The Company (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 Company was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

The Registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2)

The number of outstanding shares of Common Stock of Fidelity D & D Bancorp, Inc. at October 31, 2003, the latest practicable date, was 1,819,379 shares.

FIDELITY D & D BANCORP, INC.

FORM 10-Q SEPTEMBER 30, 2003

INDEX

FIDELITY D & D BANCORP, INC.
CONSOLIDATED BALANCE SHEET
As of September 30, 2003 and December 31, 2002

See notes to consolidated financial statements

FIDELITY D & D BANCORP, INC.
CONSOLIDATED STATEMENT OF INCOME
(Unaudited)

See Notes to Consolidated Financial Statements.

FIDELITY D & D BANCORP, INC.
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
For the Nine Months Ended September 30, 2003 and 2002
(Unaudited)

See notes to consolidated financial statements.

Comprehensive income (loss) for the three months ended September 30, 2003 and September 30, 2002 was ($100,368) and $1,387,985, respectively.

FIDELITY D & D BANCORP, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
For the Nine Months Ended September 30, 2003 and 2002
(Unaudited)

See notes to consolidated financial statements.

FIDELITY D & D BANCORP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1. Nature of Operations and Critical Accounting Policies

      Principles of Consolidation

The accompanying unaudited consolidated financial statements of Fidelity D&D Bancorp, Inc., and its wholly owned subsidiary, The Fidelity Deposit & Discount Bank (Bank), (collectively, the Company) have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP), for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all normal recurring adjustments necessary for a fair presentation of the financial position and results of operations for the periods have been included. All significant inter-company balances and transactions have been eliminated in the consolidation. Prior period amounts are reclassified when necessary to conform to the current year’s presentation.

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported periods. Actual results could differ from those estimates. For additional information and disclosures required under GAAP, please refer to the Company’s Annual Report on Form 10-K for the year ended December 31, 2002.

      Nature of Operations

The Bank is a commercial bank chartered by the Commonwealth of Pennsylvania. Having commenced operations in 1903, the Bank provides a full range of traditional banking services, trust services and alternative financial products from its main office located in Dunmore and other branches throughout Lackawanna and Luzerne counties.

Management is responsible for the fairness, integrity and objectivity of the unaudited financial statements included in this report. Management prepared the unaudited financial statements in accordance with GAAP. In meeting its responsibility for the financial statements, management depends on the Company’s accounting systems and related internal controls. These systems and controls are designed to provide reasonable, but not absolute, assurance that the financial records accurately reflect the transactions of the Company, the Company’s assets are safeguarded and that financial statements present fairly the financial position and results of operations of the Company.

In the opinion of management, the consolidated balance sheets as of September 30, 2003 and December 31, 2002 present fairly the consolidated financial position of the Company as of those dates. The related statements of income, changes in shareholders’ equity and cash flows for the nine months ended September 30, 2003 and 2002, present fairly the consolidated results of its operations and its cash flows for the periods then ended. All material adjustments required for fair presentation have been made. These adjustments are of a normal recurring nature. There have been no material changes in accounting principles, practices or in the method of application and there have been no retroactive adjustments during this period.

This Quarterly Report on Form 10-Q should be read in conjunction with the Company’s audited financial statements for the year ended December 31, 2002 and the notes included therein, included within the Company’s Annual Report on Form 10-K. The results of operations for interim periods are not necessarily indicative of the results of operations to be expected for the entire year.

      Critical Accounting Policies

The presentation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect many of the reported amounts and disclosures. Actual results could differ from these estimates.

A material estimate that is particularly susceptible to significant change is the determination of the allowance for loan losses. Management believes that the allowance for loan losses is adequate and reasonable. The Company’s methodology for determining the allowance for loan losses is described in “Allowance for Loan Losses” within Management’s Discussion and Analysis. Given the very subjective nature of identifying and valuing loan losses, it is likely that well-informed individuals could make materially different assumptions, and could, therefore calculate a materially different allowance value. While management uses available information to recognize losses on loans, changes in economic conditions may necessitate revisions in the future. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance for loan losses. Such agencies may require the Company to recognize adjustments to the allowance based on their judgments of information available to them at the time of their examination.

Another material estimate is the calculation of fair values of the Company’s investment securities. The Company receives estimated fair values of investment securities from an independent valuation service through a broker. In developing these fair values, the valuation service uses estimates of cash flows based on historical performance of similar instruments in similar interest rate environments. Based on experience, management is aware that estimated fair values of investment securities tend to vary among valuation services. Accordingly, when selling investment securities, management typically obtains price quotes from more than one source. The majority of the Company’s investment securities are classified as available-for-sale. Accordingly, these securities are carried at fair value on the consolidated balance sheet, with unrealized gains and losses, net of income tax, excluded from earnings and reported separately through accumulated other comprehensive income, which is included within shareholders’ equity.

The fair value of residential mortgage loans classified as available-for-sale is obtained from the Federal National Mortgage Association (Fannie Mae). The fair value of SBA loans classified as available-for-sale is obtained from an outside pricing source. The market to which the Bank sells mortgage and other loans is restricted and price quotes from other sources are not typically obtained.

2. Earnings per Share

Basic earnings per share is computed by dividing net income by the weighted average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted average number of common shares plus the incremental number of shares issuable from the exercise of stock options, calculated using the treasury stock method.

The following data shows the amounts used in computing earnings per share and the effects on income and the weighted average number of shares of dilutive potential common stock for the nine months ended September 30, 2003 and 2002.

3. Stock Compensation Plans

As permitted by Accounting Principles Board Opinion No. 25, the Company uses the intrinsic value method of accounting for stock compensation plans. Using the intrinsic value method, compensation cost is measured by the excess of the quoted market price of the stock, as of the grant date (or other measurement date) over the amount an employee or director must pay to acquire the stock. Stock options issued under the Company’s stock option plans have no intrinsic value, and accordingly, no compensation cost is recorded for them.

The alternative fair value method of accounting for stock-based compensation provided under FASB Statement No. 123, Accounting for Stock-Based Compensation, requires the use of option valuation models, such as the Black-Scholes model, that were not developed for use in valuing employee stock options. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded short-term options, which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company’s employee stock options have characteristics significantly different from those of traded options and because changes in the subjective input assumptions can materially affect the fair value estimate, in management’s option, the existing models do no necessarily provide a reliable single measure of the fair value of its employee stock options at the time of grant.

The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value provisions of Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation,” to stock options.

4. Bank Owned Life Insurance

The Bank invested in bank owned life insurance (BOLI) with the intent that the tax-free earnings from the increase in cash surrender value will be used to offset employee benefit expenses. BOLI involves the purchasing of life insurance by the Bank on a chosen group of employees. The Bank is the owner and beneficiary of the policies. The tax-free income generated from the increase in cash surrender value of the policies is included in other income on the income statement. A more detailed discussion of BOLI is included in “Managements Discussion and Analysis”, below.

FIDELITY D & D BANCORP, INC.

        The following is management’s discussion and analysis of the significant changes in the results of operations for the three and nine months ended September 30, 2003 as compared to the same periods in 2002 and changes in the balance sheet from December 31, 2002 to September 30, 2003. Current performance may not be indicative of future performance. This discussion should be read in conjunction with the Company’s 2002 Annual Report on Form 10-K.

        STATEMENTS REGARDING FORWARD-LOOKING INFORMATION – This document, both in Management’s Discussion and Analysis and elsewhere, contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements are not historical facts and include expressions about management’s confidence and strategies and management’s expectations about new and existing programs and products, relationships, opportunities, technology and market conditions. These statements may be identified by such forward-looking terminology as “expect”, “look”, “believe”, “anticipate”, “consider”, “may”, “will”, or similar statements or variations of such terms. Forward-looking statements involve certain risks and uncertainties. Actual results may differ materially from the results discussed in these forward-looking statements. Factors that may cause actual results to differ materially from those contemplated by the forward-looking statements include, among others,

• Unexpected changes in interest rates,
• Deterioration in economic conditions,
• Deterioration in deposit and loan volume trends,
• Deterioration in levels of loan quality,
• Failure to realize expected cost savings or revenue enhancements from changes in business models and acquisitions,
• The continued existence and availability of tax credits, especially its Section 29 credits and other tax advantaged investments,
• The effects of legal, tax and regulatory provisions applicable to the Company,
• The risk that management’s analysis of these risks and forces could be incorrect and/or that the strategies developed to address them could be unsuccessful.

        Management cautions readers not to place undue reliance on the forward-looking statements, which reflect analysis only as of this date. Management is not obliged to publicly revise or update these forward-looking statements to reflect events or circumstances that arise after this date. Readers should carefully review the risk factors described in other documents that we file, from time to time, with the Securities and Exchange Commission, including Annual Reports on Form 10-K and any Current Reports on Form 8-K.

        Net income was $685,000 or $0.38 per common share, on a diluted basis, for the three months ended September 30, 2003. This represents a decrease of $248,000 or 27% from the net income of $933,000 or $0.51 per common share, on a diluted basis, reported for the same period in 2002. Net interest income was $722,000 lower in 2003 compared to 2002 due to reduced net interest rate spread and margin. Interest yielding assets re-priced lower, while certain long-term time deposits and borrowings, due to the contractual time frame, lagged in the corresponding reduction of rates paid on the interest-bearing liabilities. Our net interest rate spread decreased 32 basis points from 2.52%, for the three months ended September 30, 2002, to 2.20% for the three months ended September 30, 2003. Our net interest margin decreased 40 basis points from 3.02%, for the three months ended September 30, 2002, to 2.62% for the three months ended September 30, 2003. Other non-interest income was $284,000 or 38% higher for the three months ended September 30, 2003, compared to the same period in 2002. Other income was higher, in 2003, due primarily to increased collection of service charges on deposit accounts, increase in the cash surrender value of bank owned life insurance, and gains on the sales of loans. Other operating expenses were $97,000 or 3% lower for the three months ended September 30, 2003 compared to the same period in 2002. Salaries and benefits and premises and equipment expenses continue to trend higher due in part to the general inflationary increases in employee benefit costs, the branch addition and core processing system conversion, which occurred late in 2002. Other operating expenses have declined primarily from the effect of the accounting treatment for direct loan origination costs.

        Net income was $2,495,000 or $1.37 earnings per common share, on a diluted basis, for the nine months ended September 30, 2003. This represents a decrease of $625,000 or 20% from the net income of $3,120,000 or $1.71 earnings per common share, on a diluted basis, reported for the same period in 2002. Net interest income was $1,737,000 lower in 2003 compared to 2002. Net interest rate spread decreased 30 basis points from 2.60%, for the nine months ended September 30, 2002, to 2.30% for the nine months ended September 30, 2003. Net interest margin decreased 36 basis points from 3.09% for the nine months ended September 30, 2002, to 2.73% for the nine months ended September 30, 2003. Other non-interest income was $550,000 or 20% higher for the nine months ended September 30, 2003 compared to the same period in 2002. Other income was higher, in 2003, due primarily to an increased effort to collect service charges and other deposit related fees, increase in the cash surrender value of bank owned life insurance, and gains from the sales of loans and investment securities available for sale. Other operating expenses were $91,000 or 1% lower for the nine months ended September 30, 2003, compared to the same period in 2002. Salaries and benefits and premises and equipment expenses continue to trend higher due in part to the general inflationary increases in employee benefit costs, the branch addition and core processing system conversion, which occurred late in 2002. Other operating expenses have declined primarily from the effect of the accounting treatment for direct loan origination costs.

        Return on average assets and return on average equity on an annualized basis were 0.58% and 7.36%, respectively, for the nine months ended September 30, 2003, compared to 0.72% and 9.89%, respectively, for the same period in 2002.

Net interest income

        Net interest income is the most significant component of our operating income. Net interest income depends upon the levels of interest-earning assets and interest-bearing liabilities and the difference or “spread” between the respective yields earned and rates paid. The interest rate spread is influenced by the overall interest rate environment, composition and characteristics of interest-earning assets and interest-bearing liabilities, and by competition. The interest rate spread is also influenced by differences in the maturity and repricing of assets versus the liabilities that fund them.

        Responding to generally weak economic conditions, the Federal Reserve cut the targeted federal funds rate to 1.00%, in 2003. As a result, the current interest rate environment is at one of its all time historic low levels. The Bank’s interest-earning assets and interest-bearing liabilities continue to originate and reprice in this lower rate environment. The yields on average loans, for the nine months ended September 30, 2003, were 6.13% compared to 6.80%, for the nine months ended September 30, 2002. Similarly, the yields on average investments, for the nine months ended September 30, 2003, were 3.51%, compared to 5.57%, for the nine months ended September 30, 2002, mainly due to the repricing of called securities and the restructuring of the portfolio at current lower rates. The rate on average interest-bearing liabilities declined from 3.82%, for the nine months ended September 30, 2002, to 3.16%, for the same period in 2003, due in part to lower rates on interest-bearing transaction deposits and short-term certificates of deposit. In the current economic environment, we had success in raising non-maturity deposits that are generally less costly than time deposits. Changes in the composition of and reduced yield on our interest-earning assets and relatively stable rates on interest-bearing liabilities combined had a compounded negative effect on the net interest rate spread and margin, for the nine months ended September 30, 2003, compared to the same period in 2002.

        For the three and nine months ended September 30, 2003, net interest income, on a tax-equivalent basis, was $749,000 and $1,830,000 lower, respectively, than for the same periods in 2002. The decrease in net interest income in 2003 was primarily a function of average interest-earning asset decline and a greater reduction in yield on interest-earning assets over the rate savings on average interest-bearing liabilities. The net interest margin, on a tax-equivalent basis, decreased 40 basis points from 3.02%, for the three months ended September 30, 2002, to 2.62%, for the same period in 2003. The net interest rate spread decreased 32 basis points from 2.52%, for the three months ended September 30, 2002, to 2.20%, for the same period in 2003.

        The net interest margin on a tax-equivalent basis decreased 36 basis points from 3.09%, for the nine months ended September 30, 2002, to 2.73%, for the same period in 2003. The net interest rate spread decreased 30 basis points from 2.60%, for the nine months ended September 30, 2002, to 2.30%, for the same period in 2003.

        Average interest-earning assets declined $13,030,000 from $549,237,000, for the nine months ended September 30, 2002, to $536,207,000, for the nine months ended September 30, 2003. Average loan balances increased $3,349,000, while average investments, federal funds sold and average interest-bearing deposits decreased $8,981,000, $7,205,000 and $193,000, respectively. The ratio of average interest-earning assets to average interest-bearing liabilities increased from 114.44%, for the nine months ended September 30, 2002, to 115.61%, for the nine months ended September 30, 2003. The yield on average interest-earning assets and the rate on average interest-bearing liabilities decreased 96 basis points and 66 basis points, respectively, due to the decline in overall interest rates. The decrease in rate on average interest-bearing liabilities is mostly due to the repricing of short-term certificates of deposit in the lower interest rate environment and the change in deposit mix. Short-term borrowings and repurchase agreements also re-priced lower during 2003.

        The following tables set forth, for the periods indicated, certain average balance sheet amounts and their corresponding full tax-equivalent earnings or expenses and annualized tax-equivalent yields or rates:

AVERAGE BALANCES, INTEREST INCOME AND EXPENSE AND YIELDS / RATES SUMMARY

(Dollars in Thousands)

Provision for loan losses

        The provision for loan losses represents the amount necessary to be charged to operations to bring the allowance for loan losses to a level that represents management’s best estimate of known and inherent losses in the Bank’s loan portfolio. Loans and leases determined to be uncollectible are charged-off against the allowance for loan loss.

        The amount of the provision for loan losses and the amount of the allowance for loan losses is subject to ongoing analysis of the loan portfolio. The Bank maintains a Special Asset Committee which meets periodically to review problem loans and leases. The committee is comprised of Bank management, including the credit administration officer, loan workout officer, and collection personnel. The committee reports quarterly to the Credit Administration Committee of the Board of Directors.

        Management continuously reviews the risks inherent in the loan and lease portfolio. Specific factors used to evaluate the adequacy of the loan loss provision during the formal process include:

• Specific loans that could have loss potential
• Levels of and trends in delinquencies and non-accrual loans
• Levels of and trends in charge-offs and recoveries
• Trends in volume and terms of loans
• Changes in risk selection and underwriting standards
• Changes in lending policies, procedures and practices
• Experience, ability and depth of lending management
• National and local economic trends and conditions
• Changes in credit concentrations

        The provision for loan losses was $300,000, for the three months ended September 30, 2003, compared to $220,000, for the same period in 2002. The amount of the loan loss provision, for the three months ended September 30, 2003, was driven by the risk profile of the portfolio rather than an increase in loan volume. During the three months ended September 30, 2003, total gross loans fell $3,263,000, compared to a $229,000 reduction, for the same period in 2002. The net decline in loans occurred because of the sale of conforming conventional residential mortgage loans during the third quarter of 2003. Non-performing loans, which consist of loans past due 90 days and over and non-accrual loans, were $10,272,000 at September 30, 2003, compared to $7,428,000, at September 30, 2002. The rise in non-performing loans resulted from increased commercial and mortgage delinquency and from increased commercial non-accrual loans. During 2003, non-accrual loans increased primarily due to the addition of three commercial relationships. Full liquidation of one of these relationships should be completed during the fourth quarter of 2003.

        For the nine months ended September 30, 2003, the provision for loan losses was $1,060,000 or $116,000 lower than the $1,176,000 recorded during the comparable period in 2002. Net charge-offs were $1,177,000 and $1,057,000, for the nine months ended September 30, 2003, and 2002. Total gross loans fell $2,972,000, during the nine months ended September 30, 2003, compared to growth of $11,157,000 during the same period in 2002. Net charge-offs remained high in the commercial portfolio and increased substantially in the mortgage portfolio. Gross loans fell in 2003 from the sale of conventional conforming residential mortgages, which attributed to the overall reduction in the current year’s provision.

        The loan loss allowance as a percentage of total loans was 0.98% at September 30, 2003 as compared to 1.00% at September 30, 2002.

Other income

        Other income consists primarily of service charges and other deposit related fees, fees from trust and financial services, increase in the cash surrender value of bank owned life insurance and gains (losses) on the sale of investment securities available-for-sale, loans held for sale and foreclosed assets held for sale.

        For the three months ended September 30, 2003, other income was $1,021,000 or $284,000 higher than the $737,000 recorded during the same period in 2002. Of this increase, $234,000 pertained to service charge activities related to deposit accounts, $90,000 from the increase in the cash surrender value of bank owned life insurance and $79,000 pertained to the gain on the sale of loans. We recorded no gains or losses on the sale of investment securities available-for-sale during the three months ended September 30, 2003, compared to $1,000 loss in 2002. In addition, we recognized $57,000 and $20,000 in losses on the sale of full-term leased assets and foreclosed assets held for sale, during the third quarter of 2003, compared to $3,000 and $83,000 in losses, respectively, during the third quarter of 2002.

        For the nine months ended September 30, 2003, other income was $3,238,000 or $550,000 higher than the $2,688,000, recorded during the same period in 2002. Of this increase, $512,000 pertained to service charge activities related to deposit accounts, which have grown considerably during 2003, $202,000 from the increase in the cash surrender value of bank owned life insurance and $188,000 pertained to the gain on the sale of loans. During 2003, we recorded $214,000 in gains on the sale of investment securities available for sale, compared to $59,000 during 2002. Also, we recorded $147,000 and $20,000 in losses on the sale of full-term leased assets and foreclosed assets held for sale, in 2003, compared to $12,000 and $10,000, respectively, in losses in 2002. Other income classifications were $362,000 lower from exiting certain unprofitable lines of business during 2002 and increased amortization of mortgage servicing rights. Gross earnings recorded during 2002, such as fees from providing merchant in-house processing, had no corresponding earnings recorded in 2003. Another reduction in other income during 2003 was the significantly increased amortization of mortgage servicing rights, due to mortgage re-financings, caused by the historically low interest rates, of sold loans within the Bank’s servicing portfolio.

Other operating expense

        For the three months ended September 30, 2003, other operating expenses were $3,205,000 or $97,000 lower than the $3,302,000, recorded during the same period in 2002. For the nine months ended September 30, 2003, other operating expenses were $9,514,000 or $91,000 lower than the $9,605,000, recorded during the same period in 2002.

        Salaries and benefits were $54,000 higher in the third quarter of 2003 compared to the same period in 2002. Premises and equipment expenses increased $16,000 primarily due to the increased depreciation expense on the growth of the branch network and on the core processing computer system. Advertising expenses decreased $14,000 or 11% because of reduced advertising space purchased and using lower cost advertising approaches at branch locations. Other expenses, which consist primarily of professional services, office supplies, printing and postage, data processing, employee travel, meals and entertainment, and Board of Directors’ fees, decreased $153,000 or 18% compared to the third quarter of 2002. Of this decrease, $75,000 pertained to the accounting treatment for direct loan origination costs.

        Salaries and benefits were $145,000 or 3% higher for the nine months ended September 30, 2003 compared to the same period in 2002. This increase was principally due to inflationary increases in salary and benefit expenses and increased commission paid. Premises and equipment expenses increased $201,000 primarily due to the increased depreciation expense on the growth of the branch network and on the core processing computer system, along with corresponding insurance and lease expense increases. Advertising expenses decreased $58,000 or 18% from the overall reduction of advertising space purchased during the nine months ended September 30, 2003. Other expenses decreased $379,000 or 20% in 2003 compared to 2002. This decrease pertained to the accounting treatment of $453,000 in direct loan origination costs resulting from the loans closed during 2003. Excluding this accounting treatment, other expenses have increased for the nine months ended September 30, 2003 as compared to the same period during 2002 primarily due to the increased professional services resulting from required legal and audit services.

Income tax provision

        The difference between the expected provision and actual provision for income taxes is primarily due to tax-free interest income and use of low-income housing tax credits.

        We recorded $183,000 tax provision representing an effective tax rate of 21% for the three months ended September 30, 2003 compared to $357,000 or 28% for the same period in 2002. We recorded a $783,000 tax provision representing an effective tax rate of 24% for the nine months ended September 30, 2003 compared to $1,138,000 or 27% for the same period in 2002. The effective tax rates for the three and nine months ended September 30, 2003 were lower than the comparable periods in 2002 due principally to total tax-free earnings representing a larger percentage of pre-tax earnings.

2. FINANCIAL CONDITION

        Consolidated assets decreased $9,514,000 or 1.6%, during the nine months ended September 30, 2003, to $568,475,000. Life insurance cash surrender value increased by $7,202,000, during the nine months ended September 30, 2003. The asset decline resulted from $4,383,000 decrease in deposits, mostly certificates of deposit of $100,000 or more and $3,484,000 reduction in short-term borrowings. Cash and cash equivalents, investments and loans available-for-sale decreased $2,598,000, $10,147,000 and $4,851,000, respectively, during the nine months ended September 30, 2003. Securities sold under repurchase agreements decreased $947,000. Shareholders’ equity increased $41,000 from $45,234,000, at December 31, 2002, to $45,275,000, at September 30, 2003. This increase was attributable to net increase of $1,293,000 in earnings after payment of dividends, $110,000 increase in common stock from shares issued under the employee stock purchase and dividend re-investment plans, a $1,255,000 reduction in the estimated fair value of investment securities available-for-sale, net of tax, and $107,000 increase in treasury stock.

Investment securities

        Investment policies dictate permissible investment categories, credit quality, maturity intervals and investment concentrations. Management is responsible for making the specific investment purchases within these standards. The carrying value of investment securities, at September 30, 2003, was $139,888,000 or 25% of total assets. At September 30, 2003 approximately 60% of the investment portfolio was comprised of mortgage-backed securities that amortize and provide monthly cash flow. Agency bonds and municipal bonds comprised 25% and 9% of the investment portfolio, respectively.

        Management buys and sells investment securities from time to time depending on market conditions, business trends, liquidity, and capital levels. Investment security purchases provide a way to quickly invest excess liquidity in order to generate additional earnings. The Bank generally earns a positive interest spread by assuming interest rate risk and using deposits and/or borrowings to purchase securities with longer maturities.

        Management classifies investment securities at the time of purchase by one of three categories: trading, available for sale (AFS) or, held to maturity (HTM). To date, management has not purchased any securities for trading purposes. Management classifies most securities as AFS even though it has no immediate intent to sell them. The AFS designation affords management the flexibility to sell securities and adjust the balance sheet in response to capital levels, liquidity needs and/or changes in market conditions. Securities AFS are marked to market in the consolidated balance sheet with an adjustment to equity, net of tax that is presented in the caption “Accumulated other comprehensive income (loss).

        At September 30, 2003, the AFS portfolio had an estimated market appreciation of $15,000 before tax and an equity adjustment of $10,000, net of tax. This represents a $1,255,000 reduction in the estimated fair value of securities AFS, net of tax, over the prior year-end. This reduction occurred due to the addition of securities in this low rate environment, in which these underlying securities will de-value temporarily as corresponding market yields increase.

        At September 30, 2003, the contractual maturities of securities held-to-maturity and available-for-sale are listed below. Federal agency securities are listed based upon their stated maturities. Mortgage backed securities, which are based upon weighted-average lives and subject to monthly principal reductions, are listed in total. Equity securities have no stated maturity dates and are also listed in total.

Loans available-for-sale

        The balance of loans available-for-sale was $23,864,000, at September 30, 2003, compared to $28,715,000, at December 31, 2002. The $4,851,000 decrease in loans available-for-sale relates to the timing of residential mortgage loan originations versus their sale.

        Residential mortgages, SBA loans and student loans of $22,362,000 and $21,105,000 were sold, during the nine months ended September 30, 2003 and 2002, respectively. Residential mortgage originations and sales are significantly influenced by the interest rate environment.

Loans and leases

        Loans and leases increased from $358,162,000, at December 31, 2002, to $360,041,000, at September 30, 2003.

        We originate a wide variety of loans primarily to small to mid-sized businesses and professionals. Our policies as well as applicable laws and regulations require risk analysis and ongoing portfolio and credit management. The majority of our loan portfolio is collateralized, at least in part, by real estate in the greater Lackawanna and Luzerne counties of Pennsylvania. Real estate values are typically subject to risks associated with the general economy, among other matters.

        Inherent in the lending function is the evaluation and acceptance of credit risk and interest rate risk. We manage credit risk through portfolio diversification, underwriting policies and procedures, and loan monitoring practices. We manage interest rate risk using various asset/liability modeling techniques and analyses. Most loans are adjustable rate that reset in intervals of five years or less. When possible, the Bank originates strictly variable rate loans.

The following table reflects the composition of the loan portfolio:

Allowance for loan losses

        Management continually evaluates the credit quality of the Bank’s loan portfolio and performs a formal review of the allowance for loan loss adequacy, on a quarterly basis. The allowance for loan loss reflects management’s best estimate of losses, both known and inherent, in the existing loan portfolio. Management’s judgment is based on the evaluation of individual loans, past experience, the assessment of current economic conditions, and other relevant factors. The provision for loan losses represents the amount necessary to maintain an appropriate allowance. Loan losses are charged directly against the allowance for loan losses when loans are deemed to be uncollectible. Recoveries on previously charged-off loans are added to the allowance when received.

        Management applies two primary components during the loan review process to determine proper allowance levels. The two levels are specific loan loss allocation for loans that are deemed impaired and a general loan loss allocation for those loans not specifically allocated. The methodology to analyze the adequacy of the allowance for loan losses is as follows:

• Identification of specific problem loans by loan category by the credit administration
• Calculation of specific reserves required based on collateral and other persuasive evidence
• Identification of loans collateralized by cash
• Determination of remaining homogenous pools by loan category and eliminating loans collateralized by cash and loans with specific reserves
• Application of historical loss percentages (3 year average) to pools to determine the allowance allocation
• Application of qualitative factor adjustment percentage for trends or changes in the loan portfolio

        Allocation of the allowance for loan losses for different categories of loans is based on the methodology used by the Bank, as explained above. The changes in the allocations from period to period are based upon reviews of the loan and lease portfolios.

        Net charge offs for the nine month period, ended September 30, 2003, was $1,177,000, compared to $1,057,000, for the same period in 2002. Consumer loan net charge-offs decreased from $682,000, through September 30, 2002, to $589,000, through September 30, 2003. Commercial loans remained relatively steady at $356,000 of net charge offs, for the first nine months of 2003, compared to same period in 2002. The increase in net charge-offs occurred in the mortgage loans as $232,000 was taken through September 30, 2003, compared to $20,000, during 2002. The mortgage charge offs were the result of properties foreclosed upon during 2003 with a required write down taken to the fair market value of the real estate prior to transfer to Other Real Estate. The reduction in the allowance for loan losses balance was mainly due to the credit card portfolio sale, which occurred in the first quarter of 2003, and sales of residential mortgages throughout 2003, which resulted in a reduction of $117,000 in the allowance.

        Management is unaware of any potential problem loans that have not been reviewed. Potential problem loans are those where there is known information that leads Management to believe repayment of principal and/or interest is in jeopardy and the loans are neither non-accrual nor past due 90 days or more.

        Management believes that the allowance, at September 30, 2003, provides adequate protection against portfolio loss. However, there could be instances of which Management is unaware that may require additional charge-offs and/or increases to the provision.

        At September 30, 2003, the allowance for loan losses was $3,782,670 or 0.98% of total loans, compared to 1.01% and 1.00%, at December 31, 2002, and September 30, 2002, respectively.

        The following table sets forth the activity in the allowance for loan losses and certain key ratios for the period indicated:

Non-performing assets

        Non-performing assets are defined as accruing loans past due 90 days or more, non-accruing loans, restructured loans, other real estate owned, and repossessions. Non-performing assets represented 1.84% of total assets, at September 30, 2003, compared to 1.55% of total assets, at September 30, 2002, and 1.45%, at December 31, 2002.

        The non-accrual loan balance increased $1,400,000 for the first nine months of 2003. Additional loans classified as non-accrual in 2003 of $2,580,000 were added during the nine month period. This increase was offset by payoffs or foreclosures, resulting in liquidation, of $783,000 and pay downs of $397,000 on non-accrual loans reported at December 31, 2002.

        As shown in the table below, non-performing loans, defined as non-accrual loans and loans past due 90 days or more and still accruing, increased $3,673,000 since the beginning of 2003. The increase was primarily in commercial loans, both non-accrual and 90 days past due. The ratio of non-performing loans to end of period total loans rose 101 basis points, for the nine month period. For the same period in 2002, the ratio of non-performing loans to total loans was 1.93%, compared to 2.68% in 2003, or an increase of 79 basis points. The ratio of non-performing assets to total assets increased to 1.84%, at September 30, 2003, from 1.45%, at year end 2002.

        Restructured loans shown below in the prior periods represent outstanding loans to one borrower that were modified as to terms and conditions, in September 2002. These restructured loans have become past 90 days delinquent during the third quarter, and as such, the relationship has been transferred into non-accrual loans as of September 30, 2003.

        Other Real Estate represents two properties that were foreclosed upon and transferred to the account. Both properties are currently listed with a realtor. Repossessions represent indirect auto loans that became delinquent and the vehicles were repossessed.

Bank Owned Life Insurance

        During February 2003, the Bank purchased $7 million of bank owned life insurance (BOLI) for a chosen group of employees, namely its officers, where the Bank is the owner and beneficiary of the policies. The Bank’s excess liquidity from investment and loan pay downs funded the BOLI. The earnings from the BOLI are recognized as other income. The BOLI is profitable from the appreciation of the cash surrender values of the pool of insurance, and its tax-free advantage to the Bank. This profitability is used to offset a portion of current and future employee benefit costs. The BOLI is an asset that can be liquidated, if necessary, with tax costs associated. However, the Bank intends to hold this pool of insurance, because it provides income that enhances the Bank’s capital position. Therefore, the Bank has not provided for deferred income taxes on the earnings from the increase in cash surrender value.

Other assets

        The $494,000 decrease in other assets from $3,723,000, at December 31, 2002, to $3,229,000, at September 30, 2003, was primarily due to the $250,000 net reduction of investment security settlement-pending receivable. Other asset decreases resulted from normal operations, including amortization of mortgage servicing rights.

Deposits

        The Bank is largely dependent upon its base of competitively priced core deposits to provide a stable source of funding. The Bank has retained and grown its customer base through a combination of rate, quality service, customer confidence and convenience, a stable and experienced staff and expansion of our office locations. Core deposits, which exclude time deposits of $100,000 and greater, increased $7,226,000 or 3%, during the nine months ended September 30, 2003, to $291,528,000. Growth had occurred within certain transactional deposit products, which primarily were generated by non-interest demand deposit accounts, NOW and money market deposit accounts, which are interest-bearing checking accounts, and savings products. Checking accounts increased $12,263,000 or 12.0%, and savings and club accounts increased $5,923,000 or 15.4%, during the nine months ended September 30, 2003. In addition, money market deposit accounts increased $3,573,000 or 21.6%, after experiencing $4,825,000 run-off in public funds money market deposits, during the first nine months of 2003. The Bank’s deposit mix, although heavily concentrated in time deposits, shifted significantly toward customer based core deposit transactional and savings accounts. Time deposits of $100,000 and greater at December 31, 2002 of $129,486,000 reduced $11,609,000 or 9.0% to $117,877,000, at September 30, 2003. As the table below reflects, the time deposit reductions occurred by allowing high cost non-personal and public fund deposits run-off while shifting personal and non-personal time deposits to money market accounts. Total time deposits, at September 30, 2003, were $230,695,000 or 56% of total deposits compared to $256,836,000 or 62% of total deposits, at December 31, 2002. Approximately $160,605,000 or 70% of time deposits are scheduled to mature within the year. These time deposits, maturing within the next year, account for about 39% of the Bank’s total deposit base and provide a significant opportunity for the Bank to retain these deposits at substantially lower market rates. Of the amount maturing within the next year, over $96,486,000 had original maturity terms of between twenty-seven to sixty months and have weighted average rates ranging between 3.95% to over 4.50%. The vast majority of these time deposits reside in the thirty-month product, which offered the customer the option to add to principal over the term at the original contractual rate and the ability to withdraw principal once quarterly. Approximately $66,718,000 in time deposits will mature after one year.

        Total deposits decreased $4,383,000 or 1.1%, during the nine months ended September 30, 2003, to $409,405,000. Total average deposits decreased $8,423,000 or 2% from $424,564,000, for the nine months ended September 30, 2002, to $416,141,000, for the nine months ended September 30, 2003. Non-interest-bearing deposits are an important source of funds for a Bank because they lower overall deposit costs. The average balance of these accounts increased $5,974,000 or 11.2%, during the nine months ended September 30, 2003, compared to the same period in 2002. The interest rates offered on most deposit products were lowered in 2002 and throughout 2003 in response to overall market conditions. Management expects a significant portion of the certificate of deposit portfolio, specifically in the thirty-month time deposit product, to continue to reprice lower, as these higher rate accounts mature.

        In 2002 and continuing to date, the returns of the domestic equity markets were weak and volatile as the U.S. economy was generally sluggish. These conditions improved the environment for deposit growth for financial institutions as investors sought the relative safety of FDIC insured deposits, despite a low interest rate environment. As the U.S. economy begins to recover and the domestic equity markets once again produce favorable returns, the dollars deposited with financial institutions as a flight to safety may revert back to the equity markets. As this occurs, the deposit base would erode and without proper planning to replace these funds, the Bank’s asset size may curtail to even lower levels.

        We plan to continue to grow deposits through strategic promotions, business development programs and maturation of existing branches. In addition, the Bank introduced the Fidelity 100^th Anniversary $100,000 Checking Account Sweepstakes to allow individuals to visit our branch locations and complete the entry form. Along with this anniversary sweepstakes, we celebrated our 100^th anniversary with a new free checking program designed to develop Bank customers and grow our demand deposit accounts. By opening a Fidelity checking account, the free checking program offered no minimum balance requirements and monthly service charge for one year, free first order of “Anniversary” checks, a $5 cash debit card activation reward following card activation and the first point of sale transaction and based upon availability, a free small safe deposit box for one year. We have also redesigned and employed through our branch network our tiered money market deposit account with rates graduating up based upon balances. This money market account offers check writing capabilities and complements our existing money market savings account. Pricing of this tiered money market account at current market rates offers our customers, especially time deposit customers, the choice and flexibility during this low interest rate environment.

        The following table represents the composition of total deposits, as of September 30, 2003, and comparative funding changes since previous year end.

        Public funds had been a significant source of deposits and now account for $38,353,000 or 9.4% of total deposits, at September 30, 2003. The Bank was able to attract public funds due to long established relationships and competitive product pricing. However, Management recognizes that public fund deposits are sensitive to the operating demands of the various public entities and the changing political landscape. Thus, the Bank could continue to experience material shifts in these outstanding balances throughout the year.

Borrowings

        Borrowings totaled $109,782,000 at September 30, 2003 compared to $114,213,000 at December 31, 2002.

        Included in borrowings are customer repurchase agreements of $46,285,000 and $47,232,000, at September 30, 2003, and December 31, 2002, respectively. The balance in customer repurchase agreements fluctuates daily because it is dependent on the level of available funds in depositor accounts. Customer repurchase agreements are collateralized by investment securities in an amount equal to or exceeding such borrowings. The Bank controls these pledged securities and monitors them on a daily basis.

        Borrowings included $63,000,000 in long-term advances from the FHLB, at both September 30, 2003 and December 31, 2002.

        The weighted average interest rate on borrowings was 5.53% and 5.62% at September 30, 2003 and 2002, respectively.

Accrued expenses and other liabilities

        Deferred taxes decreased $378,000 from $775,000, at December 31, 2002, to $397,000, at September 30, 2003. This net decrease relates to the change in the estimated fair value of investment securities available-for-sale.

        Other liabilities decreased $401,000 from $3,978,000, at December 31, 2002, to $3,615,000, at September 30, 2003. This decrease relates principally to a $250,000 net pending investment purchase obligation over the previous year-end. Accrued expenses from normal operating activities also decreased by $113,000.

ITEM 3. Quantitative and Qualitative Disclosure about Market Risk

Interest Rate Sensitivity

        The Company is subject to the interest rate risks inherent in our lending, investing and financing activities. Fluctuations of interest rates will impact interest income and interest expense along with affecting market values of all interest-earning and interest-bearing liabilities, except for those assets or liabilities with a short term remaining to maturity. Interest rate risk management is an integral part of the Asset/Liability management process. The Company has instituted certain procedures and policy guidelines to manage the interest rate risk position. Those internal policies enable the Company to react to changes in market rates to protect net interest income from significant fluctuations. The primary objective in managing interest rate risk is to minimize the adverse impact of changes in interest rates on net interest income along with creating an asset/liability structure that maximizes earnings.

        Asset/Liability Management: One major objective of the Company when managing the rate sensitivity of its assets and liabilities is to stabilize net interest income. The management of and authority to assume interest rate risk is the responsibility of the Company’ Asset/Liability Committee (ALCO), which is comprised of senior management and Board members. ALCO meets quarterly to monitor the ratio of interest sensitive assets to interest sensitive liabilities. The process to review interest rate risk management is a regular part of management of the Company. Consistent policies and practices of measuring and reporting interest rate risk exposure, particularly regarding the treatment of non-contractual assets and liabilities, are in effect. In addition, there is an annual process to review the interest rate risk policy with the Board of Directors which includes limits on the impact to earnings from shifts in interest rates.

        Interest Rate Risk Measurement: Interest rate risk is monitored through the use of three complementary measures: static gap analysis, earnings at risk simulation and economic value at risk simulation. While each of the interest rate risk measurements has limitations, taken together they represent a reasonably comprehensive view of the magnitude of interest rate risk in the Company and the distribution of risk along the yield curve, the level of risk through time, and the amount of exposure to changes in certain interest rate relationships.

        Static Gap: The ratio between assets and liabilities repricing in specific time intervals is referred to as an interest rate sensitivity gap. Interest rate sensitivity gaps can be managed to take advantage of the slope of the yield curve as well as forecasted changes in the level of interest rate changes.

        To manage this interest rate sensitivity position, an asset/liability model called ‘cumulative gap analysis’ is used to monitor the difference in the volume of the Company’s interest sensitive assets and liabilities that mature or reprice within given periods. A positive gap (asset sensitive) indicates that more assets reprice during a given period compared to liabilities, while a negative gap (liability sensitive) has the opposite effect. The Company employs computerized net interest income simulation modeling to assist in quantifying interest rate risk exposure. This process measures and quantifies the impact on net interest income through varying interest rate changes and balance sheet compositions. The use of this model assists the ALCO to gauge the effects of the interest rate changes on interest sensitive assets and liabilities in order to determine what impact these rate changes will have upon the net interest spread.

        At September 30, 2003, the Company maintained a one year cumulative positive gap of $3,590,000 or 0.6% of total assets. The effect of this gap position provided a positive mismatch of assets and liabilities, which may expose the Bank to an increased interest rate risk position during a period of decreasing interest rates. Conversely, in an increasing interest rate environment, net income could be positively affected because more assets will reprice during a one year period.

        Investments and loans are included in the earlier of the period in which interest rates were next scheduled to adjust or the period in which they are due. In addition, loans were included in the periods in which they are scheduled to be repaid based on scheduled amortization. For amortizing loans and mortgage-backed securities, annual prepayment rates are assumed reflecting historical experience as well as management’s knowledge of and experience with its loan products.

        The Bank’s demand and savings accounts were generally subject to immediate withdrawal. However, management considers a certain amount of such accounts to be core accounts having significantly longer effective maturities based on the retention experiences of such deposits in changing interest rate environments. The effective maturities presented are the recommended maturity distribution limits for non-maturing deposits based on historical deposit studies.

        Certain shortcomings are inherent in the method of analysis presented in the above table. Although certain assets and liabilities may have similar maturities or periods of repricing, they may react in different degrees to changes in market interest rates. The interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types of assets and liabilities may lag behind changes in market interest rates. Certain assets, such as adjustable-rate mortgages, have features which restrict changes in interest rates on a short-term basis and over the life of the asset. In the event of a change in interest rates, prepayment and early withdrawal levels may deviate significantly from those assumed in calculating the table. The ability of many borrowers to service their adjustable-rate debt may decrease in the event of an interest rate increase.

         Earnings at Risk and Economic Value at Risk Simulations: The Company recognizes that more sophisticated tools exist for measuring the interest rate risk in the balance sheet beyond static gap analysis. Although it will continue to measure its static gap position, the Company utilizes additional modeling for identifying and measuring the interest rate risk in the overall balance sheet. The ALCO is responsible for focusing on “earnings at risk” and “economic value at risk”, and how both relate to the risk-based capital position when analyzing the interest rate risk.

         Earnings at Risk: Earnings at risk simulation measure the change in net interest income and net income should interest rates rise and fall. The simulation recognizes that not all assets and liabilities reprice one for one with market rates (e.g., savings rate). The ALCO looks at “earnings at risk” to determine income changes from a base case scenario under an increase and decrease of 200 basis points in interest rates simulation model.

         Economic Value at Risk: Earnings at risk simulation measure the short-term risk in the balance sheet. Economic value (or portfolio equity) at risk measures the long-term risk by finding the net present value of the future cash flows from the Company’s existing assets and liabilities. The ALCO examines this ratio quarterly utilizing an increase and decrease of 200 basis points in interest rates simulation model. The ALCO recognizes that, in some instances, this ratio may contradict the “earnings at risk” ratio.

        Actual results may differ from simulated results due to various factors including the time and magnitude of interest rate changes, changes in customer behavior, effects of competition, and other factors. These variables influence the interest-rate spread and product mix. The consulting model predicts a base net interest income amount that is larger than that actually earned in the past 12 months or last fiscal year. This is principally the result of an actual increase in earning assets over the past year, which created a larger starting point for the next 12-month projection. Past experience drives many of the assumptions used in the models. Actual results could vary substantially if our future performance differs from past experience.

        The following table illustrates the simulated impact of 200 basis points upward or downward movement in interest rates on net interest income, net income, and the change in economic value (portfolio equity). This analysis assumed that interest-earning asset and interest-bearing liability levels at September 30, 2003 remained constant. The impact of the rate movements was developed by simulating the effect of rates changing over a twelve-month period from the September 30, 2003 levels.

        Economic value has the most meaning when viewed within the context of risk-based capital. Therefore, the economic value may change beyond the Company’s policy guideline for a short period of time as long as the risk-based capital ratio, after adjusting for the excess equity exposure, is greater than 10%.

        The table below summarizes estimated changes in net interest income over a twelve-month period beginning October 1, 2003, under alternate interest rate scenarios using the income simulation model described above:

        Simulation models require assumptions about certain categories of assets and liabilities. The models schedule existing assets and liabilities by their contractual maturity, estimated likely call date, or earliest repricing opportunity. Mortgage-backed securities and amortizing loans are scheduled based on their anticipated cash flow including estimated prepayments. For investment securities, we use a third party service to provide cash flow estimates in the various rate environments. Savings accounts, including passbook, statement savings, money market, and interest checking accounts, do not have a stated maturity or repricing term and can be withdrawn or reprice at any time. This may impact the margin if more expensive alternative sources of deposits are required to fund loans or deposit runoff. Management projects the repricing characteristics of these accounts based on historical performance and assumptions that it believes reflect their rate sensitivity. The consulting model reinvests all maturities, repayments and prepayments for each type of asset or liability into the same product for a new like term then applies growth or run-off estimates provided by management. As a result, the mix of interest-earning assets and interest bearing-liabilities is not held constant.

Liquidity

        Liquidity for a bank is the ability to fund customers’ needs for borrowings, deposit withdrawals and maturities and normal operating expenses of the Bank. Current sources of liquidity are:

• Cash and cash equivalents
• Asset maturities and pay downs within one year
• Loans and investments available-for-sale
• Growth of core deposits
• Growth of repurchase agreements
• Increase of other borrowed funds from correspondent banks
• Issuance of capital stock

        As detailed in the statement of cash flows, total cash and cash equivalents had a net $2,598,000 decrease stemming from net cash used by financing activities due to the $11,609,000 decline in certificates of deposit of $100,000 or more. This cash utilization was offset by the $9,700,000 increase in non-interest bearing deposits. Other sources providing cash were primarily in un-reinvested calls and pay downs from investment securities and sale of loans available-for-sale, while other cash usages were funding the $7,000,000 purchase of life insurance policies and funding new loan growth. The net cash provided from operations and investments throughout the nine months was utilized to fund the decrease in short-term public fund time deposits and pay down short term borrowings.

        Management believes that the present level of liquidity is strong and adequate for current operations based upon the short-term liquidity position of $17,511,000 in cash and due from banks along with $6,110,000 in Federal Funds sold. A secondary source of liquidity is provided from expected cash flow from principal reductions in the investment and loan portfolios and the ability to sell $23,864,000 in mortgage loans available for sale at September 30, 2003. Management monitors asset and liability maturities to match anticipated large cash flow requirements. These cash flow requirements are reviewed daily with the use of internally generated reports.

        The Bank considers our growing core deposit base as the primary source of liquidity. However, the Bank can also borrow in the Federal Funds market to meet temporary liquidity needs. The Bank has other sources to obtain liquidity from borrowings with the Federal Reserve Discount Window and Federal Home Loan Bank advances.

Capital

        The Company is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possible additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company must meet specific capital guidelines that involve quantitative measures of the Company’s assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Company’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.

        Capital is fundamental to support our continued growth. In addition, the Company and Bank are subject to various regulatory capital requirements. Regulatory capital is defined in terms of Tier 1 capital (shareholders’ equity plus the allowable portion of the minority interest in equity of subsidiaries, minus unrealized gains or plus unrealized losses on available for sale securities, and minus certain intangible assets), Tier 2 capital (which includes a portion of the allowance for loan losses, minority interest in equity of subsidiaries and subordinated debt), and total capital (Tier 1 plus Tier 2). Risk-based capital ratios are expressed as a percentage of risk-weighted assets. Risk-weighted assets are determined by assigning various weights to all assets and off-balance sheet financial instruments, such as letters of credit and loan commitments, based on associated risk. Regulators have also adopted minimum Tier 1 leverage ratio standards, which measure the ratio of Tier 1 capital to total average quarterly assets.

        Quantitative measures established by regulation to ensure capital adequacy require the Company to maintain minimum amounts and ratios (set forth in the table below as defined in the regulations) of total and Tier I capital to risk-weighted assets, and of Tier I capital to average assets. As of September 30, 2003, the Company meets all capital adequacy requirements to which it is subject.

        The Company’s capital amounts and ratios, at September 30, 2003, are as follows:

        The ratios for the Bank are not materially different from those of the Company.

ITEM 4. Controls and Procedures

        The Company maintains a system of controls and procedures designed to provide reasonable assurance as to the reliability of the financial statements and other disclosures included in this report, as well as to safeguard assets from unauthorized use or disposition. The President and Chief Financial Officer, with the direct assistance from other members of management, evaluated the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the period covered by this report. Based upon that evaluation, our President and Chief Financial Officer concluded that our disclosure controls and procedures are effective, except for the internal control components of risk assessment and monitoring, in timely alerting them to material information required to be included in our periodic Securities and Exchange Commission filings. The Company has made significant changes to our internal controls and other factors that could significantly affect these controls subsequent to the date of evaluation by the President and Chief Financial Officer, as follows:

        On October 9, 2003, Parente Randolph, P.C., the Company’s independent external auditor, met with the Audit Committee to discuss their concerns on the monitoring component, which resulted from the review of the Internal Audit Department’s work papers of completed audits through September 30, 2003, along with the audits completed as compared to the audits scheduled through that same time period. Additional concerns raised, were the adequate and timely completion of the approved audit schedule by year end.

        Based upon this assessment, the President and Chief Financial Officer concluded that our disclosure controls and procedures are effective, except for the internal control component of monitoring, in timely alerting them to material information required to be included in our regulatory filings as of September 30, 2003.

        Resulting from these concerns, the Company’s Audit Committee engaged McGrail Merkel Quinn & Associates, as of October 15, 2003, to outsource the internal audit function, which includes the direct supervision and review of the Company’s internal audit staff. The Audit Committee and Executive Management are committed to providing whatever resources are necessary in order to complete the scheduled internal audits, take corrective action and re-testing as required to meet the internal control components required under the Federal Deposit Insurance Act of 1991 by December 31, 2003.

PART II. OTHER INFORMATION

ITEM 1. Legal Proceedings.

        On July 1, 2002, the Bank was served with a civil complaint that was filed in the Court of Common Pleas of Lackawanna County, Pennsylvania, on June 28, 2002. Scaccia Construction Company, the plaintiff, based upon multiple causes of action, demands approximately $250,000 in connection with certain environmental remediation activities. The activities were purportedly performed prior to the opening of the Bank’s Eynon branch. On July 22, 2002, the Bank filed preliminary objections to the complaint. The preliminary objections were decided on November 26, 2002, and the Bank filed its answer and new matter raising various legal defenses. This lawsuit was settled on October 30, 2003.

        The nature of the Company’s business generates some litigation involving matters arising in the ordinary course of business. However, in the opinion of the Company, after consulting with legal counsel, no other legal proceedings are pending, which, if determined adversely to the Company or the Bank, would have a material effect on the Company’s undivided profits or financial condition. No other legal proceedings are pending other than ordinary routine litigation incident to the business of the Company and the Bank. In addition, to management’s knowledge, no governmental authorities have initiated or contemplated any material legal actions against the Company or the Bank nor its properties.

ITEM 6. Exhibits and Reports on Form 8-K.
a) Exhibits

Current Reports on Form 8-K filed by the Registrant during the quarter ended September 30, 2003:

On July 30, 2003, Fidelity D & D Bancorp, Inc. announced iuts results of operations for the quarter ended June 30, 2003. A copy of the related press release was furnished with the Form 8-K filing on July 30, 2003.

FIDELITY D&D BANCORP, INC.

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

FIDELITY D&D BANCORP, INC.

Exhibit Index