Exhibit 13.1

Exhibit 13.1: Annual Report to Shareholders

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INTENTIONALLY

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

Peoples Financial Corporation (the “Company”) is a one-bank holding company headquartered in Biloxi, MS. The following presents Management’s discussion and analysis of the consolidated financial condition and results of operations of the Company and its consolidated subsidiaries for the years ended December 31, 2009, 2008 and 2007. These comments highlight the significant events for these years and should be considered in combination with the Consolidated Financial Statements and Notes to Consolidated Financial Statements included in this annual report.

FORWARD-LOOKING INFORMATION

Congress passed the Private Securities Litigation Act of 1995 in an effort to encourage corporations to provide information about a company’s anticipated future financial performance. This act provides a safe harbor for such disclosure which protects the companies from unwarranted litigation if actual results are different from management expectations. This report contains forward-looking statements and reflects industry conditions, company performance and financial results. These forward-looking statements are subject to a number of factors and uncertainties which could cause the Company’s actual results and experience to differ from the anticipated results and expectations expressed in such forward-looking statements. Such factors and uncertainties include, but are not limited to: changes in interest rates and market prices, changes in local economic and business conditions, increased competition for deposits and loans, a deviation in actual experience from the underlying assumptions used to determine and establish the allowance for loan losses, changes in the availability of funds resulting from reduced liquidity, changes in government regulations and acts of terrorism, weather or other events beyond the Company’s control.

CRITICAL ACCOUNTING POLICIES

Certain critical accounting policies affect the more significant estimates and assumptions used in the preparation of the consolidated financial statements. The Company’s single most critical accounting policy relates to its allowance for loan losses, which reflects the estimated losses resulting from the inability of its borrowers to make loan payments. If there was a deterioration of any of the factors considered by Management in evaluating the allowance for loan losses, the estimate of loss would be updated, and additional provisions for loan losses may be required.

OVERVIEW

The Company is a community bank serving the financial and trust needs of its customers in Harrison, Hancock, Jackson and Stone Counties in Mississippi. Maintaining a strong core deposit base and commercial and real estate lending in that trade area are the traditional focus of the Company. Growth has largely been achieved through de novo activity, and it is expected that these principles will continue to be emphasized.

With the focus of our core business being on the Mississippi Gulf Coast, the local economy impacts the Company’s business. Additionally, the Company is impacted by national economic trends, as the actions taken by the Federal Reserve touch all financial institutions. The interest rate reductions in 2007 and 2008, the continuing decline in the value of real estate and general economic downturn have affected the Company’s results. Managing the net interest margin in the Company’s highly competitive market and in context of the larger national economic conditions has been very challenging and will continue to be so for the foreseeable future.

Net income for 2009 was $3,220,473 compared with $5,033,690 for 2008. The results for 2009 included increased provisions for loan losses of $2,878,000 and FDIC insurance assessments of $1,259,560 as compared with 2008. Net interest income for 2009 was $1,721,687 less than the prior year as a result of the decrease in net yield. Earnings in 2008 included an impairment loss of $2,964,000 on the Company’s investment in Federal Home Loan Mortgage Corporation preferred stock.

Monitoring asset quality and addressing potential losses in our loan portfolio continues to be emphasized during these tough economic times. During 2009, non-performing loans, particularly non-accrual loans, increased significantly. The Company charged-off $9,080,407 in loans during 2009 as compared with only $1,284,000 during 2008. Approximately 68% of the charge-offs in 2009 related to three credit relationships in the residential development industry. Nonaccrual loans increased to $22,005,748 at December 31, 2009 as compared with $15,553,447 at December 31, 2008. Nonaccrual loans at December 31, 2009 include one loan with a balance of $9,843,129, which is a performing loan, but was classified as nonaccrual by the banking regulators in their annual shared national credit review in the third quarter of 2009.

Total assets decreased to $869,006,899 at December 31, 2009 from $896,407,501 at December 31, 2008. This decrease was primarily attributable to the net decrease in available for sale securities of $29,027,635 during 2009. As a result of decreasing interest rates, approximately $140,000,000 of these securities were called in 2009. Proceeds from these calls, as well as from two sales of available for sale securities, funded liquidity needs and any remaining funds were re-invested in U.S. Agencies.

RESULTS OF OPERATIONS

Net Interest Income

Net interest income, the amount by which interest income on loans, investments and other interest- earning assets exceeds interest expense on deposits and other borrowed funds, is the single largest component of the Company’s income. Management’s objective is to provide the largest possible amount of income while balancing interest rate, credit, liquidity and capital risk. Changes in the volume and mix of interest earning assets and interest-bearing liabilities combined with changes in market rates of interest directly affect net interest income.

The Federal Open Market Committee (the “Committee”), a component of the Federal Reserve System, is charged under United States law with overseeing the nation’s open market operations by making key decisions about interest rates and the growth of the United States money supply. During 2007 and 2008, the Committee dropped the fed funds rate by a total of 500 basis points, which resulted in similar decreases in prime interest rates during this time. The fed funds rate did not change in 2009. The Committee’s actions were a part of the U.S. Government’s larger plan to stabilize the financial markets and stimulate the national economy and flow of capital. The impact of these rate reductions was significant to the Company’s financial condition and results of operations.

2009 as compared with 2008

The Company’s average interest-earning assets increased approximately $14,784,000, or 2%, from approximately $804,842,000 for 2008 to approximately $819,626,000 for 2009.

Also as a result of the Committee’s actions, the average yield on earning assets decreased 122 basis points, from 5.48% for 2008 to 4.26% for 2009. The Company’s loan portfolio generally has a 40%/60% blend of fixed/floating rate term. This results in the Company being more asset sensitive to market interest rates and generally is the cause of the decrease in interest income.

Average interest-bearing liabilities increased approximately $17,288,000, or 3%, from approximately $664,738,000 for 2008 to approximately $682,026,000 for 2009. The decrease in time deposits that began in 2008 as a result of rate competition was reversed by the acquisition of brokered deposits during 2009. The average rate paid on interest-bearing liabilities decreased 116 basis points, from 2.25% for 2008 to 1.09% for 2009.

The Company’s net interest margin on a tax-equivalent basis, which is net interest income as a percentage of average earning assets, was 3.36% at December 31, 2009, down 26 basis points from 3.62% at December 31, 2008.

2008 as compared with 2007

The Company’s average interest-earning assets decreased approximately $68,296,000, or 8%, from approximately $873,138,000 for 2007 to approximately $804,842,000 for 2008. As a direct result of the Committee’s rate reductions, available for sale securities with a par value of $184,000,000 were called during 2008.

Also as a result of the Committee’s actions, the average yield on earning assets decreased 98 basis points, from 6.46% for 2007 to 5.48% for 2008. The Company’s loan portfolio generally has a 40%/60% blend of fixed/floating rate term. This results in the Company being more asset sensitive to market interest rates and generally is the cause of the decrease in interest income. In addition, the proceeds from the called securities that were reinvested in similar securities were at lower interest rates.

Average interest-bearing liabilities decreased approximately $51,179,000, or 7%, from approximately $715,917,000 for 2007 to approximately $664,738,000 for 2008. The average rate paid on interest-bearing liabilities decreased 131 basis points, from 3.56% for 2007 to 2.25% for 2008.

The Company’s trade area generally experiences a very competitive interest rate environment for deposits. Beginning in 2007 and continuing into 2008, this competition ramped up significantly. In some cases, the Company chose to not match higher rates offered to our customers by competitors. As a result, retail time deposits of $100,000 or more decreased during 2008. This strategy resulted in a favorable improvement in the yield on interest-bearing liabilities as well as an overall reduction in total deposits in 2008 as compared with 2007.

The Company’s net interest margin on a tax-equivalent basis, which is net interest income as a percentage of average earning assets, was 3.62% at December 31, 2008, up 7 basis points from 3.55% at December 31, 2007.

The tables on the following page analyze the changes in tax-equivalent net interest income for the years ended December 31, 2009 and 2008 and the years ended December 31, 2008 and 2007.

ANALYSIS OF AVERAGE BALANCES, INTEREST EARNED/PAID AND YIELD (IN THOUSANDS)

		2009												2008
		Average Balance				Interest Earned/Paid				Rate				Average Balance				Interest Earned/Paid				Rate
Loans (2) (3)		$	467,992			$	20,189				4.31			$	463,505			$	26,874				5.80
Federal Funds Sold			3,227				8				0.25				5,694				122				2.14
Held to maturity:
Non taxable (1)			3,265				172				5.27				3,691				230				6.23
Available for sale:
Taxable			307,332				12,840				4.18				304,536				15,331				5.03
Non taxable (1)			34,437				1,699				4.93				24,394				1,433				5.87
Other			3,373				17				.50				3,022				148				4.90
Total		$	819,626			$	34,925				4.26			$	804,842			$	44,138				5.48
Savings and demand, interest bearing		$	232,916			$	1,831				.79			$	251,792			$	3,856				1.53
Time deposits			192,893				3,135				1.63				191,904				6,094				3.18
Federal funds purchased and securities sold under agreements to repurchase			217,509				1,905				.88				210,049				4,521				2.15
Borrowings from FHLB			38,708				530				1.37				10,993				492				4.48
Total		$	682,026			$	7,401				1.09			$	664,738			$	14,963				2.25
Net tax-equivalent yield on earning assets											3.36												3.62

		2008												2007
		Average Balance				Interest Earned/Paid				Rate				Average Balance				Interest Earned/Paid				Rate
Loans (2) (3)		$	463,505			$	26,874				5.80			$	428,447			$	33,642				7.85
Federal Funds Sold			5,694				122				2.14				5,763				295				5.12
Held to maturity:
Taxable															21,443				1,082				5.05
Non taxable (1)			3,691				230				6.23				4,780				302				6.32
Available for sale:
Taxable			304,536				15,331				5.03				388,577				19,822				5.10
Non taxable (1)			24,394				1,433				5.87				18,864				1,109				5.88
Other			3,022				148				4.90				5,264				199				3.78
Total		$	804,842			$	44,138				5.48			$	873,138			$	56,451				6.46
Savings and demand, interest bearing		$	251,792			$	3,856				1.53			$	268,710			$	5,358				1.99
Time deposits			191,904				6,094				3.18				213,167				9,356				4.39
Federal funds purchased and securities sold under agreements to repurchase			210,049				4,521				2.15				225,246				10,212				4.53
Borrowings from FHLB			10,993				492				4.48				8,794				526				5.98
Total		$	664,738			$	14,963				2.25			$	715,917			$	25,452				3.56
Net tax-equivalent yield on earning assets											3.62												3.55

Provision for Loan Losses

In the normal course of business, the Company assumes risk in extending credit to its customers. This credit risk is managed through compliance with the loan policy, which is approved by the Board of Directors. The policy establishes guidelines relating to underwriting standards, including but not limited to financial analysis, collateral valuation, lending limits, pricing considerations and loan grading. A loan review process further assists with evaluating credit quality and assessing potential performance issues. Loan delinquencies and deposit overdrafts are closely monitored in order to identify developing problems as early as possible. In addition, the Company continuously monitors its relationships with its loan customers in concentrated industries such as gaming and hotel/motel, as well as the exposure for out of area, land, development, construction and commercial real estate loans, and their direct and indirect impact on its operations. A watch list of credits which pose a potential loss to the Company is prepared based on the loan grading system. This list forms the foundation of the Company’s allowance for loan loss computation.

Management relies on its guidelines and existing methodology to monitor the performance of its loan portfolio and to identify and estimate potential losses based on the best available information. The recent economic downturn and its impact in the housing market during the last eighteen months resulted in increased scrutiny of the Company’s residential development loan portfolio. At December 31, 2009, three residential development credit relationships with a total balance of $6,542,612 represented $1,323,872 of total allowance of $7,827,806. During 2009, the Company’s on-going, systematic evaluation resulted in the Company recording a provision for loan losses of $5,225,000 and $2,347,000 in 2009 and 2008, respectively. In 2007, the Company recorded a negative provision of $1,405,000, effectively reversing part of the Katrina-related provision from 2005.

The allowance for loan losses is an estimate and, as such, events may occur in the future which may affect its accuracy. The Company anticipates that it is possible that additional information will be gathered in future quarters which may require an adjustment to the allowance for loan losses. Management will continue to closely monitor its portfolio and take such action as it deems appropriate to accurately report its financial condition and results of operations.

Non-interest income

During 2008, the Company recorded a charge to earnings for the other-than-temporary impairment of its investment in FHLMC preferred stock of $2,964,000. This resulted in an increase in non-interest income in 2009 as compared with 2008 and a decrease in non-interest income in 2008 as compared with 2007.

Total non-interest income increased $2,878,172 in 2009 as compared with 2008. In addition to the impact of the impairment loss, non-interest income in 2009 was affected by the change in trust department income and fees, gains on the liquidation, sale and calls of securities, gain (loss) on other investments and other income. The decrease in trust department income and fees of $274,258 was the result of the decrease in market value, on which fees are based, of personal trust accounts. In 2009, the Company realized a gain on the sale of securities of $869,123 as compared with only $397,852 in 2008. In 2009, the Company’s investment in a low-income housing partnership resulted in a gain of $146,979 as compared with a loss of $270,676 in 2008 as a result of the completion of renovations in 2009 which resulted in increased occupancy. Other income in 2008 included a gain of $150,000 from the sale of the bank subsidiary’s merchant card portfolio.

Total non-interest income decreased $2,499,043 in 2008 as compared with 2007. During 2008, the Company recorded a charge to earnings for the other-than-temporary impairment of its investment in FHLMC preferred stock of $2,964,000. During 2008, a gain of $397,852 from sales, calls and liquidation of available for sale securities was recorded as compared with a loss of $605,813 from such activity in 2007. Also during 2008, the Company recorded a loss of $270,676 from its investment in a low income housing partnership.

Non-interest expense

Total non-interest expense increased $1,114,702 for 2009 as compared with 2008. The largest component of this increase was from FDIC assessments, which were $1,259,560 larger in 2009 than in 2008. Salaries and employee benefits decreased $198,477 for 2009 as compared with 2008. This change included a decrease in salaries and related payroll tax expense of $480,503 as a result of a hiring freeze and loss of employees through attrition and elimination of Management bonuses in 2009. This decrease was partially offset by an increase in costs of $180,209 for the Company’s liability for a deferred compensation plan as the discount rate used to compute the liability was changed to bring the plan into alignment with other plans. Changes in other salaries and employee benefit components include the increase in health insurance costs of $317,490 and the increase of $196,400 for the retiree health plan. Net occupancy expense increased by $280,761 in 2009 as a result of the increase in property taxes of $102,132, the increase in insurance costs of $71,618 and the increase in telephone expense of $103,454. Property taxes increased as banking premises in Jackson County was reassessed and facilities in Pass Christian and Biloxi were added to the tax rolls. Like most other businesses on the Mississippi Gulf Coast, the Company’s insurance costs continue to rise. The cost of additional data line availability for technology upgrades in 2009 resulted in increased telephone expenses.

Total non-interest expense increased $1,257,896 for 2008 as compared with 2007. Equipment rentals, depreciation and maintenance expense increased by $645,221 in 2008, primarily as a result of depreciation expense on banking premises which were placed into service after March 31, 2007. Other expense increased $601,086 during 2008 primarily as a result of an increase in accounting and legal fees of $537,645. These increases were the result of the outsourcing of the I/T internal audit function, an increase in external audit fees and legal fees associated with litigation and other matters in the ordinary course of the Company’s business.

FINANCIAL CONDITION

Available for sale securities decreased $29,027,635 at December 31, 2009, compared with December 31, 2008. The Committee reduced the fed funds rate by 400 basis points during 2008, which resulted in more than $140,000,000 of the Company’s U.S. Agency securities being called during the year. While some of these proceeds were reinvested in U.S. Agency securities, the remaining funds were utilized in the Company’s daily management of its liquidity needs.

The Company’s held to maturity portfolio was invested solely in debt securities issued by state and political subdivisions at December 31, 2009 and December 31, 2008.

The Company increased its investment in Federal Home Loan Bank common stock by $2,945,200 in order to increase its borrowing ability from that agency.

Gross loans decreased $2,400,748 at December 31, 2009 as compared with December 31, 2008. During 2009, regularly schedule principal payments and maturities as well as charge-offs totaling $9,080,000 outpaced new loans.

Other real estate increased by $1,124,131 at December 31, 2009 as compared with December 31, 2008. As problem loans increased during 2009, the Company was forced to foreclose on the collateral securing its loans more often. Other real estate increased to more than $3,000,000 during the year; however, the Company has been able to sell two large parcels worth more than $1,700,000 at a gain of $172,739.

Accrued interest receivable decreased $798,015 at December 31, 2009 as compared with December 31, 2008 as a result of the decrease in yields earned on interest-earning assets.

FDIC assessments increased by $4,906,212 as assessments for 2010 — 2012 were prepaid on December 30, 2009.

Other assets decreased $985,902 at December 31, 2009 as compared with December 31, 2008. Prepaid expenses decreased by $694,938 at December 31, 2009 as compared with December 31, 2008 as multi-year payments amortized. At December 31, 2008, the Company recorded federal income taxes receivable of $704,146 as a result of overpayments during that year, while at December 31, 2009, the Company had a liability for federal income taxes of $118,000.

Total deposits decreased $39,774,107 at December 31, 2009, as compared with December 31, 2008. Fluctuations among the different types of deposits represent recurring activity for the Company. This significant decrease primarily resulted from the Company’s decision to not match higher rates offered to our customers by competitors. The Company anticipates that deposits will continue at or near their present level during 2010. Federal funds purchased and securities sold under agreements to repurchase decreased $52,178,354 at December 31, 2009 as compared with December 31, 2008 as the Company rested its correspondent lines of credit in favor of borrowing from the Federal Home Loan Bank at the end of 2009. The Company will continue to utilize federal funds purchased as an important source of liquidity.

Borrowings from the Federal Home Loan Bank increased $67,332,766 at December 31, 2009 as compared with December 31, 2008. During 2009, the Company increased its borrowing lines with the Federal Home Loan Bank in order to expand its liquidity options.

SHAREHOLDERS’ EQUITY AND CAPITAL ADEQUACY

Strength, security and stability have been hallmarks of the Company since its founding in 1985 and of its bank subsidiary since its founding in 1896. A strong capital foundation is fundamental to the continuing prosperity of the Company and the security of its customers and shareholders. The primary and risk-based capital ratios are important indicators of the strength of a Company’s capital. These figures are presented in the Five-Year Comparative Summary of Selected Financial Information.

The measure of capital adequacy which is currently used by Management to evaluate the strength of the Company’s capital is the primary capital ratio which was 12.49% at December 31, 2009, which is well above the regulatory minimum of 6.00%. Management continues to emphasize the importance of maintaining the appropriate capital levels of the Company and has established the goal of maintaining its primary capital ratio at 8.00%, which is the minimum requirement for classification as being “well-capitalized” by the banking regulatory authorities.

Significant transactions affecting shareholders’ equity during 2009 are described in Note K. The Statement of Shareholders’ Equity also presents all activity in the Company’s equity accounts.

LIQUIDITY

Liquidity represents the Company’s ability to adequately provide funds to satisfy demands from depositors, borrowers and other commitments by either converting assets to cash or accessing new or existing sources of funds. Note L discloses information relating to financial instruments with off-balance-sheet risk, including letters of credit and outstanding unused loan commitments. The Company closely monitors the potential effects of funding these commitments on its liquidity position. Management monitors these funding requirements in such a manner as to satisfy these demands and to provide the maximum return on its earning assets.

The Company monitors its liquidity position diligently through a number of methods, including through the computation of liquidity and dependency ratios on a monthly basis. The formula for these ratios are those used for the Uniform Bank Performance Report, such that the Company may monitor and evaluate its own risk, but also compare itself to its peers. Management carefully monitors its liquidity needs, particularly relating to potentially volatile deposits, and the Company has encountered no problems with meeting its liquidity needs.

Deposits, payments of principal and interest on loans, proceeds from maturities of investment securities and earnings on investment securities are the principal sources of funds for the Company. The Company generally anticipates using these sources of funds, as well as purchases of federal funds and borrowings from the Federal Home Loan Bank for its liquidity needs in 2010.

During 2009, the Company received approval to participate in the Federal Reserve Bank’s Discount Window Primary Credit Program. The Company intends to use this program as a part of its liquidity contingency plans only.

REGULATORY MATTERS

During 2009, Management identified opportunities for improving risk management, addressing asset quality concerns, managing concentrations of credit risk and ensuring sufficient liquidity at the Bank as a result of its own investigation as well as examinations performed by certain bank regulatory agencies. In concert with the regulators, the Company has identified specific corrective steps and actions to enhance its risk management, asset quality and liquidity policies, controls and procedures. The Company and the Bank may not declare or pay any cash dividends without the prior written approval of their regulators.

OFF-BALANCE SHEET ARRANGEMENTS

The Company is a party to off-balance-sheet arrangements in the normal course of business to meet the financing needs of its customers. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet arrangements. Since some of the commitments and irrevocable letters of credit may expire without being drawn upon, the total amount does not necessarily represent future cash requirements. As discussed previously, the Company carefully monitors its liquidity needs and considers its cash requirements, especially for loan commitments, in making decisions on investments and obtaining funds from its other sources. Further information relating to off-balance-sheet instruments can be found in Note M.

EMERGENCY ECONOMIC STABILIZATION ACT

The Emergency Economic Stabilization Act of 2008 (the “Act”) was enacted to restore liquidity and stability to the financial system. The Troubled Asset Relief Program (“TARP”) is one of the provisions of the Act. The Company did not participate in TARP. The Act also temporarily raised the basic limit on federal deposit insurance coverage from $100,000 to $250,000 per depositor and will be in effect through December 31, 2013. Additionally, the Federal Deposit Insurance Corporation (“FDIC”) announced on October 14, 2008, a new program, the Temporary Liquidity Guarantee Program (“TLGP”), which guarantees newly issued senior unsecured debt of banks, thrifts, and certain holding companies, and provides full coverage of non-interest bearing deposit transaction accounts, regardless of dollar amount. The Company is participating in TLGP.

QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

Market risk is the risk of loss arising from adverse changes in market prices and rates. Interest rate risk is the most significant market risk affecting the Company. Other types of market risk, such as foreign currency exchange rate risk and commodity price risk, do not arise in the normal course of the Company’s business activities. Also, the Company does not currently, and has no plans to, engage in trading activities or use derivative or off-balance sheet instruments to manage interest rate risk.

The Company has risk management policies in place to monitor and limit exposure to market risk. The Asset/Liability Committee (“ALCO Committee”), whose members include the chief executive officer and senior and middle management from the financial, lending, investing and deposit areas, is responsible for the day-to-day operating guidelines, approval of strategies affecting net interest income and coordination of activities within policy limits established by the Board of Directors based on the Company’s tolerance for risk. Specifically, the key objectives of the Company’s asset/liability management program are to manage the exposure of planned net interest margins to unexpected changes due to interest rate fluctuations. These efforts will also affect loan pricing policies, deposit interest rate policies, asset mix and volume guidelines and liquidity. The ALCO Committee utilizes a number of tools in its activities, including software to assist with interest rate risk management and balance sheet management. The ALCO Committee reports to the Board of Directors on a quarterly basis.

The Company has implemented a conservative approach to its asset/liability management. The net interest margin is managed on a daily basis largely as a result of the management of the liquidity needs of the bank subsidiary. The Company generally follows a policy of investing in short term U. S. Treasury Bills and U. S. Agency securities with maturities of two years or less. Due to the low interest rate environment, the duration of investments has been extended to seven years or less with call provisions. The loan portfolio consists of a 40% /60% blend of fixed and floating rate loans. It is the general loan policy to offer loans with maturities of five years or less; however the market is now dictating floating rate terms to be extended to fifteen years. During 2009, the Company began including floors on variable rate loans in the management of its interest margin. On the liability side, more than 68% of the deposits are demand and savings transaction accounts. Additionally, approximately 65% of the certificates of deposit mature within eighteen months. Since the Company’s deposits are generally not rate-sensitive, they are considered to be core deposits. The short term nature of the financial assets and liabilities allows the Company to meet the dual requirements of liquidity and interest rate risk management.

The interest rate sensitivity tables on the next page provide additional information about the Company’s financial instruments that are sensitive to changes in interest rates. The negative gap in 2010 is mitigated by the nature of the Company’s deposits, whose characteristics have been previously described. The tabular disclosure reflects contractual interest rate repricing dates and contractual maturity dates. Loan maturities have been adjusted for the reserve for loan losses. There have been no adjustments for such factors as prepayment risk, early calls of investments, the effect of the maturity of balloon notes or the early withdrawal of deposits. The Company does not believe that the aforementioned factors have a significant impact on expected maturity.

Interest rate sensitivity at December 31, 2009 was as follows (in thousands):

																														12/31/09
																														FAIR
		2010				2011				2012				2013				2014				BEYOND				TOTAL				VALUE
Loans, net		$	310,429			$	42,856			$	41,335			$	28,025			$	19,958			$	14,545			$	457,148			$	460,588
Average rate			4.33	%			6.50	%			5.58	%			6.80	%			6.00	%			4.92	%			5.05	%
Securities			19,662				6,276				14,394				30,719				20,480				232,157				323,688				323,828
Average rate			3.19	%			4.42	%			3.80	%			3.24	%			3.23	%			4.68	%			4.28	%
Total Financial Assets			330,091				49,132				55,729				58,744				40,438				246,702				780,836				784,426
Average rate			4.28	%			6.31	%			5.24	%			5.58	%			5.02	%			4.69	%			4.82	%
Interest Bearing Deposits			359,363				7,756				4,168				1,723				1,149				1				374,160				375,052
Average rate			1.96	%			2.80	%			3.07	%			2.68	%			2.68	%			2.52	%			2.03	%
Federal funds purchased and securities sold under agreements to repurchase			174,431																								174,431				174,431
Average rate			0.75	%																							0.75	%
Long-term funds			102,178				196				196				196				196				1,308				104,270				105,815
Average rate			4.86	%			4.81	%			4.81	%			4.81	%			4.81	%			4.81	%			4.86	%
Total Financial Liabilities			635,972				7,952				4,364				1,919				1,345				1,309				652,861				655,298
Average rate			2.92	%			2.88	%			3.19	%			3.04	%			3.18	%			4.81	%			2.94	%

Interest rate sensitivity at December 31, 2008 was as follows (in thousands):

																														12/31/08
																														FAIR
		2009				2010				2011				2012				2013				BEYOND				TOTAL				VALUE
Loans, net		$	293,576			$	33,159			$	46,649			$	37,308			$	28,744			$	16,827			$	456,263			$	461,113
Average rate			4.23	%			6.27	%			6.03	%			6.21	%			6.92	%			5.17	%			5.80	%
Securities			45,717				45,286				35,065				24,812				30,053				168,883				349,816				349,860
Average rate			3.44	%			2.67	%			4.08	%			4.40	%			3.83	%			5.40	%			4.42	%
Total Financial Assets			339,293				78,445				81,714				62,120				58,797				185,710				806,079				810,973
Average rate			4.14	%			4.95	%			5.37	%			5.63	%			5.79	%			5.38	%			5.29	%
Interest Bearing Deposits			375,298				20,276				3,290				1,455				1,116				7				401,442				402,361
Average rate			1.80	%			3.43	%			3.69	%			3.83	%			3.15	%			2.82	%			2.01	%
Federal funds purchased and securities sold under agreements to repurchase			226,609																								226,609				226,609
Average rate			1.25	%																							1.25	%
Long-term funds			30,178				5,177				177				177				177				1,052				36,938				37,547
Average rate			0.80	%			6.46	%			4.86	%			4.86	%			4.86	%			4.86	%			4.18	%
Total Financial Liabilities			632,085				25,453				3,467				1,632				1,293				1,059				664,989				666,517
Average rate			1.62	%			4.41	%			3.77	%			3.97	%			3.50	%			4.85	%			2.11	%

		PEOPLES FINANCIAL CORPORATION AND SUBSIDIARIES
		CONSOLIDATED STATEMENTS OF CONDITION

DECEMBER 31,		2009				2008				2007
Assets
Cash and due from banks		$	29,155,294			$	34,015,590			$	34,665,370
Federal funds sold							4,000				270,000
Available for sale securities			311,434,437				340,462,072				386,028,925
Held to maturity securities, fair value of $3,340,974 - 2009; $3,438,108 - 2008; $4,676,471 - 2007			3,201,966				3,394,212				4,629,992
Other investments			4,036,304				3,889,324				1,000,000
Federal Home Loan Bank Stock, at cost			5,015,900				2,070,700				936,200
Loans			464,976,291				467,377,039				450,992,074
Less: Allowance for loan losses			7,827,806				11,113,575				9,378,137
Loans, net			457,148,485				456,263,464				441,613,937
Bank premises and equipment, net of accumulated depreciation			31,418,884				33,600,170				34,410,789
Other real estate			1,521,313				397,182				19,508
Accrued interest receivable			4,646,752				5,444,767				7,371,216
Cash surrender value of life insurance			15,329,394				14,688,160				13,578,536
Prepaid FDIC assessments			4,958,309				52,097				15,702
Other assets			1,139,861				2,125,763				2,816,398
Total assets		$	869,006,899			$	896,407,501			$	927,356,573
Liabilities & Shareholders’ Equity
Liabilities:
Deposits:
Demand, non-interest bearing		$	96,541,387			$	109,033,184			$	113,916,041
Savings and demand, interest bearing			206,167,484				239,990,238				231,435,685
Time, $100,000 or more			117,347,663				104,540,112				166,078,473
Other time deposits			50,644,895				56,912,002				57,700,280
Total deposits			470,701,429				510,475,536				569,130,479
Federal funds purchased and securities sold under agreements to repurchase			174,430,877				226,609,231				231,225,118
Borrowings from Federal Home Loan Bank			104,270,452				36,937,686				7,100,305
Other liabilities			16,016,204				15,384,934				13,359,047
Total liabilities			765,418,962				789,407,387				820,814,949
Shareholders’ Equity:
Common Stock, $1 par value, 15,000,000 shares authorized, 5,151,697, 5,279,268 and 5,420,204 shares issued and outstanding at December 31, 2009, 2008 and 2007, respectively			5,151,697				5,279,268				5,420,204
Surplus			65,780,254				65,780,254				65,780,254
Undivided profits			32,853,346				33,412,596				34,458,291
Accumulated other comprehensive income (loss), net of tax			(197,360	)			2,527,996				882,875
Total shareholders’ equity			103,587,937				107,000,114				106,541,624
Total liabilities and shareholders’ equity		$	869,006,899			$	896,407,501			$	927,356,573

See Notes to Consolidated Financial Statements.

PEOPLES FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME

YEARS ENDED DECEMBER 31,		2009				2008				2007
Interest income:
Interest and fees on loans		$	20,189,200			$	26,874,057			$	33,642,030
Interest and dividends on securities:
U.S. Treasury			1,229,237				2,972,851				4,320,309
U.S. Government agencies			10,043,869				10,625,314				15,519,419
Mortgage-backed securities			1,566,573				1,733,026				1,064,149
States and political subdivisions			1,234,917				1,097,790				931,292
Other securities			17,347				148,328				198,968
Interest on federal funds sold			8,159				122,066				294,812
Total interest income			34,289,302				43,573,432				55,970,979
Interest expense:
Deposits			4,965,439				9,950,478				14,713,824
Long-term borrowings			530,082				492,048				526,369
Federal funds purchased and securities sold under agreements to repurchase			1,905,383				4,520,821				10,212,201
Total interest expense			7,400,904				14,963,347				25,452,394
Net interest income			26,888,398				28,610,085				30,518,585
Provision for allowance for losses on loans			5,225,000				2,347,000				(1,045,000	)
Net interest income after provision for allowance for losses on loans			21,663,398				26,263,085				31,563,585
Non-interest income:
Trust department income and fees			1,363,489				1,637,747				1,791,417
Service charges on deposit accounts			6,661,209				6,793,404				6,709,142
Gain (loss) on liquidation, sale and calls of securities			869,123				397,852				(605,813	)
Writedown of investments to market value			(149,517	)			(2,964,000	)
Gain (loss) on other investments			146,979				(270,676	)
Gain from sale of bank premises							142,607				635,271
Other income			1,255,348				1,531,525				1,237,485
Total non-interest income			10,146,631				7,268,459				9,767,502
Non-interest expense:
Salaries and employee benefits			14,250,002				14,051,655				14,284,532
Net occupancy			2,501,431				2,220,670				1,976,204
Equipment rentals, depreciation and maintenance			3,766,582				3,749,274				3,104,053
Other expense			7,117,541				6,499,255				5,898,169
Total non-interest expense			27,635,556				26,520,854				25,262,958
Income before income taxes			4,174,473				7,010,690				16,068,129
Income taxes			954,000				1,977,000				5,042,000
Net income		$	3,220,473			$	5,033,690			$	11,026,129
Basic and diluted earnings per share		$	.62			$	.94			$	2.01

See Notes to Consolidated Financial Statements.

		PEOPLES FINANCIAL CORPORATION AND SUBSIDIARIES
		CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

		Number of
		Common				Common
		Shares				Stock				Surplus
Balance, January 1, 2007			5,548,199			$	5,548,199			$	65,780,254
Comprehensive Income:
Net income
Net unrealized gain on available for sale securities, net of tax
Reclassification adjustment for available for sale securities called or sold in current year, net of tax
Gain from unfunded post-retirement benefit obligation, net of tax
Total comprehensive income
Cash dividends ($.25 per share)
Dividend declared ($.27 per share)
Retirement of stock			(127,995	)			(127,995	)
Balance, December 31, 2007			5,420,204				5,420,204				65,780,254
Comprehensive Income:
Net income
Net unrealized gain on available for sale securities, net of tax
Reclassification adjustment for available for sale securities called or sold in current year, net of tax
Loss from unfunded post-retirement benefit obligation, net of tax
Total comprehensive income
Cumulative effect adjustment from adoption of EITF 06-04
Effect of stock retirement on accrued dividends
Cash dividends ($.29 per share)
Dividend declared ($.30 per share)
Retirement of stock			(140,936	)			(140,936	)
Balance, December 31, 2008			5,279,268				5,279,268				65,780,254
Comprehensive Income:
Net income
Net unrealized loss on available for sale securities, net of tax
Reclassification adjustment for available for sale securities called or sold in current year, net of tax
Gain from unfunded post-retirement obligation, net of tax
Total comprehensive income
Effect of stock retirement on accrued dividends
Cash dividends ($.20 per share)
Dividend declared ($.10 per share)
Retirement of stock			(127,571	)			(127,571	)
Balance, December 31, 2009			5,151,697			$	5,151,697			$	65,780,254

See Notes to Consolidated Financial Statements.

			Accumulated
			Other
Undivided			Comprehensive				Comprehensive
Profits			Income				Income				Total
$29,253,825		$	(2,349,583	)						$	98,232,695
11,026,129						$	11,026,129				11,026,129
			2,308,621				2,308,621				2,308,621
			399,837				399,837				399,837
			524,000				524,000				524,000
						$	14,258,587
(1,378,945)											(1,378,945	)
(1,463,455)											(1,463,455	)
(2,979,263)											(3,107,258	)
34,458,291			882,875								106,541,624
5,033,690						$	5,033,690				5,033,690
			745,909				745,909				745,909
			1,693,658				1,693,658				1,693,658
			(794,446	)			(794,446	)			(794,446	)
						$	6,678,811
(56,732)											(56,732	)
8,816											8,816
(1,548,703)											(1,548,703	)
(1,588,465)											(1,588,465	)
(2,894,301)											(3,035,237	)
33,412,596			2,527,996								107,000,114
3,220,473						$	3,220,473				3,220,473
			(2,392,524	)			(2,392,524	)			(2,392,524	)
			(474,940	)			(474,940	)			(474,940	)
			142,108				142,108				142,108
						$	495,117
4,774											4,774
(1,030,339)											(1,030,339	)
(515,170)											(515,170	)
(2,238,988)											(2,366,559	)
$32,853,346		$	(197,360	)						$	103,587,937

		PEOPLES FINANCIAL CORPORATION AND SUBSIDIARIES
		CONSOLIDATED STATEMENTS OF CASH FLOWS

YEARS ENDED DECEMBER 31,		2009				2008				2007
Cash flows from operating activities:
Net income		$	3,220,473			$	5,033,690			$	11,026,129
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation			2,390,912				2,451,966				1,712,000
Provision for allowance for loan losses			5,225,000				2,347,000				(1,045,000	)
Impairment loss on investments			149,517				2,964,000
(Gain) loss on other investments			(146,979	)			270,676
Gain on sales of other real estate			(150,058	)			(214,210	)			(10,470	)
(Gain) loss on sales, calls and liquidation of securities			(869,123	)			(397,852	)			605,813
Gain on sale of bank premises							(142,607	)			(635,271	)
Change in accrued interest receivable			798,015				1,926,449				771,014
Change in other assets			(3,582,781	)			314,965				(1,967,771	)
Change in other liabilities			2,975,089				85,281				(3,167,174	)
Net cash provided by operating activities			10,010,065				14,639,358				7,289,270
Cash flows from investing activities:
Proceeds from maturities, sales, liquidation and calls of available for sale securities			277,022,490				257,886,217				209,677,761
Investment in available for sale securities			(251,622,168	)			(211,168,426	)			(195,300,371	)
Proceeds from maturities of held to maturity securities			195,000				1,240,000				86,460,000
Investment in held to maturity securities			(2,754	)			(4,220	)			(5,515,732	)
Purchases of other investments							(3,160,000	)			(700,000	)
Investment in Federal Home Loan Bank stock			(2,945,200	)			(1,134,500	)
Redemption of Federal Home Loan Bank stock											192,300
Proceeds from sales of other real estate			3,108,801				236,261				55,000
Loans, net increase			(10,192,895	)			(17,396,252	)			(50,235,794	)
Proceeds from sale and retirement of bank premises							266,812				1,020,247
Acquisition of premises and equipment			(209,626	)			(1,765,552	)			(16,849,180	)
Other assets			(627,636	)			(1,083,450	)			(575,724	)
Net cash provided by investing activities			14,726,012				23,916,890				28,228,507
Cash flows from financing activities:
Demand and savings deposits, net change			(46,314,551	)			3,671,696				(74,435,300	)
Time deposits, net change			6,540,444				(62,326,639	)			30,395,985
Cash dividends			(2,614,119	)			(3,003,342	)			(2,655,031	)
Retirement of common stock			(2,366,559	)			(3,035,237	)			(3,107,258	)
Borrowings from Federal Home Loan Bank			377,346,745				111,513,000				47,900,375
Repayments to Federal Home Loan Bank			(310,013,979	)			(81,675,619	)			(48,067,419	)
Federal funds purchased and securities sold under agreements to repurchase, net change			(52,178,354	)			(4,615,887	)			5,192,748
Net cash used in financing activities			(29,600,373	)			(39,472,028	)			(44,775,900	)
Net decrease in cash and cash equivalents			(4,864,296	)			(915,780	)			(9,258,123	)
Cash and cash equivalents, beginning of year			34,019,590				34,935,370				44,193,493
Cash and cash equivalents, end of year		$	29,155,294			$	34,019,590			$	34,935,370

See Notes to Consolidated Financial Statements

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PEOPLES FINANCIAL CORPORATION AND SUBSIDIARIES

NOTE A — BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

Business of The Company

Peoples Financial Corporation (the “Company”) is a one-bank holding company headquartered in Biloxi, Mississippi. Its two operating subsidiaries are The Peoples Bank, Biloxi, Mississippi (the “Bank”), and PFC Service Corp. Its principal subsidiary is The Peoples Bank, Biloxi, Mississippi, which provides a full range of banking, financial and trust services to state, county and local government entities and individuals and small and commercial businesses operating in Harrison, Hancock, Stone and Jackson counties.

Principles of Consolidation

The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All significant intercompany transactions and balances have been eliminated in consolidation.

Basis of Accounting

The Company and its subsidiaries recognize assets and liabilities, and income and expense, on the accrual basis of accounting. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America 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 reporting period. Actual results could differ from these estimates.

New Accounting Pronouncements

In June 2009, the Financial Accounting Standards Board (“FASB”) issued an accounting standard which established the Accounting Standards Codification (“Codification” or “ASC”) to become the single source of authoritative U.S. generally accepted accounting principles (“GAAP”) recognized by the FASB to be applied by nongovernmental entities, with the exception of guidance issued by the SEC and its staff. All guidance contained in the Codification carries an equal level of authority. The Codification is not intended to change GAAP, but rather is expected to simplify accounting research by reorganizing current GAAP into approximately 90 accounting topics. The switch to the ASC affects the way companies refer to GAAP in financial statements and accounting policies. Citing particular content in the ASC involves specifying the unique numeric path to the content through the Topic, Subtopic, Section and Paragraph structure. The Company adopted this accounting standard in preparing the Consolidated Financial Statements for the period ended September 30, 2009. The adoption of this accounting standard, which was subsequently codified into ASC Topic 105, “Generally Accepted Accounting Principles,” had no impact on the Company’s financial statements.

New authoritative accounting guidance under ASC Topic 815, “Derivatives and Hedging,” amends prior guidance to amend and enhance the disclosure requirements for derivatives and hedging to provide greater transparency about (i) how and why an entity uses derivative instruments, (ii) how derivative instruments and related hedge items are accounted for under ASC Topic 815, and (iii) how derivative instruments and related hedged items affect an entity’s financial position, results of operations and cash flows. To meet those objectives, ASC Topic 815 requires qualitative disclosures about objectives and strategies for using derivative instruments, quantitative disclosures about fair values of derivative instruments and their gains and losses and disclosures about credit-risk-related contingent features of the derivative instruments and their potential impact on an entity’s liquidity. ASC Topic 815 was effective on January 1, 2009, and did not have a significant impact on the Company’s financial statements.

New authoritative accounting guidance under ASC Topic 855, “Subsequent Events,” establishes general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or available to be issued. ASC Topic 855 defines (i) the period after the balance sheet date during which a reporting entity’s management should evaluate events or transactions that may occur for potential recognition or disclosure in the financial statements, (ii) the circumstances under which an entity should recognize events or transactions occurring after the balance sheet date in its financial statements, and (iii) the disclosures an entity should make about events or transactions that occurred after the balance sheet date. ASC Topic 855 became effective for the Company’s financial statements for periods ending after June 15, 2009, and did not have a significant impact on the Company’s financial statements.

New authoritative accounting guidance under ASC Topic 820, “Fair Value Measurements and Disclosures,” affirms that the objective of fair value when the market for an asset is not active is the price that would be received to sell the asset in an orderly transaction, and clarifies and includes additional factors for determining whether there has been a significant decrease in market activity for an asset when the market for that asset is not active. ASC Topic 820 requires an entity to base its conclusion about whether a transaction was not orderly on the weight of the evidence. The new accounting guidance amended prior guidance to expand certain disclosure requirements. The Company adopted the new authoritative accounting guidance under ASC Topic 820 during the first quarter of 2009. Adoption of the new guidance did not have a significant impact on the Company’s financial statements.

Further new authoritative accounting guidance (Accounting Standards Update No. 2009-5) under ASC Topic 820 provides guidance for measuring the fair value of a liability in circumstances in which a quoted price in an active market for the identical liability is not available. In such instances, a reporting entity is required to measure fair value utilizing a valuation technique that uses (i) the quoted price of the identical liability when traded as an asset, (ii) quoted prices for similar liabilities or similar liabilities when traded as assets, or (iii) another valuation technique that is consistent with the existing principles of ASC Topic 820, such as an income approach or market approach. The new authoritative accounting guidance also clarifies that when estimating the fair value of a liability, a reporting entity is not required to include a separate input or adjustment to other inputs relating to the existence of a restriction that prevents the transfer of the liability. The foregoing new authoritative accounting guidance under ASC Topic 820 became effective for the Company’s financial statements on October 1, 2009, and is not expected to have a significant impact on the Company’s financial statements.

New authoritative accounting guidance under ASC Topic 825, “Financial Instruments,” requires an entity to provide disclosures about the fair value of financial instruments in interim financial information and amends prior guidance to require those disclosures in summarized financial information at interim reporting periods. The Company adopted this accounting standard in preparing its financial statements for the period ended June 30, 2009. As ASC Topic 825 amended only the disclosure requirements about the fair value of financial instruments in interim periods, the adoption had no impact on the Company’s financial statements.

New authoritative accounting guidance under ASC Topic 320, “Investments — Debt and Equity Securities,” amended other-than-temporary impairment (“OTTI”) guidance in GAAP for debt securities by requiring a write-down when fair value is below amortized cost in circumstances where: (1) an entity has the intent to sell a security; (2) it is more likely than not that an entity will be required to sell the security before recovery of its amortized cost basis; or (3) an entity does not expect to recover the entire amortized cost basis of the security. If an entity intends to sell a security or if it is more likely than not that the entity will be required to sell the security before recovery, an OTTI write-down is recognized in earnings equal to the entire difference between the security’s amortized cost basis and its fair value. If an entity does not intend to sell the security or it is not more likely than not that it will be required to sell the security before recovery, the OTTI write-down is separated into an amount representing credit loss, which is recognized in earnings, and an amount related to all other factors, which is recognized in other comprehensive income. This accounting standard does not amend existing recognition and measurement guidance related to OTTI write-downs of equity securities. This accounting standard also extends disclosure requirements related to debt and equity securities to interim reporting periods. ASC Topic 320 became effective for the Company’s financial statements for periods ending after June 15, 2009, and did not have a significant impact on the Company’s financial statements.

Cash and Due from Banks

The Company is required to maintain average reserve balances in its vault or on deposit with the Federal Reserve Bank. The average amount of these reserve requirements was approximately $542,000, $696,000 and $19,964,000 for the years ending December 31, 2009, 2008 and 2007, respectively. The Company’s bank subsidiary maintained account balances in excess of amounts insured by the Federal Deposit Insurance Corporation. At December 31, 2009, the bank subsidiary had excess deposits of $8,635,587.

Securities

The classification of securities is determined by Management at the time of purchase. Securities are classified as held to maturity when the Company has the positive intent and ability to hold the security until maturity. Securities held to maturity are stated at amortized cost. Securities not classified as held to maturity are classified as available for sale and are stated at fair value. Unrealized gains and losses, net of tax, on these securities are recorded in shareholders’ equity as accumulated other comprehensive income.

The amortized cost of available for sale securities and held to maturity securities is adjusted for amortization of premiums and accretion of discounts to maturity, determined using the interest method. Such amortization and accretion is included in interest income on securities. Declines in the fair value of securities below their cost that are deemed to be other than temporary would be reflected in earnings, or other comprehensive income, as appropriate. In estimating other-than-temporary losses, Management considers the length of time and the extent to which the fair value has been less than cost, the financial condition and nature of the issuer, the cause of the decline, especially if related to a change in interest rates, and the intent and ability of the Company to retain the investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. The specific identification method is used to determine realized gains and losses on sales of securities, which are reported as gain (loss) on liquidation, sale and calls of securities in non-interest income.

Other Investments

Other investments include a low income housing partnership in which the Company is a 99% limited partner. The partnership has qualified to receive annual low income housing federal tax credits that are recognized as a reduction of the current tax expense. The investment is accounted for using the equity method.

Federal Home Loan Bank Stock

Federal Home Loan Bank Stock has no readily determined market value and is carried at cost. Due to the redemption provisions of the investment, the fair value equals cost and no impairment exists.

Loans

The loan portfolio consists of commercial and industrial and real estate loans within the Company’s trade area in South Mississippi. The loan policy establishes guidelines relating to pricing, repayment terms, collateral standards including loan to value limits, appraisal and environmental standards, lending authority, lending limits and documentation requirements.

Loans are stated at the amount of unpaid principal, reduced by unearned income and the allowance for loan losses. Interest on loans is recognized over the terms of each loan based on the unpaid principal balance. Loan origination fees are recognized as income when received. Revenue from these fees is not material to the financial statements.

The Company places loans on a nonaccrual status when, in the opinion of Management, they possess sufficient uncertainty as to timely collection of interest or principal so as to preclude the recognition in reported earnings of some or all of the contractual interest. Accrued interest on loans classified as nonaccrual is reversed at the time the loans are placed on nonaccrual. Interest received on nonaccrual loans is applied against principal. Loans are restored to accrual status when the obligation is brought current or has performed in accordance with the contractual terms for a reasonable period of time and the ultimate collectibility of the total contractual principal and interest is no longer in doubt.

The Company considers a loan to be impaired when, based upon current information and events, Management believes it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. The Company’s impaired loans include non-performing material loans for which full payment of principal or interest is not expected. The Company calculates an allowance required for impaired loans based on the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s observable market price or the fair value of its collateral. If the recorded investment in the impaired loan exceeds the measure of fair value, a valuation allowance is required as a component of the allowance for loan losses. Changes to the valuation allowance are recorded as a component of the provision for loan losses.

Generally, loans which become 90 days delinquent are reviewed relative to collectability. Unless such loans are in the process of terms revision to bring them to a current status or foreclosure or in the process of collection, those loans deemed uncollectible are charged off against the allowance account.

Allowance for Loan Losses

The allowance for loan losses is established through provisions for loan losses charged against earnings. Loans deemed to be uncollectible are charged against the allowance for loan losses, and subsequent recoveries, if any, are credited to the allowance.

The allowance for loan losses is based on Management’s evaluation of the loan portfolio under current economic conditions and is an amount that Management believes will be adequate to absorb probable losses on loans existing at the reporting date. The evaluation includes Management’s assessment of several factors: review and evaluations of specific loans, changes in the nature and volume of the loan portfolio, current and anticipated economic conditions and the related impact on specific borrowers and industry groups, a study of loss experience, a review of classified, nonperforming and delinquent loans, the estimated value of any underlying collateral, an estimate of the possibility of loss based on the risk characteristics of the portfolio, adverse situations that may affect the borrower’s ability to repay and the results of regulatory examinations. This evaluation is inherently subjective as it requires material estimates that may be susceptible to significant change.

The allowance consists of specific and general components. The specific component relates to loans that are classified. For such loans, a specific allowance is established when the collateral value is lower than the carrying value of the loan. The general component of the allowance relates to loans that are not classified and is based on historical loss experience and qualitative factors as determined by Management.

Bank Premises and Equipment

Bank premises and equipment are stated at cost, less accumulated depreciation. Depreciation is computed by the straight-line method based on the estimated useful lives of the related assets.

Other Real Estate

Other real estate acquired through foreclosure is carried at fair value, less estimated costs to sell. If, at foreclosure, the carrying value of the loan is greater than the estimated market value of the property acquired, the excess is charged against the allowance for loan losses and any subsequent adjustments are charged to expense. Costs of operating and maintaining the properties, net of related income and gains (losses) on their disposition, are charged to expense as incurred.

Trust Department Income and Fees

Corporate trust fees are accounted for on an accrual basis and personal trust fees are recorded when received.

Income Taxes

The Company files a consolidated tax return with its wholly-owned subsidiaries. The tax liability of each entity is allocated based on the entity’s contribution to consolidated taxable income. The provision for applicable income taxes is based upon reported income and expenses as adjusted for differences between reported income and taxable income. The primary differences are exempt income on state, county and municipal securities; differences in provisions for losses on loans as compared to the amount allowable for income tax purposes; directors’ and officers’ life insurance; depreciation for income tax purposes over (under) that reported for financial statements and gains on the sale of bank premises which were structured under the provisions of Section 1031 of the Internal Revenue Code.

Leases

All leases are accounted for as operating leases in accordance with the terms of the leases.

Earnings Per Share

Basic and diluted earnings per share are computed on the basis of the weighted average number of common shares outstanding, 5,170,430, 5,342,470 and 5,489,861 in 2009, 2008 and 2007, respectively.

Statements of Cash Flows

The Company has defined cash and cash equivalents to include cash and due from banks and federal funds sold. The Company paid $7,576,159, $14,961,180 and $24,853,712 in 2009, 2008 and 2007, respectively, for interest on deposits and borrowings. Income tax payments totaled $520,000, $1,635,000 and $4,819,000 in 2009, 2008 and 2007, respectively. Loans transferred to other real estate amounted to $4,082,874, $399,725 and $19,500 in 2009, 2008 and 2007, respectively. The income tax effect from the unrealized gain (loss) on available for sale securities on accumulated other comprehensive income was $(1,477,178), $1,277,519 and $1,395,266, at December 31, 2009, 2008 and 2007, respectively. The income tax effect from the gain (loss) from unfunded post-retirement benefit obligation on accumulated other comprehensive income was $(92,434) , $204,124 and $(282,000) at December 31, 2009, 2008 and 2007, respectively.

Fair Value Measurement

The Company reports certain assets and liabilities at their estimated fair value. These assets and liabilities are classified and disclosed in one of three categories based on the inputs used to develop the measurements. The categories, which establish a hierarchy for ranking the quality and reliability of the information used to determine fair value, are: Level 1 — Quoted market prices in active markets for identical assets or liabilities, Level 2 — Observable market based inputs or unobservable inputs that are corroborated by market data, or Level 3 — Unobservable inputs that are not corroborated by market data.

Subsequent Events

The Company has performed an evaluation of subsequent events through March 11, 2010, which is the date the financial statements were issued.

Reclassifications

Certain reclassifications have been made to the prior year statements to conform to current year presentation. The reclassifications had no effect on prior year net income.

NOTE B — SECURITIES:

The amortized cost and estimated fair value of securities at December 31, 2009, 2008 and 2007, respectively, are as follows (in thousands):

						Gross				Gross				Estimated
December 31, 2009		Amortized Cost				Unrealized Gains				Unrealized Losses				Fair Value
Available for sale securities:
Debt securities:
U.S. Treasury		$	23,987			$	753			$				$	24,740
U.S. Government agencies			216,473				695				(2,590	)			214,578
Mortgage-backed securities			30,035				1,278				(51	)			31,262
States and political subdivisions			39,291				1,179				(266	)			40,204
Total debt securities			309,786				3,905				(2,907	)			310,784
Equity securities			650												650
Total available for sale securities		$	310,436			$	3,905			$	(2,907	)		$	311,434
Held to maturity securities:
States and political subdivisions		$	3,202			$	139			$				$	3,341
Total held to maturity securities		$	3,202			$	139			$				$	3,341

						Gross				Gross				Estimated
December 31, 2008		Amortized Cost				Unrealized Gains				Unrealized Losses				Fair Value
Available for sale securities:
Debt securities:
U.S. Treasury		$	64,963			$	1,746			$				$	66,709
U.S. Government agencies			208,918				3,552				(74	)			212,396
Mortgage-backed securities			28,993				788								29,781
States and political subdivisions			31,594				317				(985	)			30,926
Total debt securities			334,468				6,403				(1,059	)			339,812
Equity securities			650												650
Total available for sale securities		$	335,118			$	6,403			$	(1,059	)		$	340,462
Held to maturity securities:
States and political subdivisions		$	3,394			$	52			$	(8	)		$	3,438
Total held to maturity securities		$	3,394			$	52			$	(8	)		$	3,438

						Gross				Gross				Estimated
December 31, 2007		Amortized Cost				Unrealized Gains				Unrealized Losses				Fair Value
Available for sale securities:
Debt securities:
U.S. Treasury		$	71,952			$	1,354			$				$	73,306
U.S. Government agencies			252,130				1,729				(60	)			253,799
Mortgage-backed securities			33,343				48				(7	)			33,384
States and political subdivisions			22,698				152				(367	)			22,483
Total debt securities			380,123				3,283				(434	)			382,972
Equity securities			4,229				62				(1,234	)			3,057
Total available for sale securities		$	384,352			$	3,345			$	(1,668	)		$	386,029
Held to maturity securities:
States and political subdivisions		$	4,630			$	53			$	(7	)		$	4,676
Total held to maturity securities		$	4,630			$	53			$	(7	)		$	4,676

The Company’s available for sale securities are reported at their estimated fair value, which is determined utilizing several sources. The primary source is Interactive Data Corporation, which utilizes pricing models that vary based on asset class and include available trade, bid and other market information and whose methodology includes broker quotes, proprietary models and vast descriptive databases. The other source for determining fair value is matrix pricing, which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities.

The table below presents the balances of available for sale securities, which are the only assets measured at fair value on a recurring basis, by level within the fair value hierarchy as of December 31, 2009.

										Fair Value Measurement Using
		Total				Level 1				Level 2				Level 3
December 31, 2009		$	311,434,437							$	311,434,437

Available for sale securities with an amortized cost of $310,436,523 were reported at a fair value, net of unrealized gains and losses, of $311,434,437 at December 31, 2009. The net change in unrealized gains and losses of $(2,867,464) was included in comprehensive income during 2009.

The amortized cost and estimated fair value of debt securities at December 31, 2009, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties (in thousands):

		Amortized Cost				Estimated Fair Value
Available for sale securities:
Due in one year or less		$	19,104			$	19,357
Due after one year through five years			68,609				69,968
Due after five years through ten years			62,436				62,484
Due after ten years			129,602				127,713
Mortgage-backed securities			30,035				31,262
Totals		$	309,786			$	310,784
Held to maturity securities:
Due in one year or less		$	305			$	308
Due after one year through five years			1,901				2,001
Due after five years through ten years			996				1,032
Totals		$	3,202			$	3,341

Information pertaining to securities with gross unrealized losses at December 31, 2009, 2008 and 2007, respectively, aggregated by investment category and length of time that individual securities have been in a continuous loss position, is as follows (in thousands):

		Less than twelve months								Over twelve months								Total
December 31, 2009		Fair Value				Gross Unrealized Loss				Fair Value				Gross Unrealized Loss				Fair Value				Gross Unrealized Loss
U.S. Government Agencies		$	138,914			$	2,590			$				$				$	138,914			$	2,590
States and political subdivisions			9,501				148				2,521				118				12,022				266
Mortgage-backed securities			4,856				51												4,856				51
Total		$	153,271			$	2,789			$	2,521			$	118			$	155,792			$	2,907

		Less than twelve months								Over twelve months								Total
December 31, 2008		Fair Value				Gross Unrealized Loss				Fair Value				Gross Unrealized Loss				Fair Value				Gross Unrealized Loss
U.S. Government Agencies		$	10,781			$	74			$				$				$	10,781			$	74
States and political subdivisions			16,545				740				2,826				253				19,371				993
Total		$	27,326			$	814			$	2,826			$	253			$	30,152			$	1,067

		Less than twelve months								Over twelve months								Total
December 31, 2007		Fair Value				Gross Unrealized Loss				Fair Value				Gross Unrealized Loss				Fair Value				Gross Unrealized Loss
U.S. Government Agencies		$	10,974			$	24			$	17,464			$	36			$	28,438			$	60
States and political subdivisions			5,998				249				7,047				125				13,045				374
Mortgage-backed securities			14,201				7												14,201				7
FHLMC preferred stock											1,841				1,234				1,841				1,234
Total		$	31,173			$	280			$	26,352			$	1,395			$	57,525			$	1,675

At December 31, 2009, 29 of the 45 securities issued by U.S. Government agencies, 32 of 147 securities issued by state and political subdivisions and 1 of the 10 mortgage-backed securities contained unrealized losses.

Management evaluates securities for other-than-temporary impairment on a monthly basis. Consideration is given to the length of time and the extent to which the fair value has been less than cost. The Company has also considered that securities are primarily issued by U.S. Treasury and U.S. Government Agencies, the cause of the decline in value, the intent and ability of the Company to hold these securities until maturity and that the Company has traditionally held virtually all of its securities, including those classified as available for sale, until maturity. Any sales of available for sale securities, which have been infrequent and immaterial, have been for liquidity purposes. As a result of the evaluation of the impairment of these securities, the Company has determined that the declines summarized in the table above are not deemed to be other-than-temporary.

Proceeds from maturities and calls of held to maturity debt securities during 2009, 2008 and 2007 were $195,000, $1,240,000 and $86,460,000, respectively. There were no sales of held to maturity debt securities during 2009, 2008 and 2007. Proceeds from maturities, sales and calls of available for sale debt securities were $277,022,490, $257,886,217 and $209,677,761 during 2009, 2008 and 2007, respectively. Available for sale debt securities were sold in 2009 and 2007 for a realized gain (loss) of $869,123 and $(605,813). There were no sales of available for sale debt securities in 2008. The Company realized a gain of $249,000 from the liquidation of equity securities in 2008. During 2009, the Company recorded a loss of $149,517 from the other-than-temporary impairment of an equity investment. During 2008, the Company recorded a loss of $2,964,000 from the other-than-temporary impairment of its investment in Federal Home Loan Mortgage Corporation Preferred Stock.

Securities with an amortized cost of $296,176,580, $328,047,697 and $342,084,423 at December 31, 2009, 2008 and 2007, respectively, were pledged to secure public deposits, federal funds purchased and other balances as required by law.

The Company invests in Federal Home Loan Bank (FHLB) common stock as a prerequisite for participation in certain FHLB programs. The amount to be invested in FHLB stock is calculated according to FHLB guidelines as a percentage of certain mortgage loans. Based on this calculation, the FHLB may periodically automatically redeem its common stock. The investment is carried at cost. Dividends received are reinvested in FHLB stock.

NOTE C — LOANS:

The composition of the loan portfolio was as follows (in thousands):

December 31,		2009				2008				2007
Real estate, construction		$	94,460			$	118,455			$	93,739
Real estate, mortgage			299,403				290,458				265,465
Loans to finance agricultural production			1,755				3,178				2,545
Commercial and industrial loans			52,250				43,312				76,267
Loans to individuals for household, family and other consumer expenditures			9,049				10,202				11,173
Obligations of states and political subdivisions			7,891				1,733				1,747
All other loans			168				39				56
Totals		$	464,976			$	467,377			$	450,992

Transactions in the allowance for loan losses were as follows (in thousands):

		2009				2008				2007
Balance, January 1		$	11,114			$	9,378			$	10,841
Recoveries			569				673				266
Loans charged off			(9,080	)			(1,284	)			(684	)
Provision for allowance for loan losses			5,225				2,347				(1,045	)
Balance, December 31		$	7,828			$	11,114			$	9,378