ACNB Corporation - 10-Q quarterly report FY

PART I

ACNB CORPORATION

ITEM 1 - FINANCIAL INFORMATION

CONSOLIDATED STATEMENTS OF CONDITION (UNAUDITED)

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

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ACNB CORPORATION

CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)

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

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ACNB CORPORATION

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (UNAUDITED)

Nine Months Ended September 30, 2008 and 2007

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

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ACNB CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

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

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RESULTS OF OPERATIONS

Quarter ended September 30, 2008, compared to quarter ended September 30, 2007

Executive Summary

Net income for three months ended September 30, 2008, was $484,000 compared to $2,082,000 for the same quarter in 2007, a decrease of $1,598,000 or 77%.  Earnings per share decreased from $.35 in 2007 to $.08 in 2008.  Net interest income increased $1,249,000 or 20%; however, the provision for loan losses increased $3,575,000, other income increased $178,000 or 7%, and other expenses increased $353,000 or 6%.

Net Interest Income

Net interest income totaled $7,550,000 during the quarter ended September 30, 2008, as compared to $6,301,000 for the same period in 2007, an increase of $1,249,000 or 20%. Net interest income increased due to a decrease in interest expense resulting from a reduction in volume of interest bearing liabilities in conjunction with a planned de-leveraging strategy, as well as from reductions in market rates associated with the turmoil in broader financial markets and Federal Reserve actions over the last four quarters.  Declines in the Fed Funds Target Rate and other market driver rates are factors in rates the Corporation and other financial institutions in the local market pay for deposits.  At the end of the third quarter of 2008, several of the core deposit rates continued at practical floors after the Federal Open Market Committee decreased the Fed Funds Target Rate by 325 basis points in the period from September 18, 2007, to April 30, 2008 (followed by another 50 basis point cut in early October 2008 that will impact net interest income in future quarters).  Interest expense decreased $2,634,000 or 37%.  The decrease in funding costs was partially offset by lower interest income, which decreased $1,385,000 or 10%.  Interest income was lower as a result of investment securities maturities that were not reinvested, but instead used to pay off higher cost wholesale borrowings.  Interest income also decreased due to declines in the Fed Funds Target Rate and other market driver rates. These driver rates are indexed to a portion of the loan portfolio in a manner that a decrease in the driver rates decreases the yield on the loans. For more information about interest rate risk, see Item 7A-Quantitative and Qualitative Disclosures about Market Risk in the Annual Report on Form 10-K dated December 31, 2007, and filed on March 14, 2008.  Over the longer term, the Corporation continues its strategic direction to increase asset yield and interest income, while rebalancing the composition of earning assets and interest bearing liabilities.

The net interest spread for the third quarter of 2008 was 3.18% compared to 2.29% during the same period in 2007.  Also comparing the third quarter of 2008 to 2007, the yield on interest earning assets decreased from 5.72% to 5.49% due to new loan originations at lower rates or existing loans with variable rate features repricing to lower rates; while the cost of interest bearing liabilities decreased by 0.99% due to lower market rates and an improvement in the mix of lower cost transaction accounts.  The net interest margin was 3.49% for the third quarter of 2008 and 2.66% for the third quarter of 2007.

Average earning assets were $866,690,000 during the third quarter of 2008, a decrease of $79,129,000 from the average for the third quarter of 2007.  Average interest bearing liabilities were $752,769,000 in the third quarter of 2008, a decrease of $87,992,000 from the same quarter in 2007.  See the discussion above regarding the de-leveraging strategy that caused the decreases in assets and liabilities.

Provision for Loan Losses

The provision for loan losses was $3,600,000 in the third quarter of 2008 compared to $25,000 in the third quarter of 2007. The increase was a result of measured risk in the loan portfolio compared with the balance in the allowance for loan losses in light of strong loan growth and specific allocations necessary for certain commercial loans negatively impacted primarily by the sharp retraction in the housing market and/or the deteriorating national economy.  ACNB adjusts the provision for loan losses as necessary to maintain the allowance at a level deemed to meet the risk characteristics of the loan portfolio—as further explained under the caption, “Allowance for Loan Losses”, in the Financial Condition section.  For the third quarter of 2008, the Corporation had net charge-offs of $319,000, as compared to net charge-offs of $2,000 for the third quarter of 2007.

Other Income

Total other income was $2,619,000 for the three months ended September 30, 2008, up $178,000, or 7%, from the third quarter of 2007.  Fees from deposit accounts and ATM/debit card revenue rose by $113,000, primarily due to an increase in the non-sufficient funds fee. Income from fiduciary activities, which include both institutional and personal trust management services, totaled $275,000 for the three months ended September 30, 2008, as compared to $253,000 during the third quarter of 2007, a 9% increase as a result of higher volume assets under management. Earnings on bank-owned life insurance increased by $37,000, or 16%, as a result of additional insurance coverage and higher crediting rates. The Corporation’s insurance subsidiary, Russell

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Also included in the increase was an expense of $63,000 from the 2008 implementation of EITF 06-4, “Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Insurance Arrangements”.

Net occupancy expense decreased by $74,000, or 4%, when comparing the first nine months of 2008 to the same period a year ago due to leasing unused space at the Corporation’s Operations Center to a third party.  Equipment expense decreased by $269,000, or 16%, as a result of renegotiated outsourced processing arrangements.

Professional services expense totaled $704,000 during the first nine months of 2008, as compared to $593,000 for the same period in 2007, an increase of $111,000 or 19%.  The increase was due primarily to the outsourcing of technology project management, as well as internal audit, compliance and other similar work.  Other tax expense increased 16% due to a refund of sales and use tax recognized in 2007.   Postage decreased due to coding technology applied to outgoing mail.

Marketing expense decreased by $125,000, or 14%, due to higher expenditures in 2007 to highlight the banking subsidiary’s 150^th anniversary in that year.  Otherwise, the Corporation strives in its marketing initiatives to heighten its franchise awareness, stress stability in a financial marketplace that is experiencing continued turmoil, and promote specific products and services.

Other operating expenses increased $101,000, or 3%, in the first nine months of 2008, as compared to the first nine months of 2007. Higher electronic data and delivery channel expenses and corporate governance expenditures were partially offset by lower deposit losses as a result of heightened fraud awareness and procedures.

Income Tax Expense

The Corporation recognized income taxes of $762,000, or 13.2% of pretax income, during the first nine months of 2008, as compared to $1,408,000, or 19.5% of pre-tax income, during the same period in 2007. The variances from the federal statutory rate of 34% in both periods are generally due to tax-exempt income and investments in low-income housing partnerships (which qualify for federal tax credits).   The income tax provision during the nine months ended September 30, 2008 a nd 2007 included historical and low-income housing tax credits of $516,000 in both periods.

FINANCIAL CONDITION

Executive Summary

Assets totaled $936,698,000 at September 30, 2008, compared to $926,665,000 at December 31, 2007, and $1,006,210,000 at September 30, 2007. Average earnin g assets during the nine months ended September 30, 2008, decreased to $852,784,000 from $917,036,000 during the same period in 2007. Average interest bearing liabilities decreased in 2008 to $745,435,000 from $815,026,000 in 2007. See the discussion above regarding the de-leveraging strategy that caused these decreases.

Investment Securities

ACNB uses investment securities to generate interest and dividend income, manage interest rate risk, and provide liquidity. The investment portfolio is comprised of U.S. Government agencies (governm ent-sponsored enterprises), tax-advantaged municipal, and high-grade corporate securities. These securities provide the appropriate characteristics with respect to yield and maturity relative to the management of the overall balance sheet.  All mortgage-backed security investments are pass through instruments issued by the Federal National Mortgage Association (FNMA) or Federal Home Loan Mortgage Corporation (FHLMC), which guarantee the timely payment of principal on these investments. ACNB’s prepurchase analysis of the borrowers in its FNMA and FHLMC loan pools reveal high credit scores, loans with conservative weighted average loan-to-value ratios and loans that are predominately owner-occupied.  In addition, FNMA and FHLMC have been provided with strong support by the federal government, in effect guaranteeing this type of debt instrument.  There is no exposure to subprime mortgages in the mortgage-backed securities.

At September 30, 2008, the securities balance included a net unrealized loss of $2,394,000, net of taxes, on available for sale securities versus a net unrealized gain of $749,000, net of taxes, at December 31, 2007. An increase in the yield curve relevant to the securities, increased supply (which widened spreads) caused by larger financial institutions selling for liquidity, and concern about the current health of the housing markets were significant factors that led to the decrease in the fair value of securities during the third quarter of 2008.  Management conducted an evaluation for other than temporary impairment of investment securities, in which the fair value is below the adjusted historical cost, and did not identify any securities that are considered other than temporarily impaired.  See Note 7 — Fair Value of Financia l Instruments in the Notes to Consolidated Financial Statements for more information about fair value.

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Loans

Loans outstanding increased by $70,472,000, or 12.8%, from September 30, 2007, to September 30, 2008, and by $73,427,000, or 13.3%, from December 31, 2007, to September 30, 2008. The growth in loans is a result of lending to support existing and new customers. Compared to September 30, 2007, commercial loans grew by approximately $49,000,000 or 19%. Commercial loan growth is the result of the strategic plan to actively lend to businesses in the market area and to participate with other local institutions on commercia l lending credits. Residential real estate mortgage lending increased by $17,000,000 or 7%.  Home equity and other consumer lending increased by approximately $5,000,000, or 10%, as a result of promotional efforts.

Most of the Corporation’s lending activities are with customers located within the southcentral Pennsylvania and northern Maryland region of the country. This region currently and historically has lower unemployment than the U.S. as a whole. The Corporation’s marketplace is predominantly rural and serves as a residential area for nearby larger urban areas, $45,700,000, or 7%, of the loan portfolio is classified as real estate construction, land development, and other land loans. The Corporation does not hold subprime mortgages in its portfolio.

Allowance for Loan Losses

The allowance for loan losses at September 30, 2008, was $9,618,000, or 1.54% of loans, as compared to $5,537,000, or 1.00% of loans, at September 30, 2007, and $5,848,000, or 1.07% of loans, at December 31, 2007. The ratio of non-performing loans plus foreclosed assets to total assets was 1.40% at September 30, 2008, as compared to 0.51% at September 30, 2007, and 0.26% at December 31, 2007.

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Loans past due 90 days and still accruing were $1,544,000 and nonaccrual loans were $11,404,000 as of September 30, 2008, of which approximately 80% are secured by real estate.  Loans past due 90 days and still accruing were $1,126,000 at September 30, 2007, while nonaccruals were $4,050,000.  Loans past due 90 days and still accruing were $1,404,000 at December 31, 2007, while nonaccruals were $854,000.  Nonaccrual loans increased from year-end 2007 to the end of the third quarter of 2008 due to a commercial real estate credit in the amount of $2,400,000, which was identified in the second quarter of 2008 and for which further scheduled payments are unlikely in the absence of the sale of the underlying collateral.  This loan was added to nonaccrual in the second quarter.  In the third quarter of 2008, $2,300,000 in related start-up enterprise commercial loan s were added to nonaccrual status, and the specific loss allocation was increased by $955,000 when the loan became 90 days past due.  In addition, during this same quarter a real estate development credit of $6,300,000 was added to nonaccrual status and the specific loss allocation was increased by $2,500,000.  As appropriate new appraisals were obtained on certain credits and adjustments were made to the corresponding specific loss allocation.  These loans were included in impaired loans at December 31, 2007.

Impaired loans at September 30, 2008, totaled $12,335,000; $8,521,000 which required a specific valuation allowance and $3,814,000 which in management’s estimate require no valuation allowance. The related allowance for loan losses totaled $5,589,000.  Impaired loans at September 30, 2007, totaled $15,239,000; $10,677,000 with a valuation allowance and $4,562,000 which in management’s estimate require no valuation allowance. The related allowance for loan losses totaled $2,437,000. Impaired loans at December 31, 2007, totaled $15,764,000; $14,982,000 with a valuation allowance and $783,000 which in management’s estimate require no valuation allowance. The related allowance for loan losses totaled $2,725,000. The increase in related allowance for loan losses on impaired loans of $3,152,000, or 129%, from September 30, 2007, to September 30, 2008, was mainly a result of the commercial real estate credits and start-up commercial credits referred to above due to a slowing housing market and general economy or other specific attributes.   A decrease in impaired loans without a provision from September 30, 2007, was related to one well collateralized loan that was returned to accruing status after an extended pe riod of timely payments.

A summary of impaired loans at September 30, 2008, is as follows:  The Corporation has two unrelated impaired loans totaling $8,356,000 that finance residential real estate development projects in the Corporation’s primary trading area of Southcentral Pennsylvania, both of which are in nonaccrual of interest status.  The loans have standard terms and conditions including repayment from the sales of the respective properties.  Both loans were originated during the first half of 2006.  One loan, while not matured, has been placed in nonaccrual because of the inability of the borrower to fund the necessary infrastructure improvements; on the other loan, foreclosure has been held in abeyance while reviewing the borrower’s workout pl an including additional collateral and more targeted marketing of the property.  The total specific valuation allowance on the two unrelated loans is $3,898,000.  The respective allowances were derived by estimating the cash flow from the sale of the property given the respective stage of completeness and/or the zoning without required infrastructure.   Also included in other impaired loans are related term loans and a fully disbursed line of credit, all originated in second quarter 2006 for a start-up enterprise in the food industry in Southcentral Pennsylvania, that total $2,275,000 with a specific valuation allowance of $1,691,000.  These loans, with standard terms and conditions including repayment from conversion of trade assets, are in default and in nonaccrual status.    The valuation allowance on this set of loans was derived by estimating the cash flow from the liquidation of personal and business assets pledged as collateral.  Commencement of liquidation will proceed if no further payments are made by the borrower.  Other impaired loans total $1,704,000 of which $773,000 are in nonaccrual status and in management’s estimate required no valuation allowance.

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The Corporation utilizes a systematic review of its loan portfolio on a quarterly basis in order to determine the adequacy of the allowance for loan losses.  The allowance for loan losses consists of a component for individual loan impairment, primarily based on the loan’s collateral fair value and expected cash flow.  A watch list of loans is identified for evaluation based on internal and external loan grading and reviews.  Loans other than those determined to be impaired are grouped into pools of loans with similar credit risk characteristics.  These loans are evaluated as groups with allocations made to the allowance based on historical loss experience adjusted for current trends in delinquencies, trends in underwriting and oversight, concentrations of credit, and general economic conditions within the Corporation’s trading area. The increase in the provision for loan losses for the third quarter of 2008 compared to the third quarter of 2007 was a result of the measurement of the adequacy of the allowance for loan losses at each period.  Reasons that the 2008 provision was higher included changes in allocations for specific loans, a deteriorating local housing market, and strong growth in the loan portfolio during the nine months ended September 30, 2008, which causes the amounts assigned to homogeneous pools to increase.

Deposits

ACNB continues to rely on deposits as a primary source of funds for lending activities, supplemented with investment maturities and borrowings. Deposits decreased by $8,921,000, or 1%, from September 30, 2007, to September 30, 2008.  Deposits increased by $7,740,000, or 1%, from December 31, 2007, to September 30, 2008.  A portion of the changes in all periods related to varying amounts of customer funds held in transaction accounts that are used for larger commercial and governmental customers’ cash flow needs; such accounts are normally higher in balances at the end of the third quarter compared to year-end.  Certif icates of deposit declined during the first nine months of 2008 as either rate-conscious savers moved funds to other institutions or other types of accounts because of significantly reduced interest rates due to market factors or depositors utilized the funds due to tightening economic conditions.  Deposit rates decreased during the first nine months of 2008 as market rates declined in response to the Federal Open Market Committee decreasing the Fed Funds Target Rate by 325 basis points since mid-September 2007.

Borrowings

Short-ter m borrowings are comprised primarily of securities sold under agreements to repurchase and overnight borrowings at the Federal Home Loan Bank (FHLB) of Pittsburgh. As of September 30, 2008, short-term borrowings were $36,991,000, as compared to $30,768,000 at December 31, 2007, and $109,488,000 at September 30, 2007. Compared to year-end, repurchase agreement balances were up $6,063,000 due to seasonal fluctuation in ACNB’s commercial customer base and new customers.  The overnight borrowings at the FHLB were $0 at September 30, 2008, compared to $390,000 at December 31, 2007, a variation due to required overnight borrowings to balance cash letters in clearing.  The overnight borrowings at the FHLB were $78,629,000 at September 30, 2007, due to short term borrowing used to replace investment securities that were anticipated to be called in the fourth quarter of 2007.

Long-term debt consists primarily of advances from the FHLB. Long-term debt totaled $132,027,000 at September 30, 2008, versus $130,244,000 at December 31, 2007, and $115,315,000 at September 30, 2007. The Corporation increased long-term debt by 1% from year-end 2007 to partially fund increases in the loan portfolio.

Capital

ACNB’s capital management strategies have been developed to provide an app ropriate rate of return to stockholders, while maintaining its “well-capitalized” position.  Total stockholders’ equity was $82,848,000 at September 30, 2008, compared to $85,130,000 at December 31, 2007, and $82,097,000 at September 30, 2007.  Stockholders’ equity decreased in the first nine months of 2008 due to an increase in accumulated other comprehensive loss resulting from a decline in the fair value of the investment portfolio that was only partially offset by earnings retained in capital. Other comprehensive income or loss is mainly caused by fixed-rate investment securities gaining or losing value in different interest rate environments.

The primary source of additional capital to ACNB is earnings retention, which represents net inco me less dividends declared. During the first nine months of 2008, ACNB earned $5,022,000 and paid dividends of $3,415,000 for a dividend payout ratio of 68%.  As a result of implementing EITF 06-4, “Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Insurance Arrangements”, a direct charge to retained earnings of $745,000 was made in 2008.  During the first nine months of 2007, ACNB earned $5,814,000 and paid dividends of $3,425,000 for a dividend payout ratio of 59%.

ACNB 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 undert aken, could have a direct material effect on ACNB. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, ACNB must meet specific capital guidelines that involve quantitative measures of its assets and certain off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.

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Quantitative measures established by regulation to ensure capital adequacy require ACNB and its banking subsidiary to maintain minimum amounts and ratios of total and Tier 1 capital to average and risk-weighted assets. Management believes, as of September 30, 2008, that ACNB and its banking subsidiary met all minimum capital adequacy requirements to which they are subject and are, therefore, categorized as “well-capitalized”.

Risk-Based Capital

ACNB’s capital ratios are as follows:

On October 14, 2008, the U.S. Department of Treasury announced a voluntary capital purchase program under the Troubled Asset Relief Program (TARP), as authorized by the Emergency Economic Stabilization Act of 2008.  The Treasury has allocated $250 billion to purchase senior preferred stock in banks through this capital purchase program.  At this time, ACNB is evaluating the merits of participating in this program.

Also, on October 14, 2008, the Federal Deposit Insurance Corporation announced the Temporary Liquidity Guarantee Program.  This program is i ntended to strengthen confidence and encourage liquidity in the banking system by guaranteeing newly-issued senior unsecured debt of banks and providing full coverage of non-interest bearing transaction accounts, regardless of dollar amount.  All FDIC-insured financial institutions are covered under this program for the first 30 days without incurring any additional costs.  After the initial period, institutions electing to no longer participate must opt out or be assessed for future participation.  At this time, the Corporation does not intend to opt out of the unlimited insurance coverage for non-interest bearing transaction accounts and is in the process of evaluating participation in the guarantee for newly-issued senior unsecured debt.

Liquidity font>

Effective liquidity management ensures the cash flow requirements of depositors and borrowers, as well as the operating cash needs of ACNB, are met.

ACNB’s funds are available from a variety of sources, including assets that are readily convertible to cash, maturities and repayments from the securities portfolio, scheduled repayments of loans receivable, the core deposit base, and the ability to borrow from the FHLB. At September 30, 2008, ACNB’s banking subsidiary had a borrowing capacity of approximately $359,332,000 from the FHLB of which $232,33 2,000 was available.  The total borrowing capacity varies directly with the amount and quality of certain loans and investments that serve as collateral.

The third quarter of 2008 experienced extreme difficulties in bank-to-bank liquidity worldwide.  ACNB has been insulated from the freeze in credit markets by its relationship with the FHLB, a government-sponsored enterprise regulated by the Federal Housing Finance Agency.  The FHLB system is self-capitalizing, member-owned, and its member banks’ stock is not publicly traded.  ACNB creates its borrowing capacity with the FHLB by granting a security interest in certain loan and investment security assets with requisite credit quality.  ACNB has reviewed a recent independent rating agency’s report on the FHLB system and the FHLB of Pittsburgh, and has concluded that they have the capacity and intent to continue to provide both operational and contingency liquidity.

Another source of liquidity is securities sold under repurchase agreements to customers of ACNB’s banking subsidiary totaling $35,991,000 and $29,928,000 at September 30, 2008, and December 31, 2007, respectively.

The liquidity of the parent company, ACNB Corporation, also represents an important aspect of liquidity management. The parent company’s cash outflows consist principally of d ividends to stockholders and corporate expenses. The main source of funding for the parent company is the dividends it receives from its banking subsidiary. Federal and state banking regulations place certain restrictions on dividends paid to the parent company from subsidiary banks. The total amount of dividends that may be paid from the subsidiary bank to ACNB was $4,250,000 at September 30, 2008.

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Off-Balance Sheet Arrangements

The Corporation is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers.  These financial instruments include commitments to extend credit and, to a lesser extent, standby letters of credit.  At September 30, 2008, the Corporation had unfunded outstanding commitments to extend credit of approximately $143,803,000 and outstanding standby letters of credit of approximately $6,076,000.  Because these commitments generally have fixed expiration dates and many will expire without being drawn upon, the total commitment level does not necessarily represent future cash requirements.

Recent Developments

The global and U.S. economies are experiencing significantly reduced business activity as a result of, among other factors, disruptions in the financial system during the past year. Dramatic declines in the housing market during the past year, with falling home prices and increasing foreclosures and unemployment, have resulted in significant write-downs of asset values by financial institutions, including government-sponsored entities and major commercial and investment banks. These write-downs, initially of mortgage-backed securities but spreading to credit default swaps and other derivative securities, have caused many financial institutions to seek additional capital, to merge with larger and stronger institutions and, in some cases, to fail.

Reflecting concern about the stability of the financial markets generally and the strength of counterparties, many lenders and institutional investors have reduced and, in some cases, ceased to provide funding to borrowers, including other financial institutions. The availability of credit, confidence in the financial sector, and level of volatility in the financial markets have been significantly adversely affected as a result. In recent weeks, volatility and disruption in the capital and credit markets has reached unprecedented levels. In some cases, the markets have produced downward pressure on stock prices and credit capacity for certain issuers without regard to those issuers’ underlying financial strength.

In response to the financial crises affecting the banking system and financial markets and going concern threats to investment banks and other financial institutions, on October 3, 2008, the Emergency Economic Stabilization Act of 2008 (the EESA) was signed into law. Pursuant to the EESA, the U.S. Treasury will have the authority to, among other things, purchase up to $700 billion of mortgages, mortgage-backed securities, and certain other financial instruments from financial institutions for the purpose of stabilizing and providing liquidity to the U.S. financial markets.  The EESA included a provision for a temporary increase in FDIC insurance from $100,000 to $250,000 per depositor through December 31, 2009.

On October 14, 2008, Secretary Paulson, after consulting with the Federal Reserve and the FDIC, announced that the Department of the Treasury will purchase equity stakes in a wide variety of banks and thrifts. Under this program, known as the Troubled Asset Relief Program (TARP) Capital Purchase Program, from the $700 billion authorized by the EESA, the Treasury will make $250 billion of capital available to U.S. financial institutions in the form of preferred stock. In conjunction with the purchase of preferred stock, the Treasury will receive warrants to purchase common stock with an aggregate market price equal to 15% of the preferred investment. Participating financial institutions will be required to adopt the Treasury’s standards for executive compensation and corporate governance for the period during which the Treasury holds equity issued under the TARP Capital Purchase Program.

Also on October 14, 2008, after receiving a recommendation from the boards of the FDIC and the Federal Reserve, and consulting with the President, Secretary Paulson signed the systemic risk exception to the FDIC Act, enabling the FDIC to temporarily provide a 100% guarantee of the senior debt of all FDIC-insured institutions and their holding companies, as well as deposits in non-interest bearing transaction deposit accounts under a Temporary Liquidity Guarantee Program. Coverage under the Temporary Liquidity Guarantee Program is available for a 30-day period without charge, and thereafter at a cost of 75 basis points per annum for senior unsecured debt and 10 basis points per annum for non-interest bearing transaction deposits.

It is not clear at this time what impact the EESA, TARP Capital Purchase Program, Temporary Liquidity Guarantee Program, other liquidity and funding initiatives of the Federal Reserve and other agencies that have been previously announced, and any additional programs that may be initiated in the future will have on the financial markets and the other difficulties described above, including the extreme levels of volatility and limited credit availability currently being experienced, or on the U.S. banking and financial industries and the broader U.S. and global economies. Further adverse effects could have an adverse effect on the Corporation and its business.

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ACNB CORPORATION

ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Management monitors and evaluates changes in market conditions on a regular basis.  Based upon the most recent review, management has determined that there have been no material changes in market risks since prior year-end.  For further discussion of year-end information, refer to the Annual Report on Form 10-K.

ITEM 4 - CONTROLS AND PROCEDURES

As of the end of the period covered by this report, the Corporation carried out an evaluation, under the supervision and with the participation of the Corporation’s management, including the Corporation’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Corporation’s disclosure controls and procedures pursuant to the Securities Exchange Act of 1934 (“Exchange Act”) Rule 13a-15e.  Based upon that evaluation, the Corporation’s Chief Executive Officer along with the Corporation’s Chief Financial Officer concluded that the Corporation’s disclosure controls and procedures are effective.

Disclosure controls and procedures are Corporation controls and other procedures that are designed to ensure that information required to be disclosed by the Corporation in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.

There were no changes in the Corporation’s internal control over financial reporting during the fiscal quarter ended September 30, 2008, that have materially affected, or are reasonably likely to materially affect, the internal control over financial reporting.

ITEM 4T - CONTROLS AND PROCEDURES

Not Applicable.

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PART II - - OTHER INFORMATION

ACNB CORPORATION

ITEM 1 - LEGAL PROCEEDINGS

Management is not aware of any litigation that would have a material adverse effect on the consolidated financial position or results of operations of the Corporation.  There are no proceedings pending other than the ordinary routine litigation incident to the business of the Corporation and its subsidiaries.  In addition, no material proceedings are pending, or are known to be threatened or contemplated, against the Corporation and its subsidiaries by government authorities.

ITEM 1A - RISK FACTORS

Management has reviewed the risk factors that were previously disclosed in the Annual Report on Form 10-K for the fiscal year ended December 31, 2007.  It was determined that there are no material changes in these risk factors as previously disclosed in the Form 10-K.  In addition, as a result of current financial and market conditions, two new risk factors have been identified as follows:

THE SOUNDNESS OF OTHER FINANCIAL INSTITUTIONS MAY ADVERSELY AFFECT US.

Financial services institutions are interrelated as a result of trading, clearing, counterparty, or other relationships. The Corporation has exposure to many different industries and counterparties, and routinely executes transactions with counterparties in the financial services industry, including commercial banks, brokers and dealers, investment banks, and other institutional clients. Many of these transactions expose the Corporation to credit risk in the event of a default by a counterparty or client. In addition, the Corporation’s credit risk may be exacerbated when the collateral held by the Corporation cannot be realized upon or is liquidated at prices not sufficient to recover the full amount of the credit or derivative exposure due to the Corporation. Any such losses could have a material adverse effect on the Corporation’s financial condition and results of operations.

CURRENT LEVELS OF MARKET VOLATILITY ARE UNPRECEDENTED AND MAY HAVE MATERIALLY ADVERSE EFFECTS ON OUR LIQUIDITY AND FINANCIAL CONDITION.

The capital and credit markets have been experiencing extreme volatility and disruption for more than 12 months. In recent weeks, the volatility and disruption have reached unprecedented levels. In some cases, the markets have exerted downward pressure on stock prices, security prices, and credit capacity for certain issuers without regard to those issuers’ underlying financial strength.  If the current levels of market disruption and volatility continue or worsen, there can be no assurance that we will not experience adverse effects, which may be material, on our liquidity, financial condition, and profitability.

ITEM 2 - UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS - NOTHING TO REPORT.

ITEM 3 - DEFAULTS UPON SENIOR SECURITIES - NOTHING TO REPORT.

ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS - NOTHING TO REPORT.

ITEM 5 - OTHER INFORMATION - NOTHING TO REPORT.

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SIGNATURES

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

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