NORWOOD FINANCIAL CORP Management’s Discussion and Analysis of Financial Condition and Results of Operations (Form 10-Q)

Forward-looking statements

This Quarterly Report on Form 10-Q may include certain forward-looking
statements based on current management expectations. Such forward-looking
statements may be identified by reference to a future period or periods or by
the use of forward-looking terminology, such as "may", "will", "believe",
"expect", "estimate", "anticipate", "continue", or similar terms or variations
on those terms, or the negative of those terms. The actual results of the
Company could differ materially from those management expectations. This
includes statements regarding general economic conditions, public health crisis
such as the governmental, social and economic effects of the novel coronavirus,
legislative and regulatory changes, monetary and fiscal policies of the federal
government, changes in tax policies, rates and regulations of federal, state and
local tax authorities and failure to integrate or profitably operate acquired
businesses. Additional potential factors include changes in interest rates, the
rate of inflation, deposit flows, cost of funds, demand for loan products and
financial services, competition and changes in the quality or composition of
loan and investment portfolios of the Company. Other factors that could cause
future results to vary from current management expectations include changes in
accounting principles, policies or guidelines, and other economic, competitive,
governmental and technological factors affecting the Company's operations,
markets, products, services and prices. Further description of the risks and
uncertainties to the business are included in the Company's other filings with
the Securities and Exchange Commission.

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In addition, the COVID-19 pandemic has had, and may continue to have, an adverse
impact on the Company and the communities it serves. Given its ongoing and
dynamic nature, it is difficult to predict the full impact of the COVID-19
pandemic on our business. The extent of such impact will depend on future
developments, which are highly uncertain, including whether the coronavirus can
continue to be controlled and abated. As the result of the COVID-19 pandemic and
the related adverse local and national economic consequences, we could be
subject to any of the following risks, any of which could have a material,
adverse effect on our business, financial condition, liquidity, and results of
operations: the demand for our products and services may decline, making it
difficult to grow assets and income; if the economy worsens, loan delinquencies,
problem assets, and foreclosures may increase, resulting in increased charges
and reduced income; collateral for loans, especially real estate, may decline in
value, which could cause loan losses to increase; our allowance for credit
losses may increase if borrowers experience financial difficulties, which will
adversely affect our net income; the net worth and liquidity of loan guarantors
may decline, impairing their ability to honor commitments to us; due to a
decline in our stock price or other factors, goodwill may become impaired and be
required to be written down; and our cyber security risks are increased as the
result of an increase in the number of employees working remotely.

The majority of the assets and liabilities of a financial institution are
monetary in nature, and therefore, differ greatly from most commercial and
industrial companies that have significant investments in fixed assets or
inventories. However, inflation does have an impact on the Company, particularly
with respect to the growth of total assets and noninterest expenses, which tend
to rise during periods of general inflation. Risks also exist due to supply and
demand imbalances, employment shortages, the interest rate environment, and
geopolitical tensions. It is reasonably foreseeable that estimates made in the
financial statements could be materially and adversely impacted in the near term
as a result of these conditions, including expected credit losses on loans and
the fair value of financial instruments that are carried at fair value.

Except as required by applicable law or regulation, the Company does not
undertake, and specifically disclaims any obligation, to release publicly the
result of any revisions that may be made to any forward-looking statements to
reflect events or circumstances after the date of the statements or to reflect
the occurrence of anticipated or unanticipated events.

Critical accounting policies

Note 2 to the Company's consolidated financial statements for the fiscal year
ended December 31, 2021 (included in Item 8 of the Annual Report on Form 10-K
for the fiscal year ended December 31, 2021) lists significant accounting
policies used in the development and presentation of its financial statements.
This discussion and analysis, the significant accounting policies, and other
financial statement disclosures identify and address key variables and other
qualitative and quantitative factors that are necessary for an understanding and
evaluation of the Company and its results of operations.

Material estimates that are particularly susceptible to significant change in
the near term relate to the determination of the allowance for loan losses, the
valuation of deferred tax assets, the fair value of financial instruments, the
determination of other-than-temporary impairment on securities and the
determination of goodwill impairment. Please refer to the discussion of the
allowance for loan losses calculation under "Loans" in the "Changes in Financial
Condition" section.

The Company uses the modified prospective transition method to account for stock
options. Under this method companies are required to record compensation
expense, based on the fair value of options over the vesting period. Restricted
shares vest over a five-year period. The product of the number of shares granted
and the grant date market price of the Company's common stock determines the
fair value of restricted stock.

Deferred income taxes reflect temporary differences in the recognition of the
revenue and expenses for tax reporting and financial statement purposes,
principally because certain items are recognized in different periods for
financial reporting and tax return purposes. Although realization is not
assured, the Company believes that it is more likely than not that all deferred
tax assets will be realized.

The fair value of financial instruments is based upon quoted market prices, when
available.  For those instances where a quoted price is not available, fair
values are based upon observable market based parameters as well as unobservable
parameters.  Any such valuation is applied consistently over time.

Management determines the appropriate classification of debt securities at the time of purchase and reassesses this designation at each consolidated balance sheet date.

Declines in the fair value of available for sale securities below their cost
that are deemed to be other than temporary are reflected in earnings as realized
losses. In estimating other-than-temporary impairment losses, the Company
considers (1) the length of time and the extent to which the fair value has been
less than cost, (2) the financial condition and near-term prospects of the
issuer, and (3) the intent of the Company to not sell the securities and whether
it is more likely than not that it will not have to sell the

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securities before recovery of their cost basis. The Company believes that all
unrealized losses on securities at June 30, 2022 and December 31, 2021 represent
temporary impairment of the securities, related to changes in interest rates.

In connection with acquisitions, the Company recorded goodwill in the amount of
$29.3 million, representing the excess of amounts paid over the fair value of
net assets of the institutions acquired in purchase transactions, at its fair
value at the date of acquisition. Goodwill is tested and deemed impaired when
the carrying value of goodwill exceeds its implied fair value. The value of the
goodwill can change in the future. We expect the value of the goodwill to
decrease if there is a significant decrease in the franchise value of the
Company or the Bank. If an impairment loss is determined in the future, we will
reflect the loss as an expense for the period in which the impairment is
determined, leading to a reduction of our net income for that period by the
amount of the impairment loss.

Changes in financial situation

General

Total assets as of June 30, 2022 were $2.066 billion compared to $2.069 billion
as of December 31, 2021. The decrease was due primarily to a $105.9 million
decrease in interest-bearing deposits with banks. Interest-bearing balances with
banks decreased as overnight liquidity was utilized to fund growth in loans and
securities, and to pay off long-term borrowings. The decrease was partially
offset by a 34.1 million increase in securities available for sale, and a $49.4
million increase in loans receivable.

Securities

The fair value of securities available for sale as of June 30, 2022 was
$440.9 million compared to $406.8 million as of December 31, 2021. The increase
in the securities portfolio is the result of purchases executed to invest excess
liquidity and to provide pledging for public deposits.

The Company has securities in an unrealized loss position. In management's
opinion, the unrealized losses reflect changes in interest rates subsequent to
the acquisition of specific securities. Management believes that the unrealized
losses on all holdings represent temporary impairment of the securities, as the
Company has the intent and ability to hold these investments until maturity or
market price recovery.

Loans

Loans receivable total $1.404 billion at June 30, 2022 compared to
$1.355 billion of the December 31, 2021. The $49.4 million increase in loans receivable during the six months ended June 30, 2022 was due to a $16.7 million
increase in commercial real estate loans, a $16.1 million increase in residential mortgages and a $13.6 million increase in consumer loans.

The allowance for loan losses totaled $17,017,000 as of June 30, 2022, and
represented 1.21% of total loans outstanding, compared to $16,442,000, or 1.21%
of total loans outstanding, at December 31, 2021. The Company had net
charge-offs for the six months ended June 30, 2022 of $25,000, compared to
$810,000 in the corresponding period in 2021. The Company's management assesses
the adequacy of the allowance for loan losses on a quarterly basis. The process
includes an analysis of the risks inherent in the loan portfolio. It includes an
analysis of impaired loans and a historical review of credit losses by loan
type. Other factors considered include concentration of credit in specific
industries, economic and industry conditions, trends in delinquencies and loan
classifications, and loan growth. In addition, management has included
qualitative factors during 2022 which are specifically related to the economic
impact of the COVID-19 pandemic. Management considers the allowance for loan
losses adequate at June 30, 2022 based on the Company's criteria. However, there
can be no assurance that the allowance for loan losses will be adequate to cover
significant losses, if any, which might be incurred in the future.

As of June 30, 2022, non-performing loans totaled $672,000 or 0.05% of total
loans compared to $734,000, or 0.05%, of total loans at December 31, 2021. At
June 30, 2022, non-performing assets totaled $1,018,000, or 0.05%, of total
assets, compared to $2,476,000, or 0.12%, of total assets at December 31, 2021.
The decrease in non-performing assets during the six month period ended June 30,
2022, was due to sales of properties included in foreclosed real estate.

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The following table presents information relating to bad debts and foreclosed real estate on the dates indicated:

(dollars in thousands)                       June 30, 2022      December 31, 2021
Loans accounted for on a non-accrual basis:
Real Estate
Residential                                 $           456    $               469
Commercial                                               49                    103
Agricultural                                              -                      -
Construction                                              -                      -
Commercial and financial loans                           13                 

16

Other agricultural loans                                  -                 

Consumer loans to individuals                           154                 

55

Total non-accrual loans                                 672                 

643

Accruing loans which are contractually
past due 90 days or more                                  -                     91
Total non-performing loans                              672                    734
Foreclosed real estate                                  346                  1,742
Total non-performing assets                 $         1,018    $             2,476

Purchased credit impaired loans (a)         $         6,631    $             8,304

Allowance for loans losses                  $        17,017    $            16,442

Coverage of non-performing loans (a) (b)             2,532% %               2,240% %
Non-performing loans to total loans(a)                 0.05 %                 0.05 %
Non-performing loans to total assets(a)                0.03 %                 0.03 %
Non-performing assets to total assets(a)               0.05 %               

0.12%


(a) Purchased impaired loans are loans obtained in acquisition transactions that
as of the acquisition date were specifically identified as displaying signs of
credit deterioration and for which the Company did not expect to collect all
contractually required principal and interest payments. Those loans were
impaired at the date of acquisition, were recorded at estimated fair value and
were generally delinquent in payments. The Company estimated the timing and
amount of expected cash flows in excess of the estimated fair value and
established an accretable discount on the acquisition date relating to these
impaired loans that is recognized in interest income.

(b) For loans acquired with specific signs of deterioration in credit quality, a specific credit fair value adjustment is established at the date of acquisition and will not impact the provision for credit losses. loans, unless the actual losses exceed the established fair value adjustment.

Deposits

During the six-month period ended June 30, 2022total deposits increased
$43.0 million mainly due to growth in interest-bearing demand deposits.

The following table shows the deposit balances on the dates indicated:

(dollars in thousands) June 30, 2022 December 31, 2021
Application not bearing interest $442,991 $

           440,652
Interest-bearing demand               248,298              196,786
Money market deposit accounts         314,457              309,439
Savings                               300,932              281,214
Time deposits <$250,000               282,381              271,464
Time deposits >$250,000               210,771              257,238
Total                         $     1,799,830  $         1,756,793


Borrowings

Other borrowings as of June 30, 2022, totaled $4.4 million compared to
$30.0 million as of December 31, 2021. The decrease reflects the early payoff of
$21.1 million Federal Home Loan Bank term borrowings. A prepayment fee of $3,000
was

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recognized in other expenses during the six months ended June 30, 2022. Short-term borrowings, consisting of repo securities and overnight borrowings from the FHLB, increased $9.6 million due to the growth of repurchase agreements.

Other borrowings consisted of the following items:

(dollars in thousands)                                      June 30, 2022     December 31, 2021
Notes with the FHLB:
Amortizing fixed rate borrowing due March 2022 at 1.75%    $             -   $               227
Amortizing fixed rate borrowing due August 2022 at 1.94%                 -                 1,364
Amortizing fixed rate borrowing due October 2022 at 1.88%                -                 1,386
Amortizing fixed rate borrowing due October 2023 at 3.24%            2,827                 3,856
Amortizing fixed rate borrowing due December 2023 at 3.22%           1,585                 2,097
Fixed rate term borrowing due December 2023 at 1.95%                     -                10,000
Amortizing fixed rate borrowing due December 2023 at 1.73%               -                 5,190
Amortizing fixed rate borrowing due April 2024 at 0.91%                  -                 5,878
                                                           $         4,412   $            29,998

Equity and capital ratios

As of June 30, 2022, stockholders' equity totaled $173.8 million, compared to
$205.3 million as of December 31, 2021. The net change in stockholders' equity
included $14.0 million of net income, which was partially offset by $4.6 million
of dividends declared. In addition, total equity decreased $40.0 million due to
a decrease in the fair value of securities in the available for sale portfolio,
net of tax. This decrease in fair value is the result of a change in interest
rates and spreads, which may impact the value of the securities. Because of
interest rate volatility, the Company's accumulated other comprehensive income
could materially fluctuate for each interim and year-end period.

A comparison of the Company's consolidated regulatory capital ratios is as
follows:

                             June 30, 2022  December 31, 2021
Tier 1 Capital
(To average assets)                  8.93%              8.51%
Tier 1 Capital
(To risk-weighted assets)           12.34%             12.49%
Common Equity Tier 1 Capital
(To risk-weighted assets)           12.34%             12.49%
Total Capital
(To risk-weighted assets)           13.49%             13.66%


Effective January 1, 2015, the Company and the Bank became subject to new
regulatory capital rules, which, among other things, impose a new common equity
Tier 1 minimum capital requirement (4.5% of risk-weighted assets), set the
minimum leverage ratio for all banking organizations at a uniform 4% of total
assets, increase the minimum Tier 1 capital to risk-based assets requirement
(from 4% to 6% of risk-weighted assets) and assign a higher risk weight (150%)
to exposures that are more than 90 days past due or are on nonaccrual status and
to certain commercial real estate facilities that finance the acquisition,
development or construction of real property. The new rules also require
unrealized gains and losses on certain "available-for-sale" securities holdings
to be included for purposes of calculating regulatory capital requirements
unless a one-time opt out is exercised which the Company and the Bank have done.
The final rule limits a banking organization's dividends, stock repurchases and
other capital distributions, and certain discretionary bonus payments to
executive officers, if the banking organization does not hold a "capital
conservation buffer" consisting of 2.5% of common equity Tier 1 capital to
risk-weighted assets above regulatory minimum risk-based requirements. The
capital conservation buffer requirement was phased in beginning January 1, 2016
and ending January 1, 2019, when the full capital conservation buffer
requirement became effective. The Company and the Bank are in compliance with
their respective new capital requirements, including the capital conservation
buffer, as of June 30, 2022.

Liquidity

As of June 30, 2022, the Company had cash and cash equivalents of $109.7 million
in the form of cash, due from banks and short-term deposits with other
institutions. In addition, the Company had total securities available for sale
of $440.9 million which could be used for liquidity needs. Total liquidity of
$550.5 million as of June 30, 2022, represents 26.6% of total assets compared to
$613.5 million and 29.7% of total assets as of December 31, 2021. The Company
also monitors other liquidity measures, all of which

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complied with the guidelines of the Company’s policy at June 30, 2022 and December 31, 2021. Based on these measures, the Company believes that its liquidity is adequate.

Capital resources

The Company has a line of credit commitment from Atlantic Community Bankers Bank
for $7,000,000 which expires June 30, 2023. There were no borrowings under this
line as of June 30, 2022 and December 31, 2021.

The Company has a line of credit commitment which has no stated expiry date from PNC Bank for $16,000,000. There was no borrowing on this line at June 30, 2022 and December 31, 2021.

The Company has a line of credit commitment which has no specified expiry date of Bank of Zions for $17,000,000. There was no borrowing on this line at June 30, 2022 and December 31, 2021.

The Bank's maximum borrowing capacity with the Federal Home Loan Bank was
approximately $640,650,000 as of June 30, 2022, of which $4,412,000 was
outstanding in the form of borrowings as of June 30, 2022. As of December 31,
2021, the maximum borrowing capacity was $607,092,000, of which $29,998,000 of
borrowings was outstanding as of December 31, 2021.

Additionally, as of June 30, 2022, the Bank had secured Letters of Credit from
the Federal Home Loan Bank in the amount of $104,050,000 as collateral for
specific municipal deposits. These Letters of Credit reduce the availability
under the maximum borrowing capacity. As of December 31, 2021, there was
$127,850,000 outstanding in the form of Letters of Credit. Advances and Letters
of Credit from the Federal Home Loan Bank are secured by qualifying assets of
the Bank.

Non-GAAP Financial Measures

This report contains or references fully taxable-equivalent (fte) interest
income and net interest income, which are non-GAAP financial measures. Interest
income (fte) and net interest income (fte) are derived from GAAP interest income
and net interest income using an assumed tax rate of 21%. We believe the
presentation of interest income (fte) and net interest income (fte) ensures
comparability of interest income and net interest income arising from both
taxable and tax-exempt sources and is consistent with industry practice.
Interest income (fte) and Net interest income (fte) is reconciled to GAAP
interest income and net interest income on page 38. Fully taxable equivalent
interest income and net interest income is also reflected in the table on page
39. Although the Company believes that these non-GAAP financial measures enhance
investors' understanding of our business and performance, these non-GAAP
financial measures should not be considered an alternative to GAAP measures.


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Operating results

NORWOOD FINANCIAL CORP

Consolidated average balances with interest and resulting rates


(Tax-Equivalent Basis,                             Three Months Ended June 30,
dollars in thousands)                      2022                                  2021
                              Average                  Average      Average                  Average
                              Balance     Interest      Rate        Balance     Interest      Rate
                                (2)          (1)         (3)          (2)          (1)         (3)
Assets
Interest-earning assets:
Interest-bearing deposits
with banks                  $    86,793   $     182       0.84%   $   176,530   $      59       0.13%
Securities available for
sale:
Taxable                         404,764       1,739        1.72       247,611         966        1.56
Tax-exempt (1)                   80,002         580        2.90        64,084         494        3.08
Total securities available
for sale (1)                    484,766       2,319        1.91       311,695       1,460        1.87
Loans receivable (1) (4)
(5)                           1,385,679      15,780        4.56     1,401,890      16,208        4.62
Total interest-earning
assets                        1,957,238      18,281        3.74     1,890,115      17,727        3.75
Non-interest earning
assets:
Cash and due from banks          24,720                                

22,455

Allowance for loan losses      (16,802)                              

(15,143)

Other assets                     78,339                               

114,023

Total non-interest earning
assets                           86,257                               121,335
Total Assets                $ 2,043,495                           $ 2,011,450
Liabilities and
Stockholders' Equity
Interest-bearing
liabilities:
Interest-bearing demand and
money market                $   539,946   $     226        0.17   $   461,221   $     214        0.19
Savings                         306,086          52        0.07       266,832          41        0.06
Time                            481,885         805        0.67       532,939         950        0.71
Total interest-bearing
deposits                      1,327,917       1,083        0.33     1,260,992       1,205        0.38
Short-term borrowings            68,901          60        0.35        77,592          73        0.38
Other borrowings                  8,836          56        2.54        37,787         186        1.98
Total interest-bearing
liabilities                   1,405,654       1,199        0.34     1,376,371       1,464        0.43
Non-interest bearing
liabilities:
Demand deposits                 440,996                               421,499
Other liabilities                15,801                                14,459
Total non-interest bearing
liabilities                     456,797                               435,958
Stockholders' equity       181,044                               199,121
Total Liabilities and
Stockholders' Equity   $ 2,043,495                           $ 2,011,450
Net interest income/spread
(tax equivalent basis)                       17,082       3.40%                    16,263       3.32%
Tax-equivalent basis
adjustment                                    (188)                                 (210)
Net interest income                       $  16,894                             $  16,053
Net interest margin (tax
equivalent basis)                                         3.49%                                 3.44%

(1) Interest and returns are presented on a tax equivalent basis using a marginal tax rate of 21%.

(2) Average balances were calculated based on daily balances.

(3)Annualized

(4) Loan balances include unearned loans and are net of unearned income.

(5)Loan returns include the effect of amortization of deferred charges, net of fees.

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Rate/Volume Analysis. The following table shows the fully taxable equivalent
effect of changes in volumes and rates on interest income and interest expense.

                                                         Increase/(Decrease)
                                             Three months ended June 30, 2022 Compared to
                                                   Three months ended June 30, 2021
                                                           Variance due to
                                                  Volume            Rate           Net

                                                        (dollars in thousands)
Interest-earning assets:
Interest-bearing deposits with banks        $            (104)   $       227   $       123
Securities available for sale:
Taxable                                                    624           149           773
Tax-exempt securities                                      120          (34)            86
Total securities                                           744           115           859
Loans receivable                                         (201)         (227)         (428)
Total interest-earning assets                              439           115           554
Interest-bearing liabilities:
Interest-bearing demand and money market                    36          (24)            12
Savings                                                      5             6            11
Time                                                      (93)          (52)         (145)
Total interest-bearing deposits                           (52)          (70)         (122)
Short-term borrowings                                      (8)           (5)          (13)
Other borrowings                                         (144)            14         (130)
Total interest-bearing liabilities                       (204)          (61)         (265)
Net interest income (tax-equivalent basis)  $              643   $       

176 $819

Changes in net interest income that could not be specifically identified as rate or volume changes were allocated proportionately to volume changes and rate changes.

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Comparison of operating results for the three months ended June 30, 2022 at June 30, 2021

General

For the three months ended June 30, 2022, net income totaled $6,855,000 compared
to $5,755,000 earned in the similar period in 2021. The increase in net income
for the three months ended June 30, 2022 was due primarily to an $841,000
increase in net interest income and a $1,200,000 decrease in the provision for
loan losses. Earnings per share for the three-months ended June 30, 2022 were
$0.84 per share for basic shares and fully diluted shares, compared to $0.70 per
share for basic shares and for fully diluted shares for the three months ended
June 30, 2021. The resulting annualized return on average assets and annualized
return on average equity for the three months ended June 30, 2022 were 1.35% and
15.19%, respectively, compared to 1.15% and 11.59%, respectively, for the same
period in 2021.

The following table shows the change in net income:

(dollars in thousands)                                      Three months 

ended

                                                      June 30, 2022 to June 30, 2021
Net income three months ended June 30, 2021        $                               5,755
Change due to:
Net interest income                                                                  841
Provision for loan losses                                                          1,200
Net gains on sales of securities and loans                                  

(109)

Service charges and fees                                                    

(57)

Earnings and proceeds on bank-owned life insurance                          

255

Other income                                                                

213

Salaries and employee benefits                                              

(669)

Occupancy, furniture and equipment                                                  (20)
All other expenses                                                                 (291)
Income tax expense                                                                 (263)
Net income three months ended June 30, 2022        $                               6,855


Net Interest Income

Net interest income on a fully taxable equivalent basis (fte) for the three
months ended June 30, 2022 totaled $17,082,000 which was $819,000 higher than
the comparable period in 2021. The increase in net interest income was due
primarily to an $859,000 increase in interest income (fte) on securities due to
purchases of securities. The fte net interest spread and net interest margin
were 3.40% and 3.49%, respectively, for the three months ended June 30, 2022
compared to 3.32% and 3.44%, respectively, for the same period in 2021. See
"Non-GAAP Financial Measures" described above on page 37.

For the three-months ended June 30, 2022, interest income (fte) totaled
$18,281,000 with a yield on average earning assets of 3.74% compared to
$17,727,000 and 3.75% for the 2021 period. Average loans decreased $16.2 million
during the three-months ended June 30, 2022, over the comparable period of 2021,
while average securities increased $173.1 million. Average earning assets
totaled $1.957 billion for the three months ended June 30, 2022, an increase of
$67.1 million over the average for the same period in 2021. See "Non-GAAP
Financial Measures" described above on page 37.

Interest expense for the three months ended June 30, 2022 totaled $1,199,000 at
an average cost of 0.34% compared to $1,464,000 and 0.43%, respectively, for the
same period in 2021. The decrease in interest expense during the three-months
ended June 30, 2022 reflects the overall lower level of market interest rates.
The average cost of time deposits, which is the most significant component of
funding costs, decreased 0.04% compared to the same three-month period of last
year.

Provision for Loan Losses

The Company's provision for loan losses for the three months ended June 30, 2022
was $300,000, compared to $1,500,000 for the three months ended June 30, 2021.
The decreased provision reflects a reduction in certain qualitative factors
related to the COVID-19 pandemic. The Company makes provisions for loan losses
in an amount necessary to maintain the allowance for loan losses at an
acceptable level. The Company recorded a net recovery of $57,000 for the quarter
ended June 30, 2022, compared to a net charge-off of $669,000 for the similar
period in 2021. At June 30, 2022, the allowance for loan losses represented
1.21% of loans receivable. Additionally, the allowance for loan losses
represented 2,532% of non-performing loans, excluding loans acquired with credit
quality deterioration.

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Other income

Other income totaled $2,489,000 for the three months ended June 30, 2022,
compared to $2,187,000 for the same period in 2021. The increase was due
primarily to a $255,000 increase in earnings and proceeds on bank-owned life
insurance policies, and an $180,000 increase in other income. Gains on sales of
loans decreased $109,000, while all other categories of other income decreased
$24,000, net.

Other Expense

Other expense for the three months ended June 30, 2022 totaled $10,472,000 which
was $980,000 higher than the same period of 2021, due primarily to a $669,000
increase in salaries and employee benefits costs.

income tax expense

Income tax expense totaled $1,756,000 for an effective tax rate of 20.4% for the
three months ended June 30, 2022 compared to $1,493,000 for an effective tax
rate of 20.6% for the three months ended June 30, 2021. The decrease in the
effective tax rate in the 2022 period reflects the increased level of tax-exempt
income related to bank-owned life insurance.

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Operating results

NORWOOD FINANCIAL CORP

Consolidated average balances with interest and resulting rates

(Tax-Equivalent Basis,                              Six Months Ended June 30,
dollars in thousands)                      2022                                  2021
                              Average                  Average      Average                  Average
                              Balance     Interest      Rate        Balance     Interest      Rate
                                (2)          (1)         (3)          (2)          (1)         (3)
Assets
Interest-earning assets:
Interest bearing deposits
with banks                  $   127,175   $     260       0.41%   $   146,574   $     102       0.14%
Securities available for
sale:
Taxable                         384,364       3,205        1.67       219,807       1,735        1.58
Tax-exempt (1)                   77,556       1,122        2.89        58,934         928        3.15
Total securities available
for sale (1)                    461,920       4,327        1.87       278,741       2,663        1.91
Loans receivable (1) (4)
(5)                           1,370,534      31,223        4.56     1,410,160      32,468        4.60
Total interest-earning
assets                        1,959,629      35,810        3.65     1,835,475      35,233        3.84
Non-interest earning
assets:
Cash and due from banks          24,001                                

21,698

Allowance for loan losses      (16,688)                              

(14,509)

Other assets                     91,031                               

114,954

Total non-interest earning
assets                           98,344                               122,143
Total Assets                $ 2,057,973                           $ 1,957,618
Liabilities and
Stockholders' Equity
Interest-bearing
liabilities:
Interest-bearing demand and
money market                $   530,451   $     428        0.16   $   442,601   $     434        0.20
Savings                         307,221         115        0.07       256,803          76        0.06
Time                            491,079       1,599        0.65       533,068       1,949        0.73
Total interest-bearing
deposits                      1,328,751       2,142        0.32     1,232,472       2,459        0.40
Short-term borrowings            65,724         108        0.33        70,971         142        0.40
Other borrowings                 18,567         195        2.10        39,330         388        1.97
Total interest-bearing
liabilities                   1,413,042       2,445        0.35     1,342,773       2,989        0.45
Non-interest bearing
liabilities:
Demand deposits                 437,430                               402,024
Other liabilities                15,411                                14,634
Total non-interest bearing
liabilities                     452,841                               416,658
Stockholders' equity       192,090                               198,187
Total Liabilities and
Stockholders' Equity   $ 2,057,973                           $ 1,957,618
Net interest income/spread
(tax equivalent basis)                       33,365       3.30%                    32,244       3.39%
Tax-equivalent basis
adjustment                                    (370)                                 (415)
Net interest income                       $  32,995                             $  31,829
Net interest margin (tax
equivalent basis)                                         3.41%                                 3.51%

(1) Interest and returns are presented on a tax equivalent basis using a marginal tax rate of 21%.

(2) Average balances were calculated based on daily balances.

(3)Annualized

(4) Loan balances include unearned loans and are net of unearned income.

(5)Loan returns include the effect of amortization of deferred charges, net of fees.

                                       40

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Rate/Volume Analysis. The following table shows the fully taxable equivalent
effect of changes in volumes and rates on interest income and interest expense.

                                                        Increase/(Decrease)
                                            Six months ended June 30, 2022 Compared to
                                                  Six months ended June 30, 2021
                                                          Variance due to
                                                Volume           Rate           Net
                                                      (dollars in thousands)
Interest-earning assets:
Interest-bearing deposits with banks        $          (35)   $       193   $       158
Securities available for sale:
Taxable                                               1,306           164         1,470
Tax-exempt securities                                   288          (94)           194
Total securities                                      1,594            70         1,664
Loans receivable                                      (954)         (291)       (1,245)
Total interest-earning assets                           605          (28)   

577

Interest-bearing liabilities:
Interest-bearing demand and money market                 82          (88)           (6)
Savings                                                  21            18            39
Time                                                  (143)         (207)         (350)
Total interest-bearing deposits                        (40)         (277)         (317)
Short-term borrowings                                  (10)          (24)          (34)
Other borrowings                                      (206)            13         (193)
Total interest-bearing liabilities                    (256)         (288)   

(544)

Net interest income (tax-equivalent basis)  $           861   $       260   $     1,121


                                       41

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Comparison of operating results for the six months ended June 30, 2022 at June 30, 2021

General

For the six months ended June 30, 2022, net income totaled $13,983,000 compared
to $11,296,000 earned in the similar period in 2021. The increase in net income
for the six months ended June 30, 2022 was due primarily to a $1,166,000
increase in net interest income, a $1,652,000 increase in other income, and a
$2,400,000 decrease in the provision for loan losses. Earnings per share for the
six-months ended June 30, 2022 were $1.71 per share for basic shares and fully
diluted shares, compared to $1.38 per share for basic shares and for fully
diluted shares for the six months ended June 30, 2021. The resulting annualized
return on average assets and annualized return on average equity for the six
months ended June 30, 2022 were 1.37% and 14.68%, respectively, compared to
1.16% and 11.49%, respectively, for the same period in 2021.

The following table shows the change in net income:

(dollars in thousands)                                       Six months 

ended

                                                      June 30, 2022 to June 30, 2021
Net income six months ended June 30, 2021          $                             11,296
Change due to:
Net interest income                                                               1,166
Provision for loan losses                                                         2,400
Service charges and fees                                                            164
Net gains on sales of securities and loans                                  

(159)

Net gains on sales of foreclosed real estate owned                          

427

Earnings and proceeds on bank-owned life insurance                          

57

Other income                                                                

1,163

Salaries and employee benefits                                              

(1,146)

Occupancy, furniture and equipment                                                (107)
Data processing related                                                           (129)
Professional fees                                                                  (98)
All other expenses                                                                (206)
Income tax expense                                                                (845)
Net income six months ended June 30, 2022          $                             13,983


Net Interest Income

Net interest income on a fully taxable equivalent basis (fte) for the six months
ended June 30, 2022 totaled $33,365,000 which was $1,121,000 higher than the
comparable period in 2021. The increase in net interest income was due primarily
to a $1,664,000 increase in interest income (fte) on securities due to purchases
of securities. The fte net interest spread and net interest margin were 3.30%
and 3.41%, respectively, for the six months ended June 30, 2022 compared to
3.39% and 3.51%, respectively, for the same period in 2021. See "Non-GAAP
Financial Measures" described above on page 37.

For the six-months ended June 30, 2022, interest income (fte) totaled
$35,810,000 with a yield on average earning assets of 3.65% compared to
$35,233,000 and 3.84% for the 2021 period. Average loans decreased $39.6 million
during the six-months ended June 30, 2022, over the comparable period of 2021,
while average securities increased $183.2 million. Average earning assets
totaled $1.960 billion for the six months ended June 30, 2022, an increase of
$124.2 million over the average for the same period in 2021. See "Non-GAAP
Financial Measures" described above on page 37.

Interest expense for the six months ended June 30, 2022 totaled $2,445,000 at an
average cost of 0.35% compared to $2,989,000 and 0.45%, respectively, for the
same period in 2021. The decrease in interest expense during the six-months
ended June 30, 2022 reflects the repricing of higher cost certificates to
current market interest rates at maturity. The average cost of time deposits,
which is the most significant component of funding costs, decreased 0.08%
compared to the same six-month period of last year.

Allowance for loan losses

The Company's provision for loan losses for the six months ended June 30, 2022
was $600,000, compared to $3,000,000 for the six months ended June 30, 2021. The
decreased provision reflects a reduction in certain qualitative factors related
to the COVID-19 pandemic. The Company makes provisions for loan losses in an
amount necessary to maintain the allowance for loan losses at an

                                       42

--------------------------------------------------------------------------------
acceptable level. The Company recorded a net charge-off of $25,000 for the six
months ended June 30, 2022, compared to a net charge-off of $810,000 for the
same period in 2021. At June 30, 2022, the allowance for loan losses represented
1.21% of loans receivable. Additionally, the allowance for loan losses
represented 2,532% of non-performing loans, excluding loans acquired with credit
quality deterioration.

Other Income

Other income totaled $5,828,000 for the six months ended June 30, 2022, compared
to $4,176,000 for the same period in 2021. The increase was due primarily to
$954,000 of income recognized on previously acquired purchased impaired loans
that were carried at a discount, and a $427,000 gain on the sale of a property
carried in foreclosed real estate owned. All other categories of other income
increased $137,000, net.

Other Expense

Other expenses for the six months ended June 30, 2022 totaled $20,630,000what was $1,686,000 higher than the same period of 2021, mainly due to a
$1,146,000 increased salary and benefit costs.

income tax expense

Income tax expense totaled $3,610,000 for an effective tax rate of 20.5% for the
six months ended June 30, 2022 compared to $2,765,000 for an effective tax rate
of 19.7% for the six months ended June 30, 2021. The increase in the effective
tax rate in the 2022 period reflects the increased level of taxable income.


?

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