our loan and lease quality and origination volume;

• the adequacy of loss reserves;

• impairment of goodwill or other assets;

• the loss of certain key officers, which could adversely impact our business;

• continued relationships with major customers;

• the ability to continue to grow our business internally and through acquisition and successful integration of bank and non-bank entities while controlling our costs;

• adverse international, national, and regional economic and business conditions;

• compliance with laws and regulatory requirements of federal and state agencies;

• competition from other financial institutions in originating loans, attracting deposits, and providing various financial services that may affect our profitability;

• the ability to hedge certain risks effectively and economically;

• our ability to effectively implement technology-driven products and services;

• changes in consumer confidence, spending and savings habits relative to the bank and non-bank financial services we provide;

39

• changes in legal or regulatory requirements or the results of regulatory examinations that could adversely impact our business and financial condition and restrict growth;

• the impact of federal laws and related rules and regulations on our business operations and competitiveness;

• the effects of and changes in trade, monetary and fiscal policies, and laws, including interest rate policies of the Federal Reserve Board;

• the effects on the economy regarding the U.S. government’s response to the deficit;

• the effects of and changes in the rate of Federal Deposit Insurance Corporation premiums;

• the timing of the consummation of the pending merger with Tower Bancorp, Inc. or failure to consummate the merger; and

• our success in managing the risks involved in the foregoing.

We encourage readers of this report to understand forward-looking statements to be strategic objectives rather than absolute targets of future performance. Forward-looking statements speak only as of the date they are made. We do not intend to update publicly any forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made or to reflect the occurrence of unanticipated events except as required by law.

The following discussion and analysis, the purpose of which is to provide investors and others with information that we believe to be necessary for an understanding of Susquehanna’s financial condition, changes in financial condition, and results of operations, should be read in conjunction with the financial statements, notes, and other information contained in this document.

The following information refers to Susquehanna and its wholly owned subsidiaries: Boston Service Company, Inc., (t/a Hann Financial Service Corporation) (“Hann”), Susquehanna Bank and subsidiaries, Valley Forge Asset Management Corp. (“VFAM”), Stratton Management Company and subsidiary (“Stratton”), and The Addis Group, LLC (“Addis”).

Availability of Information

Our web-site address is www.susquehanna.net. We make available free of charge, through the Investor Relations section of our web site, our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and all amendments to those reports as soon as reasonably practicable after such material is electronically filed with or furnished to the Securities and Exchange Commission. We include our web-site address in this Quarterly Report on Form 10-Q as an inactive textual reference only.

Executive Overview

The prolonged economic downturn continues to impact customers in our markets, as well as our own financial performance. Our results for the first nine months of 2011 have been impacted by a number of issues related to this downturn, including an elevated (when viewed from an historical perspective) provision for loan and lease losses and related credit costs. We have, however, strong liquidity, and our capital ratios are well in excess of regulatory minimums to be considered “well-capitalized.”

We are closely watching the new regulatory changes that will be implemented in the coming months and years as a result of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”). We have set up a committee of senior officers to review the new rules as they are published, and our management team is prepared to update our procedures as necessary.

40

The Federal Reserve Bank has issued a final rule establishing standards for interchange fees, as required by Dodd-Frank. When this rule goes into effect in October 2011, our interchange fee revenue will be reduced by approximately $1.5 million quarterly. There may be additional regulations enacted that could result in increased costs and decreased revenues.

With certain of these factors in mind, we have updated our 2011 financial goals as follows:

Updated Financial Goals for 2011 (1)

	Original Targets			Updated Targets Excluding Abington			Updated Targets Including Abington
Net interest margin		3.60	%		3.58	%		3.58	%
Loan growth		4.0	%		2.0	%		8.0	%
Deposit growth		4.0	%		5.0	%		14.0	%
Noninterest income growth		-1.0	%		-3.0	%		-2.0	%
Noninterest expense growth		0.0	%		3.0	%		5.0	%
Tax rate		24.0	%		18.0	%		18.0	%

(1)These targets do not include any one-time merger related items in the fourth quarter or any purchase accounting adjustments associated with the merger.

Acquisitions

Agreement to Acquire Tower Bancorp, Inc.

On June 20, 2011, we announced the signing of a definitive agreement under which we agreed to acquire all outstanding shares of Tower Bancorp, Inc. common stock in a stock and cash transaction. The transaction, with an approximate total value of $343.0 million, is expected to be completed on or around February 17, 2012. Under the terms of the agreement, Tower shareholders will have the option of receiving either 3.4696 shares of Susquehanna common stock or $28.00 in cash for each share of Tower common stock, with $88.0 million of the aggregate consideration being paid in cash. The transaction will enhance our already strong presence in central and southeastern Pennsylvania and will significantly increase our market share in the Pennsylvania counties of Chester, Dauphin, and Franklin. Additionally, the merger will give us branch presence in the Pennsylvania counties of Lebanon, Fulton, and Centre.

The boards of directors of both Susquehanna and Tower have unanimously approved the transaction. Completion of the transaction is subject to customary closing conditions, including regulatory approvals and the approval of shareholders of both companies.

On September 28, 2011, Susquehanna and Tower entered into an amendment (the “Amendment”) to Tower Merger Agreement in order to correct an inconsistency in the way the performance of the Nasdaq Bank Index is measured as compared to the performance of Susquehanna’s stock price for purposes of determining whether Tower may terminate the Tower Merger Agreement. The Tower Merger Agreement provided a termination right to Tower if, as of a date that is approximately four days prior to the merger, (1) Susquehanna’s stock price declined from $8.07 by more than 20% and (2) Susquehanna’s stock price underperformed the Nasdaq Bank Index by more than 20% since the last trading day prior to the date the Tower Merger Agreement was announced. Prior to the Amendment, the performance of Susquehanna’s stock price was measured by comparing $8.07 to the average closing price of Susquehanna’s stock over a 20-trading-day period immediately prior to the closing, while the performance of the Nasdaq Bank Index was measured by comparing the closing price on the last trading day prior to the date of the announcement of the Tower Merger Agreement to the closing price on the fourth day prior to the closing. The Amendment changes the measurement of the Nasdaq Bank Index so that its performance is measured over the same 20-trading-day period over which Susquehanna’s stock performance is measured. The recent extreme volatility in the stock markets highlighted the need for the amendment to the boards of directors of Susquehanna and Tower. The respective boards approved the amendment of the termination right in order to avoid the unintended consequences that could occur if the two prices to be compared were measured over different periods in the context of a volatile market. The Amendment did not change Susquehanna’s right to prevent the termination by increasing the consideration paid in connection with the Tower Merger to the extent necessary to cause either of the two termination conditions to be deemed not to exist. All other terms and provisions of the Tower Merger Agreement in effect prior to the Amendment remain in full force and effect.

Abington Bancorp, Inc.

On October 1, 2011, we completed the acquisition of Abington Bancorp, Inc. (“Abington”) in a stock-for-stock transaction. The transaction, in which Abington shareholders received 1.32 shares of Susquehanna common stock for each share of Abington common stock, had an approximate total value of $145.9 million compared to a book value of $205.9 million. Under the current accounting rules, we expect to record a bargain purchase gain in the fourth quarter of 2011. We are considering various other transactions in the fourth quarter of 2011 to reposition our balance sheet, and these transactions may offset some or all of the bargain purchase gain. The locations of Abington’s bank branches provide a natural extension of Susquehanna’s network in the greater Philadelphia area.

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Results of Operations

Summary of 2011 Compared to 2010

Net income available to common shareholders for the third quarter of 2011 was $15.0 million, an increase of $10.4 million when compared to net income available to common shareholders of $4.6 million for the third quarter of 2010. The $4.6 million in net income available to common shareholders for the third quarter of 2010 included $1.4 million in preferred stock dividends and accretion relating to our participation in the U.S. Treasury’s Troubled Asset Relief Program (“TARP”) Capital Purchase Program. Net interest income of $106.8 million for the third quarter of 2011 was relatively unchanged from net interest income of $105.4 million for the third quarter of 2010. The provision for loan and lease losses decreased 37.5%, from $40.0 million for the third quarter of 2010, to $25.0 million for the third quarter of 2011. Noninterest income increased 3.9%, to $36.8 million for the third quarter of 2011, from $35.4 million for the third quarter of 2010. Noninterest expenses increased 4.7%, to $100.7 million for the third quarter of 2011, from $96.2 million for the third quarter of 2010.

Net income available to common shareholders for the first nine months of 2011 was $35.8 million, an increase of $29.2 million when compared to net income available to common shareholders of $6.5 million for the first nine months of 2010. The $6.5 million in net income available to common shareholders for the first nine months of 2010 included $12.3 million in preferred stock dividends and accretion relating to our participation in the TARP Capital Purchase Program. Net interest income of $317.9 million for the first nine months of 2011 was relatively unchanged from net interest income of $319.9 million for the first nine months of 2010. The provision for loan and lease losses decreased 31.3%, to $88.0 million for the first nine months of 2011, from $128.0 million for the first nine months of 2010. Noninterest income of $111.3 million for the first nine months of 2011 was also relatively unchanged from net interest income of $112.4 million for the first nine months of 2011. Noninterest expenses increased 3.9%, to $297.8 million for the first nine six months of 2011, from $286.7 million for the first nine months of 2010.

Additional information is as follows:

	Three Months Ended September 30,						Nine Months Ended September 30,
	2011			2010			2011			2010
Diluted Earnings per Common Share	$	0.12		$	0.04		$	0.28		$	0.06
Return on Average Assets		0.42	%		0.17	%		0.34	%		0.18	%
Return on Average Equity		2.94	%		1.13	%		2.39	%		1.21	%
Return on Average Tangible Equity (1)		6.66	%		2.87	%		5.61	%		3.05	%
Efficiency Ratio		68.32	%		66.68	%		67.63	%		64.80	%
Net Interest Margin		3.58	%		3.58	%		3.61	%		3.69	%

(1) Supplemental Reporting of Non-GAAP-based Financial Measures

Return on average tangible equity is a non-GAAP-based financial measure calculated using non-GAAP amounts. The most directly comparable measure is return on average equity, which is calculated using GAAP-based amounts. We calculate return on average tangible equity by excluding the balance of intangible assets and their related amortization expense from our calculation of return on average equity. Management uses the return on average tangible equity in order to review our core operating results. Management believes that this is a better measure of our performance. In addition, this is consistent with the treatment by bank regulatory agencies, which excludes goodwill and other intangible assets from the calculation of risk-based capital ratios. A reconciliation of return on average equity to return on average tangible equity is set forth below.

	Three Months Ended September 30,						Nine Months Ended September 30,
	2010			2011			2011			2010
Return on average equity (GAAP basis)		2.94	%		1.13	%		2.39	%		1.21	%
Effect of excluding average intangible assets and related amortization		3.72	%		1.74	%		3.22	%		1.84	%
Return on average tangible equity		6.66	%		2.87	%		5.61	%		3.05	%

42

Susquehanna Bancshares, Inc. and Subsidiaries

Table 1 - Distribution of Assets, Liabilities and Shareholders’ Equity (1)

(dollars in thousands)

Interest rates and interest differential–taxable equivalent basis

	For the Three-Month Period Ended September 30, 2011							For the Three-Month Period Ended September 30, 2010
	Average Balance			Interest		Rate (%)		Average Balance			Interest		Rate (%)
Assets
Short-term investments	$	109,596		$	29		0.10	$	119,887		$	56		0.19
Investment securities:
Taxable		2,120,258			14,988		2.80		1,847,854			14,495		3.11
Tax-advantaged		399,750			6,089		6.04		381,445			5,985		6.22
Total investment securities		2,520,008			21,077		3.32		2,229,299			20,480		3.64
Loans and leases, (net):
Taxable		9,329,138			125,083		5.32		9,468,492			131,479		5.51
Tax-advantaged		317,051			4,848		6.07		252,799			3,951		6.20
Total loans and leases		9,646,189			129,931		5.34		9,721,291			135,430		5.53
Total interest-earning assets		12,275,793			151,037		4.88		12,070,477			155,966		5.13
Allowance for loan and lease losses		(193,986	)						(190,022	)
Other non-earning assets		2,080,855							2,099,928
Total assets	$	14,162,662						$	13,980,383
Liabilities
Deposits:
Interest-bearing demand	$	3,796,621			4,999		0.52	$	3,486,885			5,492		0.62
Savings		796,735			275		0.14		769,946			293		0.15
Time		3,490,946			13,595		1.55		3,606,545			19,196		2.11
Other short-term borrowings		631,679			2,220		1.39		589,528			982		0.66
FHLB borrowings		1,115,262			10,967		3.90		1,117,387			11,859		4.21
Long-term debt		679,316			8,313		4.86		718,762			9,256		5.11
Total interest-bearing liabilities		10,510,559			40,369		1.52		10,289,053			47,078		1.82
Demand deposits		1,401,109							1,340,585
Other liabilities		231,288							258,413
Total liabilities		12,142,956							11,888,051
Shareholders’ equity		2,019,706							2,092,332
Total liabilities and shareholders’ equity	$	14,162,662						$	13,980,383
Net interest income / yield on average earning assets				$	110,668		3.58				$	108,888		3.58

(1) Additional Information

Average loan balances include non-accrual loans.

Tax-exempt income has been adjusted to a tax-equivalent basis using a marginal rate of 35%.

For presentation in this table, average balances and the corresponding average rates for investment securities are based upon historical cost, adjusted for amortization of premiums and accretion of discounts.

43

Susquehanna Bancshares, Inc. and Subsidiaries

Table 1 - Distribution of Assets, Liabilities and Shareholders’ Equity (1)

(dollars in thousands)

Interest rates and interest differential—taxable equivalent basis

	For the Nine-Month Period Ended September 30, 2011							For the Nine-Month Period Ended September 30, 2010
	Average Balance			Interest		Rate (%)		Average Balance			Interest		Rate (%)
Assets
Short-term investments	$	89,242		$	80		0.12	$	99,071		$	129		0.17
Investment securities:
Taxable		2,088,386			47,712		3.05		1,643,525			43,919		3.57
Tax-advantaged		402,063			18,375		6.11		351,725			16,848		6.40
Total investment securities		2,490,449			66,087		3.55		1,995,250			60,767		4.07
Loans and leases, (net):
Taxable		9,312,112			373,614		5.36		9,606,701			398,707		5.55
Tax-advantaged		304,985			13,257		5.81		257,393			12,034		6.25
Total loans and leases		9,617,097			386,871		5.38		9,864,094			410,741		5.57
Total interest-earning assets		12,196,788			453,038		4.97		11,958,415			471,637		5.27
Allowance for loan and lease losses		(195,404	)						(182,688	)
Other non-earning assets		2,054,044							2,095,536
Total assets	$	14,055,428						$	13,871,263
Liabilities
Deposits:
Interest-bearing demand	$	3,712,438			15,842		0.57	$	3,428,980			16,595		0.65
Savings		794,693			869		0.15		766,487			880		0.15
Time		3,476,077			42,884		1.65		3,681,513			62,990		2.29
Other short-term borrowings		682,007			5,954		1.17		635,833			2,277		0.48
FHLB borrowings		1,110,513			32,188		3.88		1,039,671			32,593		4.19
Long-term debt		690,061			26,281		5.09		713,411			26,260		4.92
Total interest-bearing liabilities		10,465,789			124,018		1.58		10,265,895			141,595		1.84
Demand deposits		1,374,356							1,285,755
Other liabilities		213,930							233,774
Total liabilities		12,054,075							11,785,424
Shareholders’ equity		2,001,353							2,085,839
Total liabilities and shareholders’ equity	$	14,055,428						$	13,871,263
Net interest income / yield on average earning assets				$	329,020		3.61				$	330,042		3.69

(1) Additional Information

Average loan balances include non-accrual loans.

Tax-exempt income has been adjusted to a tax-equivalent basis using a marginal rate of 35%.

For presentation in this table, average balances and the corresponding average rates for investment securities are based upon historical cost, adjusted for amortization of premiums and accretion of discounts.

Net Interest Income-Taxable Equivalent Basis

Our major source of operating revenues is net interest income, which is the income that remains after deducting, from total income generated by earning assets, the interest expense attributable to the acquisition of the

44

funds required to support earning assets. (Net interest income as a percentage of net interest income plus noninterest income was 74.4% for the quarter ended September 30, 2011 and 74.9% for the quarter ended September 30, 2010. Net interest income as a percentage of net interest income plus noninterest income was 74.1% for the nine months ended September 30, 2011 and 74.0% for the nine months ended September 30, 2010.) Income from earning assets includes income from loans, investment securities, and short-term investments. The amount of interest income is dependent upon many factors, including the volume of earning assets, the general level of interest rates, the dynamics of the change in interest rates, and the levels of non-performing loans. The cost of funds varies with the amount of funds necessary to support earning assets, the rates paid to attract and hold deposits, the rates paid on borrowed funds, and the levels of noninterest-bearing demand deposits and equity capital. Table 1 above presents average balances, taxable equivalent interest income and expense, and yields earned or paid on these assets and liabilities. For purposes of calculating taxable equivalent interest income, tax-exempt interest has been adjusted using a marginal tax rate of 35% in order to equate the yield to that of taxable interest rates.

For the third quarter of 2011, net interest income of $106.8 million was relatively unchanged from net interest income of $105.4 million for the third quarter of 2010. In addition, the net interest margin was 3.58% for both quarters.

Net interest income of $317.9 million for the first nine months of 2011 was relatively unchanged from net interest income of $319.9 million for the first nine months of 2010. The net interest margin, however, declined eight basis points, from 3.69% for the nine months ended September 30, 2010, 3.61% for the nine months ended September 30, 2011. This decline in net interest margin primarily was the result of a flattening of the yield curve in 2011. This reduction in the net interest margin was partially offset by an increase in average earning assets of $238.4 million, or 2.0%.

Variances do occur in the net interest margin, as an exact repricing of assets and liabilities is not possible. A further explanation of the impact of asset and liability repricing is found in Item 3, “Quantitative and Qualitative Disclosures About Market Risk.”

Provision and Allowance for Loan and Lease Losses

The provision for loan and lease losses is the expense necessary to maintain the allowance for loan and lease losses at a level appropriate to absorb management’s estimate of probable incurred losses in the loan and lease portfolio. Our provision for loan and lease losses is based upon management’s quarterly review of the loan and lease portfolio. The purpose of the review is to assess loan quality, identify impaired loans and leases, analyze delinquencies, ascertain loan and lease growth, evaluate potential charge-offs and recoveries, and assess general economic conditions in the markets we serve. Detailed information about changes in the allowance for loan and lease losses is presented in Table 2.

Although we continued to experience a challenging operating environment for the first nine months of 2011, we also continued to see signs of stabilization. Net charge-offs for the third quarter of 2011 decreased to $23.3 million, or 0.96% of average loans and leases, when compared to net charge-offs for the third quarter of 2010 of $34.7, or 1.42% of average loans and leases. Net charge-offs for the nine months ended September 30, 2011 decreased to $88.9 million, or 1.24% of average loans and leases, when compared to net charge-offs for the nine months ended September 30, 2010 of $109.3, or 1.48% of average loans and leases. In addition, on a linked-quarter basis, net charge-offs for the second quarter of 2011 were $31.9 million, net charge-offs for the first quarter of 2011 were $33.6 million, net charge-offs for the fourth quarter of 2010 were $34.3 million, and net-charge-offs for the third quarter of 2010 were $34.7 million. Nonaccrual loans and troubled debt restructurings also decreased during this linked-quarter period. As a result, we decreased the provision for loan and lease losses from $128.0 million for the first nine months of 2010 to $88.0 million for the first nine months of 2011.

Determining the level of the allowance for probable loan and lease losses at any given point in time is difficult, particularly during uncertain economic periods. We must make estimates using assumptions and information that is often subjective and changing rapidly. The review of the loan and lease portfolios is a continuing process in light of a changing economy and the dynamics of the banking and regulatory environment. In our opinion, the allowance for loan and lease losses is appropriate to meet probable incurred loan and lease losses at September 30, 2011. There can be no assurance, however, that we will not sustain loan and lease losses in future periods that could be greater than the size of the allowance at September 30, 2011.

45

Susquehanna Bancshares, Inc. and Subsidiaries

Table 2 - Allowance for Loan and Lease Losses

	Three Months Ended September 30,						Nine Months Ended September 30,
	2011			2010			2011			2010
	(dollars in thousands)
Balance - Beginning of period	$	189,292		$	185,795		$	191,834		$	172,368
Additions		25,000			40,000			88,000			128,000
Charge-offs:
Commercial, financial, and agricultural		(6,445	)		(5,260	)		(21,386	)		(19,493	)
Real estate - construction		(7,227	)		(15,328	)		(27,189	)		(41,286	)
Real estate secured - residential		(5,476	)		(3,354	)		(15,604	)		(12,956	)
Real estate secured - commercial		(6,712	)		(10,429	)		(33,446	)		(37,002	)
Consumer		(483	)		(677	)		(3,175	)		(2,911	)
Leases		(1,084	)		(2,061	)		(4,224	)		(7,071	)
Total charge-offs		(27,427	)		(37,109	)		(105,024	)		(120,719	)
Recoveries:
Commercial, financial, and agricultural		1,123			962			3,226			3,702
Real estate - construction		738			311			6,194			3,158
Real estate secured - residential		214			237			1,497			794
Real estate secured - commercial		1,100			280			2,925			1,792
Consumer		582			226			1,128			1,067
Leases		338			413			1,180			953
Total recoveries		4,095			2,429			16,150			11,466
Net charge-offs		(23,332	)		(34,680	)		(88,874	)		(109,253	)
Balance - Period end	$	190,960		$	191,115		$	190,960		$	191,115
Net charge-offs as a percentage of average loans and leases (annualized)		0.96	%		1.42	%		1.24	%		1.48	%
Allowance as a percentage of period-end loans and leases		1.97	%		1.97	%		1.97	%		1.97	%
Average loans and leases	$	9,646,189		$	9,721,291		$	9,617,097		$	9,864,094
Period-end loans and leases		9,702,669			9,696,800			9,702,669			9,696,800

Noninterest Income

Third Quarter 2011 Compared to Third Quarter 2010

Noninterest income, as a percentage of net interest income plus noninterest income, was 25.6% for the third quarter of 2011 and 25.1% for the third quarter of 2010.

Noninterest income increased $1.4 million, or 3.9%, for the third quarter of 2011, as compared to the third quarter of 2010. This net increase was primarily the result of increased net realized gains on securities (excluding other-than-temporary impairment) of $1.3 million.

Nine Months ended September 30, 2011 Compared to Nine Months ended September 30, 2010

Noninterest income, as a percentage of net interest income plus noninterest income, was 25.9% for the nine months ended September 30, 2011 and 26.0% for the nine month ended September 30, 2010.

Noninterest income decreased $1.0 million, or 0.9%, for the nine-month period ended September 30, 2011, as compared to the nine-month period ended September 30, 2010. This net decrease was primarily the result of the following:

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• Decreased service charges on deposit accounts of $1.8 million;

• Increased commissions on property and casualty insurance sales of $1.5 million;

• Increased other commissions and fees of $1.9 million;

• Increased net gains on the sale of loans and leases of $2.1 million; and

• Decreased net realized gain on securities (excluding other-than-temporary impairment) of $6.7 million.

Service charges on deposit accounts. The 7.1% decrease primarily was the result of a change in consumer habits and new government regulations in this area.

Commissions on property and casualty insurance sales. The 17.3% increase primarily was the result of increased volume at Addis.

Other commissions and fees. The 10.5% increase primarily was the result of an increased volume in interest-rate derivative products that we provide as a service to certain commercial banking customers.

Gains on sales of loans and leases. The 28.9% increase primarily was the result of increased gains on the sale of Small Business Administration loans.

Net realized gain on securities. During the first nine months of 2011, we realized a net gain of $4.6 million on the sale of securities with an aggregate book value of $178.2 million. During the first nine months of 2010, we realized a net gain of $11.3 million on the sale of securities with an aggregate book value of $269.2 million.

Noninterest Expenses

Third Quarter 2011 Compared to Third Quarter 2010

Noninterest expenses increased $4.5 million, or 4.7%, from $96.2 million for the third quarter of 2010, to $100.7 million for the third quarter of 2011. This net increase was primarily the result of a net increase in salaries and employee benefits of $4.5 million, which we attribute to annual merit increases and a reduction in open positions.

Nine Months ended September 30, 2011 Compared to Nine Months ended September 30, 2010

Noninterest expenses increased $11.1 million, or 3.9%, from $286.7 million for the nine-month period ended September 30, 2010, to $297.8 million for the nine-month period ended September 30, 2011. This net increase was primarily the result of the following:

• Increased salaries and employee benefits of $11.5 million;

• Increased legal fees of $2.3 million;

• Decreased vehicle lease disposal expenses of $3.4 million; and

• Increased other expenses of $2.9 million.

Salaries and employee benefits. The 7.9% increase primarily can be attributed to annual merit increases and a reduction in open positions.

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Legal fees. The 36.1% increase primarily was the result of $2.0 million in fees relating to the acquisition of Abington and the proposed acquisition of Tower.

Vehicle lease disposal expenses. The 30.3% decrease primarily was the result of lower residual value expense and lower volumes.

Other expense. The 5.2% increase primarily was the result of increases in operating losses of $1.1 million, increases in insurance costs of $1.0 million, and increases in merger costs of $0.8 million.

Income Taxes

Our provision for income taxes during interim reporting periods historically has been calculated by applying an estimate of the annual effective tax rate for the full fiscal year to “ordinary” income or loss (pre-tax income or loss excluding significant, unusual or infrequently occurring items) for the reporting period. For the reporting period ended September 30, 2011, we have computed our provision for income taxes based on the actual effective tax rate for the year-to-date by applying the discrete method. We determined that, as small changes in estimated “ordinary” income result in significant changes in the estimated annual effective tax rate, the historical method would not provide a reliable estimate for the reporting period ended September 30, 2011. The actual effective rate for the reporting period ended September 30, 2011 was impacted by the level of permanent differences, including tax-advantaged investment and loan income, resulting in an effective rate below statutory rates for the interim reporting periods.

Financial Condition

Summary of September 30, 2011 Compared to December 31, 2010

Total assets at September 30, 2011 were $14.4 billion, relatively unchanged from December 31, 2010 when total assets were $14.0 billion. Total loans at September 30, 2011were $9.7 billion, also relatively unchanged from December 31, 2010. Total deposits at September 30, 2011 were $9.6 billion, an increase of $367.4 million when compared to total deposits of $9.2 billion at December 31, 2010. Total equity capital was $2.0 billion at September 30, 2011, or $15.65 per share, and $2.0 billion, or $15.27 per share, at December 31, 2010.

Fair Value Measurements and The Fair Value Option for Financial Assets and Financial Liabilities

At September 30, 2011, we had made no elections to use fair value as an alternative measurement for selected financial assets and financial liabilities not previously carried at fair value. For additional information about our financial assets and financial liabilities carried at fair value, refer to “Note 11. Fair Value Disclosures” to the financial statements appearing in Part I, Item 1, of this Quarterly Report on Form 10-Q.

Securities Available for Sale

For information about our investment securities portfolio, refer to “Note 3. Investment Securities” and “Note 11. Fair Value Disclosures” to the financial statements appearing in Part I, Item 1, of this Quarterly Report on Form 10-Q.

Loans and Leases

For information about our loan portfolio, refer to “Note 4. Loans and Leases” to the financial statements appearing in Part I, Item 1, of this Quarterly Report on Form 10-Q.

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Risk Assets

Susquehanna Bancshares, Inc. and Subsidiaries

Table 3 - Risk Assets

	September 30, 2011			December 31, 2010			September 30, 2010
	(dollars in thousands)
Nonperforming assets:
Nonaccrual loans and leases:
Commercial, financial, and agricultural	$	14,421		$	20,012		$	22,522
Real estate - construction		37,487			57,779			76,418
Real estate secured - residential		41,238			50,973			47,564
Real estate secured - commercial		65,377			65,313			77,858
Consumer		0			1			2
Leases		1,576			2,817			3,054
Total nonaccrual loans and leases		160,099			196,895			227,418
Foreclosed real estate		29,563			18,489			18,856
Total nonperforming assets	$	189,662		$	215,384		$	246,274
Nonperforming assets as a percentage of period-end loans and leases plus foreclosed real estate		1.95	%		2.23	%		2.53	%
Allowance for loan and lease losses as a percentage of nonaccrual loans and leases		119	%		97	%		84	%
Loans and leases contractually past due 90 days and still accruing	$	13,034		$	20,588		$	18,005
Troubled debt restructurings		62,331			114,566			119,398

Nonperforming assets decreased from $215.4 million at December 31, 2010 to $189.7 million at September 30, 2011. The decrease was primarily the result of problem-loan resolution being greater than additions with regard to construction loans. Consequently, total nonperforming assets as a percentage of period-end loans and leases plus foreclosed real estate decreased from 2.23% at December 31, 2010 to 1.95% at September 30, 2011.

Troubled debt restructurings decreased $52.2 million, from $114.6 million at December 31, 2010 to $62.3 million at September 30, 2011. Of this decline, loans previously classified as troubled debt restructuring aggregating $10.7 million were transferred to nonaccrual status; loans aggregating $15.1 million were charged-off; loans aggregating $19.9 million were paid off or paid down; loans aggregating $12.6 million were newly restructured; and loans aggregating $19.2 million were returned to accruing status and no longer classified as troubled debt restructurings because they had been performing under the restructured terms at market interest rates.

Of the $169.7 million of impaired loans (nonaccrual, non-consumer loan relationships greater than $0.5 million plus accruing restructured loans), $89.9 million, or 53.0%, had no related reserve (refer to “Note 4. Loans and Leases – Impaired Loans” to the financial statements appearing in Part I, Item 1, of this Quarterly Report on Form 10-Q.) The determination that no related reserve for collateral-dependent loans was required was based on the net realizable value of the underlying collateral.

At September 30, 2011, real estate – construction loans comprised only 8.0% of our total loan and lease portfolio, but accounted for 23.4% of nonaccrual loans and leases and 21.4% of our allowance for loan and lease losses. In addition, for the nine months ended September 30, 2011, this loan type accounted for 23.6% of total net charge-offs. As a result, we consider real estate – construction loans to be higher-risk loans. Additional information about our real estate – construction loan portfolio is presented in Tables 4, 5, and 6. Categories within these tables are defined as follows:

• Construction loans – loans used to fund vertical construction for residential and non-residential structures;

• Land development loans – loans secured by land for which the approvals for site improvements have been obtained, the site improvements are in progress, or the site improvements have been completed; and

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• Raw land – loans secured by land for which there are neither approvals nor site improvements.

Table 4 - Construction, Land Development, and Other Land Loans - Portfolio Status

Category	Balance at September 30, 2011		% of Total Construction			Past Due 30-89 Days			Past Due 90 Days and Still Accruing			Nonaccrual			Other Internally Monitored (1)			Net Charge-offs (2)			Reserve (3)
	(dollars is thousands)
1-4 Family:
Construction	$	162,892		21.1	%		0.1	%		0.1	%		11.5	%		17.1	%		11.8	%		6.0	%
Land development		186,893		24.2			0.0			0.4			0.3			17.0			0.9			5.8
Raw land		3,829		0.5			0.0			0.0			0.0			8.7			49.7			5.0
		353,614		45.8			0.0			0.2			5.5			17.0			7.2			5.8
All Other:
Construction:
Investor		170,026		22.0			0.0			0.0			0.1			2.5			3.7			5.3
Owner-occupied		27,193		3.5			0.0			0.0			0.0			0.8			0.0			4.7
Land development:
Investor		178,155		23.1			0.0			0.0			10.1			28.0			3.1			4.3
Owner-occupied		14,722		1.9			0.0			0.0			0.0			4.0			0.1			5.7
Raw land:
Investor		27,539		3.6			0.0			0.0			0.0			18.3			8.0			5.6
Owner-occupied		485		0.1			0.0			0.0			0.0			0.0			0.0			0.5
		418,120		54.2			0.0			0.0			4.3			14.4			3.4			4.9
Total	$	771,734		100.0			0.0			0.1			4.9			15.6			5.2			5.8

(1) Represents loans with initial signs of some financial weakness and potential problem loans that are on our internally monitored loan list, excluding nonaccrual and past-due loans reflected in the prior three columns.

(2) Represents the amount of net charge-offs in each category for the last twelve months divided by the category loan balance at September 30, 2011 plus the net charge-offs.

(3) Represents the amount of the allowance for loan and lease losses allocated to this category divided by the category loan balance at September 30, 2011.

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Table 5 - Construction, Land Development, and Other Land Loans - Collateral Locations

			Geographical Location by %
Category	Balance at September 30, 2011		Maryland			New Jersey			Pennsylvania			Other
	(dollars in thousands)
1-4 Family:
Construction	$	162,892		56.3	%		3.8	%		36.7	%		3.3	%
Land development		186,893		47.6			5.3			36.3			10.8
Raw land		3,829		0.2			4.9			94.8			0.0
		353,614		51.1			4.6			37.1			7.2
All Other:
Construction:
Investor		170,026		31.7			16.9			47.9			3.5
Owner-occupied		27,193		17.1			10.5			67.7			4.7
Land development:
Investor		178,155		19.0			4.4			56.4			20.3
Owner-occupied		14,722		74.5			0.0			25.5			0.0
Raw land:
Investor		27,539		35.2			1.1			62.8			0.9
Owner-occupied		485		87.3			0.0			12.7			0.0
		418,120		27.1			9.5			53.0			10.5
Total	$	771,734		38.1			7.2			45.7			9.0

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Table 6 - Construction, Land Development, and Other Land Loans - Portfolio Characteristics

Category	Balance at September 30, 2011		Global Debt Coverage  Ratio Less than 1.1 Times (1)			Average Loan to Value  (current)
	(dollars in thousands)
1-4 Family:
Construction	$	162,892		21.9	%		78.7	%
Land development		186,893		7.5			68.8
Raw land		3,829		26.3			64.6
		353,614		14.5			74.7
All Other:
Construction:
Investor		170,026		0.8			71.4
Owner-occupied		27,193		0.0			62.3
Land development:
Investor		178,155		27.8			66.9
Owner-occupied		14,722		30.7			59.9
Raw land:
Investor		27,539		16.4			73.0
Owner-occupied		485		0.0			85.7
		418,120		15.1			68.3
	$	771,734		14.8			71.6

(1) Global debt coverage ratio is calculated by analyzing the combined cash flows of the borrower, its related entities, and the guarantors (if any). The final global cash flow is divided by the global debt service for the same entities to determine the coverage ratio.

We conduct quarterly portfolio reviews of real estate – construction loan relationships in excess of $0.75 million in order to identify potential problem loans. For those loan relationships under $0.75 million, the evaluation of risk is based upon delinquency. The review of loans in excess of $0.75 million consists of:

• Determining whether the project’s economics are achievable within a time frame such that the available cash flow of this and all of the projects of the borrower/guarantor (whether financed or not financed by Susquehanna) is sufficient to pay the required payments of interest plus principal during a rolling fifteen- month projection.

• Determining, based on a review of external sources, the viability/absorption of the projects and whether they align with the borrower/guarantor’s expectations.

• Reviewing quarterly to assess whether the expectations of the borrower/guarantor and the externally supplied information on the market are aligned to determine if the previous assumptions are still valid or need to be adjusted to meet the expectations that Susquehanna be fully repaid.

During this process, we also review the liquidity of any guarantors (the secondary source for continuance of the project) to determine if their liquidity will support any extension of the project due to slower than expected absorption (units leased or sold). If the result of any of the determinations set forth above is negative, we consider the loan to be impaired, and it is included in our evaluation of the allowance for loan and lease losses. If a loan is determined to be impaired, the net realizable value of the loan is calculated by using a current appraisal, and the short fall is charged off. All charged-off loans become part of the calculation for the allowance for loan lease losses.

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Although our impairment and charge-off analyses take into consideration the guarantor’s demonstrated ability and willingness to service the debt, we do not carry any impaired loans at values in excess of the current appraisal due to the loan having a guarantor. Our evaluation of guarantors includes examining their financial wherewithal and their reputation and willingness to work with their lenders. Since the beginning of the global economic slowdown in 2007, we have consistently assessed the probability for completion of a project by determining the guarantor’s liquidity and the cash flow generated by the project based upon current absorption.

Charge-offs are taken in the quarter that we determine that the loan is impaired. We exercise our rights under the full extent of the law to pursue all assets of the borrower and guarantors.

Guarantors are required to provide us with copies of annual financial statements and tax returns, including all schedules. These financial statements and tax returns are analyzed using variables such as total debt obligation including contingent liabilities (an analysis of those contingent liabilities, the ability to service third-party debt, and whether the cash that is left will support our loan), and a review of financial statements to determine living expenses. These results are part of a fifteen-month rolling projection of the borrower’s and the guarantor’s cash flow. With respect to a potential problem loan, the rolling fifteen-month cash flow projection requires verification of all cash or liquid investments each quarter. In addition, we require that these statements are generally current to within one year.

We believe that we are well-equipped to evaluate the guarantors of loans. Approximately 70% of the real estate borrowers have been our customers for over ten years and in the market for at least 15 years. Most of our employee lenders have been lenders within their specific markets for 15 or more years, and those whose experience is less than that time period are supervised by people who have the experience. Therefore, we have a strong historical perspective as to how borrowers performed in the last major recession of 1988 to 1993. For those borrowers/guarantors that do not have the history dating back to the last major recession, third-party credit checks are used to determine their history and, when appropriate, how they have performed when real estate projects have not gone as expected.

We continue to aggressively review our portfolio, contact customers to evaluate their financial situation, and where necessary, to work with them to find proactive solutions to help limit the number of loans that become delinquent or go into default. We believe that the remainder of 2011 will be challenging, with the volatility of key commodity prices and its impact on the commercial and industrial, commercial real estate, and consumer credit segments. However, we also believe that we have the proper monitoring systems in place to recognize issues in an appropriate time frame and to minimize the effect on our earnings.

Goodwill

For information about goodwill, refer to “Note 5. Goodwill” to the financial statements appearing in Part I, Item 1, of this Quarterly Report on Form 10-Q.

Deposits

Total deposits increased 4.0%, or $367.4 million, from December 31, 2010 to September 30, 2011. Within this category, core deposits such as demand, interest-bearing demand, and savings increased 2.3%, 8.7%, and 2.6%, respectively.

Time deposits less than $0.1 million decreased 6.6%, or $143.5 million, from December 31, 2010 to September 30, 2011. This decrease, in part, reflects the results of our continuing plan to improve our mix of deposits by allowing high-cost, single-service certificates of deposit to run off. However, we also want to maintain market share at appropriate levels, and we will monitor and manage this portfolio to avoid excessive runoff. Time deposits greater than $0.1 million increased 11.4%, or $141.4 million, from December 31, 2010 to September 30, 2011. This increase is primarily the result of the acquisition of brokered certificates of deposit at very favorable rates.

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Shareholders’ Equity

Repurchase of Warrant from the U.S. Treasury

On January 19, 2011, we repurchased the warrant that was issued to the U. S. Treasury on December 12, 2008 in conjunction with our participation in the TARP Capital Purchase Program. The warrant entitled the U.S. Treasury to purchase up to 3.0 million shares of Susquehanna’s common stock at a price of $14.86 per share. We paid $5.3 million to the Treasury to repurchase the warrant. The repurchase of the warrant concluded our participation in the Capital Purchase Program.

Capital Adequacy

Capital elements are segmented into two tiers. Tier 1 capital represents shareholders’ equity plus junior subordinated debentures, reduced by excludable intangibles. Tier 2 capital represents certain allowable long-term debt, the portion of the allowance for loan and lease losses and the allowance for credit losses on off-balance-sheet credit exposures equal to 1.25% of risk-adjusted assets, and 45% of the unrealized gain on equity securities. The sum of Tier 1 capital and Tier 2 capital is “total risk-based capital.” Tier 1 common and tangible common equity include only common equity.

In September 2010, the Basel Committee on Banking Supervision released revisions to recommended capital requirements, which are referred to as Basel III. Our capital ratios are well in excess of these new requirements. These new ratio requirements are still considered preliminary, and there is a prolonged implementation time frame. We will monitor any proposed modifications or clarifications of these benchmarks.

Our capital ratios are as follows:

Table 8. Regulatory Capital Ratios

	At September 30, 2011			Well-capitalized Threshold			Preliminary Minimum Basel III Requirements
Tangible Common Ratio (1)		7.74	%		N/A			N/A
Tier 1 Common Ratio		9.81	%		N/A			7.0	%
Leverage Ratio		10.39	%		5.0	%		4.0	%
Tier 1 Capital Ratio		12.86	%		6.0	%		8.5	%
Total Risk-based Capital Ratio		14.93	%		10.0	%		10.5	%

(1) Includes deferred tax liability of $40.3 million associated with intangibles.

Loss Contingency

In September 2010, Lehman Brothers Special Financing Inc. (“LBSF”) filed suit in the United States Bankruptcy Court for the Southern District of New York against certain indenture trustees, certain special-purpose entities (issuers) and a class of noteholders and trust certificate holders who received distributions from the trustees, including Susquehanna, to recover funds that were allegedly improperly paid to the noteholders in forty-seven separate collateralized debt obligation transactions (“CDO”). In June 2007, two of our affiliates each purchased $5.0 million in AAA rated Class A Notes of a CDO offered by Lehman Brothers Inc. Concurrently with the issuance of the notes, the issuer entered into a credit swap with LBSF. Lehman Brothers Holdings Inc. (“LBHI”) guaranteed LBSF’s obligations to the issuer under the credit swap. When LBHI filed for bankruptcy in September 2008, an Event of Default under the indenture occurred, and the trustee declared the notes to be immediately due and payable. Susquehanna was repaid its principal on the notes in September 2008. This legal proceeding is in the early stages of discovery; thus it is not yet possible for us to estimate potential loss, if any. Management, after

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consultation with legal counsel, currently does not anticipate that the aggregate liability, if any, arising out of this proceeding, will have a material adverse effect on our financial position, or cash flows, although, at the present time, management is not in a position to determine whether such proceeding will have a material adverse effect on our results of operations in any future quarterly reporting period.

Recently Adopted or Issued Accounting Guidance

For information about the impact that recently adopted or issued accounting guidance will have on our financial statements, refer to “Note 1. Accounting Policies” to the financial statements appearing in Part I, Item 1, of this Quarterly Report on Form 10-Q.

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

The types of market risk exposures generally faced by banking entities include equity market price risk, liquidity risk, interest rate risk, foreign currency risk, and commodity price risk.

Due to the nature of our operations, foreign currency risk is not significant to us. However, in addition to general banking risks, we have other risks that are related to vehicle leasing and asset securitizations.

Equity Market Price Risk

Equity market price risk is the risk related to market fluctuations of equity prices in the securities markets. While we do not have significant equity market price risk in our investment portfolio, market price fluctuations may affect fee income generated through our asset management operations. Generally, our fee structure is based on the market value of assets being managed at specific time frames. When market values decline, our fee income also declines.

Liquidity Risk

The maintenance of adequate liquidity — the ability to meet the cash requirements of our customers and other financial commitments — is a fundamental aspect of our asset/liability management strategy. Our policy of diversifying our funding sources — purchased funds, repurchase agreements, and deposit accounts — allows us to avoid undue concentration in any single financial market and also to avoid heavy funding requirements within short periods of time. At September 30, 2011, our bank subsidiary had approximately $690.9 million available under a collateralized line of credit with the Federal Home Loan Bank of Pittsburgh; and approximately $538.1 million more would have been available provided that additional collateral had been pledged. Furthermore, at September 30, 2011, we had unused federal funds lines of $1.1 billion.

In addition, we have pledged certain auto leases, certain auto loans, certain commercial finance leases, and certain investment securities to obtain collateralized borrowing availability at the Federal Reserve’s Discount Window. At September 30, 2011, we had unused collateralized availability of $975.0 million.

Liquidity, however, is not entirely dependent on increasing our liability balances. Liquidity is also evaluated by taking into consideration maturing or readily marketable assets. Unrestricted short-term investments totaled $31.0 million at September 30, 2011 and represented additional sources of liquidity.

Management believes these sources of liquidity are sufficient to support our banking operations.

Interest Rate Risk

The management of interest rate risk focuses on controlling the risk to net interest income and the associated net interest margin as the result of changing market rates and spreads. Interest rate sensitivity is the matching or mismatching of the repricing and rate structure of the interest-bearing assets and liabilities. Our goal is to control risk exposure to changing rates within management’s accepted guidelines to maintain an acceptable level of risk exposure in support of consistent earnings.

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We employ a variety of methods to monitor interest rate risk. These methods include basic gap analysis, which points to directional exposure, routine rate shock simulation, and evaluation of the change in economic value of equity. Board-directed guidelines have been adopted for both the rate shock simulations and economic value of equity exposure limits. By dividing the assets and liabilities into three groups, fixed rate, floating rate and those which reprice only at our discretion, strategies are developed to control the exposure to interest rate fluctuations.

Our policy, as approved by our Board of Directors, is designed so that we experience no more than a 15% decline in net interest income and no more than a 30% decline in the economic value of equity for a 300 basis point shock (immediate change) in interest rates. The assumptions used for the interest rate shock analysis are reviewed and updated at least quarterly. Based upon the most recent interest rate shock analysis, we were within the Board’s approved guidelines at an up 300 basis point shock. At September 30, 2011, our asset/liability position was asset sensitive.

Derivative Financial Instruments and Hedging Activities

Our interest rate risk management strategy involves hedging the repricing characteristics of certain assets and liabilities so as to mitigate adverse effects on our net interest margin and cash flows from changes in interest rates. While we do not participate in speculative derivatives trading, we consider it prudent to use certain derivative instruments to add stability to our interest income and expense, to modify the duration of specific assets and liabilities, and to manage our exposure to interest rate movements.

Additionally, we execute derivative instruments in the form of interest rate swaps with commercial banking customers to facilitate their respective risk management strategies. Those derivatives are immediately hedged by offsetting derivative contracts, such that we minimize our net risk exposure resulting from such transactions. We do not use credit default swaps in our investment or hedging operations.

For additional information about our derivative financial instruments, refer to “Note 9. Derivative Financial Instruments” and “Note 11. Fair Value Disclosures” to the financial statements appearing in Part I, Item 1, of this Quarterly Report on Form 10-Q.

Vehicle Leasing Residual Value Risk

In an effort to manage the vehicle residual value risk arising from the auto leasing business of Hann and our bank subsidiary, Hann and the bank have entered into arrangements with Auto Lenders pursuant to which Hann or the bank, as applicable, effectively transferred to Auto Lenders all residual value risk of its respective auto lease portfolio, and all residual value risk on any new leases originated over the term of the applicable agreement. Auto Lenders, which was formed in 1990, is a used-vehicle remarketer with four retail locations in New Jersey and has access to various wholesale facilities throughout the country. Under these arrangements, Auto Lenders agrees to purchase the beneficial interest in all vehicles returned by the obligors at the scheduled expiration of the related leases for a purchase price equal to the stated residual value of such vehicles. Stated residual values of new leases are set in accordance with the standards approved in advance by Auto Lenders. Under a servicing agreement with

Auto Lenders, Hann also agrees to make monthly guaranty payments to Auto Lenders based upon a negotiated schedule covering a three-year period. At the end of each year, the servicing agreement may be renewed by the mutual agreement of the parties for an additional one-year term, beyond the current three-year term, subject to renegotiation of the payments for the additional year. During the renewal process, we periodically obtain competitive quotes from third parties to determine the best remarketing and/or residual guarantee alternatives for Hann and our bank subsidiary.

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Item 4. Controls and Procedures.

(a) Evaluation of Disclosure Controls and Procedures

Susquehanna’s management, with the participation of Susquehanna’s Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of Susquehanna’s disclosure controls and procedures as of the end of the period covered by this report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures as of the end of the period covered by this report have been designed and are functioning effectively to provide reasonable assurance that the information required to be disclosed by us in reports filed under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms. Susquehanna believes that a control system, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the control system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected.

(b) Change in Internal Control Over Financial Reporting

No change in Susquehanna’s internal control over financial reporting occurred during the most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, Susquehanna’s internal control over financial reporting.

PART II—OTHER INFORMATION

Item 1. Legal Proceedings.

Shareholder Litigation Related to the Merger with Abington

On March 17, 2011, a putative class action lawsuit was filed in the Court of Common Pleas, Montgomery County, Pennsylvania, against the directors of Abington and Susquehanna, RSD Capital vs. Robert W. White, et al., C.A. No. 2011-06590. The lawsuit in Montgomery County alleged that the named Abington directors, in approving the Merger Agreement, tortiously interfered with a contractual relationship between Abington and its shareholders and interfered with a prospective economic advantage of the Abington shareholders. The Complaint also purported to allege that Susquehanna also tortiously interfered with the same contract and alleged prospective economic advantage. Plaintiffs in the Montgomery County lawsuit, among other things, requested an unspecified amount of monetary damages as well as a temporary restraining order with respect to consummation of the merger. The defendants filed Preliminary Objection seeking the dismissal of the complaint. On April 13, 2011, the court sustained defendants’ Preliminary Objections to the complaint, and entered an order dismissing the action against all defendants with prejudice.

On March 25, 2011, a putative class action lawsuit was filed by separate plaintiffs in the Court of Common Pleas, Philadelphia County, Pennsylvania, against Abington, Abington’s directors (other than Jack J. Sandoski) and Susquehanna, Exum, et al. vs. Robert W. White, et al., C.A. No. 110302814. These Plaintiffs had previously made a demand on Abington’s Board of Directors to initiate suit on behalf of Abington and the demand was denied by a committee of Abington’s Board of Directors. The lawsuit in Philadelphia County, which was also brought as a shareholders’ derivative suit on behalf of Abington, alleged, among other things, that the Abington Board of Directors breached its fiduciary duties in connection with its approval of the Merger Agreement in that the consideration offered to Abington’s shareholders in the Merger was alleged to be inadequate and the process used to negotiate the Merger Agreement was alleged to be unfair, and that such breaches of fiduciary duty were exacerbated by preclusive transaction protection devices. The lawsuit also alleged that the disclosure provided in the joint proxy statement/prospectus of Susquehanna and Abington, dated March 18, 2011 (the “Joint Proxy Statement/Prospectus”) and included in the registration statement on Form S-4 filed by Susquehanna with the Securities and Exchange Commission (the “SEC”) (File No. 333-172626), failed to provide required material information necessary for Abington’s shareholders to make a fully informed decision concerning the Merger Agreement and the transactions contemplated thereby. The Philadelphia County complaint also alleged that Susquehanna aided and abetted the Abington Board of Directors in breaching its fiduciary duties. The plaintiffs in Philadelphia County requested, among other things, an unspecified amount of monetary damages and injunctive relief.

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On April 12, 2011, the Plaintiffs in the Philadelphia County lawsuit filed a Stipulation of Dismissal to dismiss Susquehanna from the action. On April 25, 2011, solely to avoid the costs, risks and uncertainties inherent in litigation and without admitting any of the allegations in the Complaint, Abington and the other named defendants entered into a Memorandum of Understanding (“MOU”) with the plaintiffs in the Philadelphia County lawsuit. Susquehanna was also a party to the MOU. Under the terms of the MOU, Abington, the other named defendants, Susquehanna and the plaintiffs have agreed to settle the lawsuit subject to court approval. On October 24, 2011, the court issued an order in which it granted final approval of the settlement, awarded $250,000 in attorney’s fees and expenses, and dismissed the plaintiffs’ claims with prejudice.

Shareholder Litigation Related to the Merger with Tower

On July 1, 2011, a verified shareholder derivative complaint was filed in the Court of Common Pleas of Dauphin County, Pennsylvania, against Tower, the members of its board of directors, and Susquehanna. The complaint in the lawsuit, Stephen Bushansky v. Andrew S. Samuel, et al., C.A. No. 2011-cv-6519 (EQ), asserts that the members of Tower’s board of directors (“Individual Defendants”) breached their fiduciary duties by causing the Tower to enter into the merger and further asserts that Susquehanna aided and abetted those alleged breaches of duties. The complaint seeks, among other relief, an order declaring that the Individual Defendants breached their fiduciary duties, awarding damages on behalf of Tower for the alleged breaches of fiduciary duties by the Individual Defendants (including punitive and actual damages, plaintiff’s counsel’s fees and experts’ fees) and enjoining the merger and the use of any defensive measures under the merger agreement or rescinding the merger (if consummated). On July 21, 2011, Mr. Bushansky served a written demand (the “Bushansky Demand”) on Tower’s board of directors alleging that the transaction was unfair, that the Individual Defendants breached their fiduciary duties and requesting that the Individual Defendants terminate the transaction as structured.

On July 8, 2011, a purported shareholder of Tower, James T. Duffey, served a written demand (“Duffey Demand”) on Tower’s board of directors requesting that the board remedy its alleged failure to engage in an independent and fair process surrounding the merger and requesting the formation of a special committee to renegotiate the terms of the merger. Tower has acknowledged receipt of the Duffey Demand and is in the process of reviewing the request.

On July 25, 2011, a purported shareholder of Tower, Edgar L. Johnston, Jr., served a written demand (“Johnston Demand”) on Tower’s board of directors requesting that the board remedy its alleged failure to engage in an independent and fair process surrounding the merger. Tower has acknowledged receipt of the Johnston Demand and is in the process of reviewing the request.

On September 26, 2011, a class action and derivative complaint was filed in the United States District Court for the Middle District of Pennsylvania against Tower and the members of its board of directors. The complaint in the lawsuit, Edgar L. Johnson, Jr. v. Andrew S. Samuel, et al., Case No. 11-1777, asserts that the members of Tower’s board of directors (“Individual Defendants”) breached their fiduciary duties by causing the Tower to enter into the Tower Merger and further asserts that Tower aided and abetted those alleged breaches of duties (the “Tower Federal Action”). The lawsuit also alleges that the disclosure provided in the joint proxy statement/prospectus of Susquehanna and Tower (the “Tower Joint Proxy/Prospectus”) included in the registration statement on Form S-4 filed by Susquehanna with the SEC (File No. 333-176367), failed to provide required material information necessary for Tower’s shareholders to make a fully informed decision concerning the Tower Merger in violation of Section 14(a) of the Exchange Act. The complaint seeks, among other relief, an order declaring that the Individual Defendants breached their fiduciary duties and that the Tower Joint Proxy/Prospectus is materially misleading in violation of the Exchange Act, accounting for and awarding damages on behalf of Tower for the alleged breaches of fiduciary duties by the Individual Defendants (including punitive and actual damages, plaintiff’s counsel’s fees and experts’ fees) and enjoining the Tower Merger or rescinding the Tower Merger (if consummated).

On September 28, 2011, solely to avoid the costs, risks and uncertainties inherent in litigation and without admitting any of the allegations in the complaint, Susquehanna, Tower and the other named defendants entered into a Memorandum of Understanding (the “Johnson MOU”). Under the terms of the Johnson MOU, Tower, the other named defendants, Susquehanna and all plaintiffs agreed to settle the Tower Federal Action and Tower State Action, subject to court approval. If the court approves the settlement contemplated in the memorandum, the lawsuits will be dismissed with prejudice. In connection with the settlement, plaintiffs intend to seek an award of attorneys’ fees and expenses not to exceed $332,500 subject to court approval, and Tower and Susquehanna have agreed not to oppose plaintiffs’ application. The amount of the fee award to class counsel will ultimately be determined by the court. This payment will not affect the amount of merger consideration to be paid in the Tower Merger. If the settlement is finally approved by the court, it is anticipated that it will resolve and release all claims in all actions that were or could have been brought challenging any aspect of the Tower Merger, the Tower Merger Agreement, and any disclosure made in connection therewith. There can be no assurance that the parties will ultimately enter in to a stipulation of settlement or that the court will approve the settlement even if the parties were to enter into such stipulation. In such event, the proposed settlement as contemplated by the Johnson MOU may be terminated.

Other Legal Proceedings

From time to time, Susquehanna receives subpoenas and other requests for information from various federal and state governmental and regulatory authorities in connection with certain industry-wide, company-specific or other investigations or proceedings. Susquehanna’s policy is to fully cooperate with such inquiries. Susquehanna and certain of its subsidiaries have been named as defendants in various legal actions arising in connection with Susquehanna’s business activities. Management, after consultation with legal counsel, currently

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does not anticipate that the aggregate liability, if any, arising out of legal proceedings or regulatory matters will have a material adverse effect on Susquehanna’s financial position or cash flows, although, at the present time, management is not in a position to determine whether any pending or threatened matters will have a material adverse effect on Susquehanna’s results of operations in any future quarterly reporting period.

Item 1A. Risk Factors.

There have been no material changes to the risk factors disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2010. In addition to those risk factors, Susquehanna shareholders carefully should consider the following additional risk factors:

Risks relating to our Shareholders in Connection with the Merger with Tower

Changes in the price of our common stock prior to completion of the merger of Tower with and into Susquehanna (the “Tower Merger”) may require that we adjust the “exchange ratio,” which would have an incremental dilutive effect on the ownership interests of each Susquehanna shareholder in the combined company following the Tower Merger.

The merger agreement between Susquehanna and Tower (the “Tower Merger Agreement”) provides that Tower shareholders will have the opportunity to elect to receive in exchange for each share of Tower common stock they own immediately prior to completion of the Tower Merger a cash payment of $28.00 or the right to receive a number of shares of Susquehanna common stock equal to an “Exchange Ratio.” At the time the Tower Merger Agreement was signed, the Exchange Ratio was set at 3.4696.

If the average closing price of Susquehanna common stock for the 20 consecutive trading days prior to the third day immediately prior to the effective time of the merger is less than $6.46 (representing a 20% decline from a starting price of $8.07) and if the decline on a percentage basis in the average closing price of Susquehanna common stock from $8.07 is at least 20% more than the change in the Nasdaq Bank Index (as measured by comparing its closing price on June 17, 2011, the last trading day prior to the announcement of the Tower Merger Agreement, to the average closing price of the Nasdaq Bank Index for the 20 consecutive trading days prior to the third day prior to the effective time of the merger, referred to herein as a threshold decline in the Susquehanna stock price, Tower will have the right to terminate the Tower Merger Agreement. If Tower provides notice that it has elected to exercise this termination right, Susquehanna may increase the Exchange Ratio or agree to pay more cash to Tower shareholders so that the aforementioned conditions would be deemed not to have been triggered, and the Tower Merger Agreement will remain in effect.

Any such adjustment to the Exchange Ratio would increase the total number of shares of Susquehanna common stock issued to Tower shareholders, which would have a dilutive effect on the relative ownership interest of each Susquehanna shareholder in the combined company. Accordingly, at the time of the Special Meeting, our shareholders will not be able to assess whether and to what extent Susquehanna common stock issued in the Tower Merger will impact their relative holdings in the combined company following the Tower Merger.

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

None.

Item 3. Defaults Upon Senior Securities.

None.

Item 4. Reserved

Item 5. Other Information.

None.

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Item 6. Exhibits.

The Exhibits filed as part of this report are as follows:

2.1	Agreement and Plan of Merger between Susquehanna and Tower Bancorp, Inc., dated June 20, 2011 and amended on September 28, 2011, incorporated by reference to the conformed version filed as Annex A to the Joint Proxy Statement / Prospectus on Form S-4, filed October 3, 2011.
3.1	Amended and Restated Articles of Incorporation, dated May 6, 2011, incorporated by reference to Exhibit 3.1 to Susquehanna’s Quarterly Report on Form 10-Q, Filed August 8,2011.
3.2	Amended and Restated By-Laws, dated February 24, 2011, incorporated by reference to Exhibit 3.1 of Susquehanna’s Current Report on Form 8-K, filed March 2, 2011.
31.1	Rule 13a-14(a)/15d-14(a) Certification by Chief Executive Officer is filed herewith as Exhibit 31.1.
31.2	Rule 13a-14(a)/15d-14(a) Certification by Chief Financial Officer is filed herewith as Exhibit 31.2.
32	Section 1350 Certifications are filed herewith as Exhibit 32.
The Exhibits furnished** as part of this report are as follows:
101.INS	XBRL Instance Document.**
101.SCHXBRL	Taxonomy Extension Schema Document.**
101.CAL	XBRL Taxonomy Extension Calculation Linkbase Document.**
101.LAB	XBRL Taxonomy Extension Label Linkbase Document.**
101.PRE	XBRL Taxonomy Extension Presentation Linkbase Document.**
101.DEF	XBRL Taxonomy Extension Definitions Linkbase Document.**

** These interactive data files are being furnished as part of this Current Report, and, in accordance with Rule 402 of Regulation S-1, shall not be deemed filed for purposes of Section 11 or 12 of the Securities Act of 1933, as amended, or Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to liability under those sections.

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SIGNATURES

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

	SUSQUEHANNA BANCSHARES, INC.
November 4, 2011	/s/ William J. Reuter
	William J. Reuter
	Chairman and Chief Executive Officer
November 4, 2011	/s/ Drew K. Hostetter
	Drew K. Hostetter
	Executive Vice President, Treasurer, and Chief Financial Officer

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EXHIBIT INDEX

Exhibit Numbers	Description and Method of Filing
2.1	Agreement and Plan of Merger between Susquehanna and Tower Bancorp, Inc., dated June 20, 2011 and amended on September 28,2011, incorporated by reference to the conformed version filed as Annex A to the Joint Proxy Statement / Prospectus on Form S-4, filed October 3, 2011.
3.1	Amended and Restated Articles of Incorporation, dated May 6, 2011, to Susquehanna’s Quarterly Report on Form 10-Q, filed August 8, 2011.
3.2	Amended and Restated By-Laws, dated February 24, 2011, incorporated by reference to Exhibit 3.1 of Susquehanna’s Current Report on Form 8-K, filed March 2, 2011.
31.1	Rule 13a-14(a)/15d-14(a) Certification by Chief Executive Officer is filed herewith as Exhibit 31.1.
31.2	Rule 13a-14(a)/15d-14(a) Certification by Chief Financial Officer is filed herewith as Exhibit 31.2.
32	Section 1350 Certifications are filed herewith as Exhibit 32.
101.INS	XBRL Instance Document. **
101.SCHXBRL	Taxonomy Extension Schema Document.**
101.CAL	XBRL Taxonomy Extension Calculation Linkbase Document.**
101.LAB	XBRL Taxonomy Extension Label Linkbase Document.**
101.PRE	XBRL Taxonomy Extension Presentation Linkbase Document.**
101.DEF	XBRL Taxonomy Extension Definitions Linkbase Document.**

** These interactive data files are being furnished as part of this Current Report, and, in accordance with Rule 402 of Regulation S-1, shall not be deemed filed for purposes of Section 11 or 12 of the Securities Act of 1933, as amended, or Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to liability under those sections.

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