The following is management's discussion and analysis of the significant changes in the results of operations, capital resources and liquidity presented in its accompanying consolidated financial statements for Harleysville National Corporation (the Corporation) and its wholly owned subsidiaries-Harleysville National Bank (the Bank), HNC Financial Company and HNC Reinsurance Company. The Corporation's consolidated financial condition and results of operations consist almost entirely of the Bank's financial condition and results of operations. Current performance does not guarantee, and may not be indicative, of similar performance in the future. These are unaudited financial statements and, as such, are subject to year-end audit review.

Within this Form 10-Q, management may make projections and forward-looking statements regarding events or the future financial performance of Harleysville National Corporation. We wish to caution you that these forward-looking statements involve certain risks and uncertainties, including a variety of factors that may cause Harleysville National Corporation's actual results to differ materially from the anticipated results expressed in these forward-looking statements. Such risks, uncertainties and other factors that could cause actual results and experience to differ include, but are not limited to, the following: inability to achieve merger-related synergies, the strategic initiatives and business plans may not be satisfactorily completed or executed, if at all; increased demand or prices for the Corporation's financial services and products may not occur; changing economic and competitive conditions; technological developments; the effectiveness of the Corporation's business strategy due to changes in current or future market conditions; effects of deterioration of economic conditions on customers specifically the effect on loan customers to repay loans; inability of the Corporation to raise or achieve desired or required levels of capital; the effects of competition, and of changes in laws and regulations, including industry consolidation and development of competing financial products and services; interest rate movements; relationships with customers and employees; challenges in establishing and maintaining operations; volatilities in the securities markets; and deteriorating economic conditions and other risks and uncertainties, including those detailed in the Corporation's filing with the Securities and Exchange Commission.

When we use words such as "believes", "expects", "anticipates", or similar expressions, we are making forward-looking statements. Investors are cautioned not to place undue reliance on these forward-looking statements and are also advised to review the risk factors that may affect Harleysville National Corporation's operating results in documents filed by Harleysville National Corporation with the Securities and Exchange Commission, including the Quarterly Report on Form 10-Q, the Annual Report on Form 10-K, and other required filings. Harleysville National Corporation assumes no duty to update the forward-looking statements made in this Form 10-Q.

Shareholders should note that many factors, some of which are discussed elsewhere in this report and in the documents that we incorporate by reference, could affect the future financial results of the Corporation and its subsidiaries and could cause those results to differ materially from those expressed or implied in our forward-looking statements contained or incorporated by reference in this document. These factors include but are not limited to those described in Item 1A, "Risk Factors" in the Corporation's 2008 Annual Report on Form 10-K and in this Form 10-Q.

Critical Accounting Estimates

The accounting and reporting policies of the Corporation and its subsidiaries conform with U.S. generally accepted accounting principles (GAAP). The Corporation's significant accounting policies are described in Note 1 of the consolidated financial statements in this Form 10-Q and in the Corporation's 2008 Annual Report on Form 10-K and are essential in understanding Management's Discussion and Analysis of Results of Operations and Financial Condition. In applying accounting policies and preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the dates of the balance sheets and the income and expense in the income statements for the periods presented. Therefore, actual results could differ significantly from those estimates. Judgments and assumptions required by management, which have, or could have a material impact on the Corporation's financial condition or results of operations are considered critical accounting estimates. The following is a summary of the policies the Corporation recognizes as involving critical accounting estimates: Allowance for Loan Loss, Goodwill and Other Intangible Asset Impairment, Stock-Based Compensation, Fair Value Measurement of Investment Securities Available for Sale, and Deferred Taxes.

Allowance for Loan Losses: The Corporation maintains an allowance for loan losses at a level management believes is sufficient to absorb estimated probable credit losses. Management's determination of the adequacy of the allowance is based on periodic evaluations of the loan portfolio and other relevant factors. However, this evaluation is inherently subjective as it requires significant estimates by management. Consideration is given to a variety of factors in establishing these estimates including historical losses, current and anticipated economic conditions, diversification of the loan portfolio, delinquency statistics, results of internal loan reviews, borrowers' perceived financial and management strengths, the adequacy of underlying collateral, the dependence on collateral, or the strength of the present value of future cash flows and other relevant factors. These factors may be susceptible to significant change. To the extent actual outcomes differ from management estimates, additional provisions for loan losses may be required which may adversely affect the Corporation's results of operations in the future.

Goodwill and Other Intangible Asset Impairment: Goodwill and other intangible assets are reviewed for potential impairment on an annual basis, or more often if events or circumstances indicate that there may be impairment, in accordance with SFAS No. 142, "Goodwill and Other Intangible Assets and SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." Goodwill is tested for impairment at the reporting unit level and an impairment loss is recorded to the extent that the carrying amount of goodwill exceeds its implied fair value. The Corporation employs general industry practices in evaluating the fair value of its goodwill and other intangible assets. The Corporation calculates the fair value, with the assistance of a third party specialist, using a combination of the following valuation methods: dividend discount analysis under the income approach, which calculates the present value of all excess cash flows plus the present value of a terminal value and market multiples (pricing ratios) under the market approach. In 2009, management performed its annual review of goodwill and other identifiable intangibles in accordance with SFAS No. 142, "Goodwill and Other Intangible Assets" and SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." Management performed its review by reporting unit and identified goodwill impairment for the Community Banking segment of $214.5 million. This impairment resulted from the decrease in market value caused by underlying capital and credit concerns and was determined based upon the announced sale price of the Company to First Niagara for $5.50 per share. As the Corporation's annual analysis is performed using March 31 balances, the subsequent stock price decline and a June 2009 communication of Individual Minimum Capital Ratio requirements from the Office of the Comptroller of the Currency resulted in a subsequent impairment evaluation. This analysis was superseded as the announced merger provided an actual fair value for the Company. No impairment was identified relating to the Corporation's Wealth Management segment or other identifiable intangible assets as a part of this annual review. No assurance can be given that future impairment tests will not result in a charge to earnings.

Stock-based Compensation: The Corporation recognizes compensation expense for stock options in accordance with SFAS 123 (revised 2004), "Share-Based Payment" (SFAS 123(R)) adopted at January 1, 2006 under the modified prospective application method of transition. The expense of the option is generally measured at fair value at the grant date with compensation expense recognized over the service period, which is usually the vesting period. The Corporation utilizes the Black-Scholes option-pricing model (as used under SFAS 123) to estimate the fair value of each option on the date of grant. The Black-Scholes model takes into consideration the exercise price and expected life of the options, the current price of the underlying stock and its expected volatility, the expected dividends on the stock and the current risk-free interest rate for the expected life of the option. For grants subject to a market condition, the Corporation utilizes a Monte Carlo simulation to estimate the fair value and determine the derived service period. Compensation is recognized over the derived service period with any unrecognized compensation cost immediately recognized when the market condition is met. The Corporation's estimate of the fair value of a stock option is based on expectations derived from historical experience and may not necessarily equate to its market value when fully vested. In accordance with SFAS 123(R), the Corporation estimates the number of options for which the requisite service is expected to be rendered.

Fair Value Measurement of Investment Securities Available for Sale: The Corporation receives estimated fair values of debt securities from independent valuation services and brokers. In developing these fair values, the valuation services and brokers use estimates of cash flows based on historical performance of similar instruments in similar rate environments. Debt securities available for sale are mostly comprised of mortgage-backed securities as well as tax-exempt municipal bonds and U.S. government agency securities. The Corporation uses various indicators in determining whether a security is other-than-temporarily impaired, including for equity securities, if the market value is below its cost for an extended period of time with low expectation of recovery or for debt securities, when it is probable that the contractual interest and principal will not be collected. The debt securities are monitored for changes in credit ratings, collateral adequacy, and the existence of deferrals or defaults. Adverse changes to any of these factors would affect the estimated cash flows of the underlying collateral or issuer. Effective for the three months ended June 30, 2009, for securities deemed to be other than temporarily impaired, the Corporation uses cash flow modeling to determine the credit related portion of the loss. This credit portion is recognized through earnings while the remaining impairment amount is recognized through other comprehensive income. The Corporation recognized other-than-temporary impairment charges of $530,000 during the second quarter of 2009 as a result of deterioration in credit quality of two collateralized mortgage obligation investments. The unrealized losses associated with the securities portfolio, that management has the ability and intent to hold, are not considered to be other-than temporary as of June 30, 2009 because the unrealized losses are primarily related to changes in interest rates and current market conditions, however, we do not see any negative effect on the expected cash flows of the underlying collateral or issuer. The unrealized losses are affecting all portfolio sectors with collateralized mortgage obligation securities and pooled trust preferred securities having the largest reductions.

Deferred Taxes: The Corporation recognizes deferred tax assets and liabilities for the future effects of temporary differences, net operating loss carryforwards, and tax credits. Deferred tax assets are subject to management's judgment based upon available evidence that future realizations are likely. If management determines that the Corporation may not be able to realize some or all of the net deferred tax asset in the future, a charge to income tax expense may be required to reduce the value of the net deferred tax asset to the expected realizable value.

The Corporation has not substantively changed its application of the foregoing policies, and there have been no material changes in assumptions or estimation techniques used as compared to prior periods.

Financial Overview

The Corporation reported a net loss of $222.5 million, or $5.17 per diluted share for the second quarter of 2009, which included a $214.5 million goodwill impairment charge. This compares to net income of $7.3 million, or $0.23 per diluted share for the second quarter of 2008. For the six months ended June 30, 2009, the net loss from operations was $217.9 million or $5.06 per diluted share, compared to net income of $14.6 million or $.46 per diluted share during the comparable period in 2008.

The second quarter and year-to-date 2009 loss from operations was driven by a non-cash goodwill impairment charge of $214.5 million, resulting from the decrease in market value caused by underlying capital and credit concerns which was valued through the Agreement and Plan of Merger dated July 26, 2009 between First Niagara Financial Group, Inc. ("First Niagara") and the Corporation in which the Corporation will be merged into First Niagara. The impairment effectively constituted the difference between the sale price of the Corporation to First Niagara for $5.50 per share, which established the fair value of the Corporation, compared to the Corporation's book value per share of $10.75 prior to the impairment charge with further evaluation through the Corporation's step two goodwill analysis. Also contributing to the quarterly loss was a provision for credit losses of $32.0 million; and a one-time FDIC special assessment of $2.6 million; partially offset by a $4.9 million gain on the sale of investment securities.

The 2009 year-to-date financial results include the impact on operations from the acquisition of Willow Financial effective December 5, 2008 and the related issuance of 11,515,366 shares of the Corporation's common stock. The following is an overview of the key financial highlights:

Total assets were $5.2 billion at June 30, 2009, an increase of $1.3 billion or 34.2% from $3.9 billion at June 30, 2008. Loans were $3.4 billion, an increase of $937.3 million or 37.5% from $2.5 billion at June 30, 2008. Deposits were $4.0 billion, up $1.1 billion or 39.5% from $2.9 billion at June 30, 2008. On the acquisition date, Willow Financial had approximately $1.6 billion in assets, $1.1 billion in loans and $946.7 million in deposits. Total assets at June 30, 2009 decreased $280.2 million, or 5.1%, as compared to total assets reported at the year ended December 31, 2008. Loans decreased by $246.0 million and deposits increased by $59.7 million since year-end.

The annualized return on average shareholders' equity was -186.57% for the second quarter of 2009 as compared to 8.79% for the same period in 2008. The annualized return on average assets was -15.92% during the second quarter of 2009 in comparison to 0.76% for the second quarter of 2008. The decrease in these ratios was primarily due to the goodwill impairment charge and higher level of loan loss provision recognized during the second quarter of 2009.

Net interest income on a tax equivalent basis in the second quarter of 2009 increased $8.6 million or 31.7% from the same period in 2008 mainly as a result of the Willow Financial acquisition. Second quarter 2009 net interest margin was 2.82% compared to 3.06% for the same period in 2008.

Nonperforming assets were $138.9 million at June 30, 2009. Nonperforming assets as a percentage of total assets were 2.67% at June 30, 2009, compared to 1.43% at December 31, 2008 and 1.01% at June 30, 2008. Net charge-offs for the second quarter of 2009 were $14.7 million, compared to $423,000 in the same period of 2008. The allowance for credit losses increased to $70.3 million at June 30, 2009, compared to $50.0 million at December 31, 2008, and $31.2 million at June 30, 2008.

Results of Operations

Net income is affected by five major elements: (1) net interest income, or the difference between interest income earned on loans and investments and interest expense paid on deposits and borrowed funds; (2) the provision for loan losses, or the amount added to the allowance for loan losses to provide reserves for inherent losses on loans; (3) noninterest income, which is made up primarily of certain fees, wealth management income and gains and losses from sales of securities or other transactions; (4) noninterest expense, which consists primarily of salaries, employee benefits and other operating expenses; and (5) income taxes. Each of these major elements will be reviewed in more detail in the following discussion.

Net Interest Income

Net interest income is the difference between interest earned on total interest-earning assets (primarily loans and investment securities), on a fully taxable equivalent basis, where appropriate, and interest paid on total interest-bearing liabilities (primarily deposits and borrowed funds). Fully taxable equivalent basis represents income on total interest-earning assets that is either tax-exempt or taxed at a reduced rate, adjusted to give effect to the prevailing incremental federal tax rate, and adjusted for nondeductible carrying costs and state income taxes, where applicable. Yield calculations, where appropriate, include these adjustments. Net interest income depends on the volume and interest rate earned on interest-earning assets and the volume and interest rate paid on interest-bearing liabilities.

The rate volume variance analysis in the following table, which is computed on a tax-equivalent basis (tax rate of 35%), analyzes changes in net interest income for the three and six months ended June 30, 2009 compared to June 30, 2008 by their volume and rate components. The change attributable to both volume and rate has been allocated proportionately.

Table 1-Analysis of Changes in Net Interest Income-Fully Taxable-Equivalent
Basis



                                  Three Months Ended                         Six Months Ended
                              June 30, 2009 compared to                  June 30, 2009 compared to
                                    June 30, 2008                              June 30, 2008

                          Total          Due to change in:           Total          Due to change in:
(Dollars in
thousands)               Change         Volume         Rate         Change        Volume         Rate

Increase (decrease)
in interest income:
Investment securities
*                       $   1,408     $    2,213     $    (805 )   $   4,409     $   4,512     $    (103 )
Federal funds sold
and deposits in banks         120            296          (176 )        (447 )         819        (1,266 )
Loans *                     9,455         13,852        (4,397 )      18,708        30,648       (11,940 )
Total                      10,983         16,361        (5,378 )      22,670        35,979       (13,309 )

Increase (decrease)
in interest expense:
Savings and money
market deposits              (326 )        1,940        (2,266 )      (2,250 )       4,241        (6,491 )
Time deposits                 999          4,599        (3,600 )       1,191         9,001        (7,810 )
Borrowed funds              1,755          3,098        (1,343 )       3,612         7,005        (3,393 )
Total                       2,428          9,637        (7,209 )       2,553        20,247       (17,694 )

Net increase in net
interest income         $   8,555     $    6,724     $   1,831     $  20,117     $  15,732     $   4,385

(1) The interest earned on nontaxable investment securities and loans is shown on a tax equivalent basis,

net of deductions (tax rate of 35%).

(2) Nonaccrual loans have been included in the appropriate average loan balance category, but interest on nonaccrual loans has not been included for purposes of determining interest income.

The following table presents the major asset and liability categories on an average basis for the periods presented, along with interest income and expense, and key rates and yields.

Table 2-Average Balance Sheets and Interest Rates¾Fully Taxable-Equivalent Basis

(Dollars in thousands)          Three Months Ended June 30,                   Three Months Ended June 30,
                                           2009                                          2008

                           Average                       Average         Average                       Average
Assets                     Balance        Interest         Rate          Balance        Interest         Rate
Earning assets:
Investment securities:
Taxable investments      $   890,582     $   10,453           4.72 %   $   740,847     $    9,622           5.22 %
Nontaxable investments
(1)                          309,015          4,957           6.45         288,655          4,380           6.10
Total investment
securities                 1,199,597         15,410           5.17       1,029,502         14,002           5.47
Federal funds sold,
securities purchased
under agreements to
resell and deposits in
banks                        369,173            239           0.26          30,812            119           1.55
Loans (1) (2)              3,511,623         46,522           5.33       2,491,894         37,067           5.98
Total earning assets       5,080,393         62,171           4.92       3,552,208         51,188           5.80
Noninterest-earning
assets                       525,082                                       304,692
Total assets             $ 5,605,475                                   $ 3,856,900

Liabilities and
Shareholders' Equity
Interest-bearing
liabilities:
Interest-bearing
deposits:
Savings and money
market                   $ 1,981,432          5,335           1.08     $ 1,397,205          5,661           1.63
Time                       1,646,969         13,936           3.40       1,162,516         12,937           4.48
Total interest-bearing
deposits                   3,628,401         19,271           2.14       2,559,721         18,598           2.92
Borrowed funds               919,121          7,321           3.20         554,799          5,566           4.04
Total interest bearing
liabilities                4,547,522         26,592           2.35       3,114,520         24,164           3.12
Noninterest-bearing
liabilities:
Demand deposits              493,142                                       340,802
Other liabilities             86,473                                        66,267
Total
noninterest-bearing
liabilities                  579,615                                       407,069
Total liabilities          5,127,137                                     3,521,589
Shareholders' equity         478,338                                       335,311
Total liabilities and
shareholders' equity     $ 5,605,475                                   $ 3,856,900
Net interest spread                                           2.57                                          2.68
Effect of
noninterest-bearing
sources                                                       0.25                                          0.38
Net interest
income/margin on
earning assets                           $   35,579           2.82 %                   $   27,024           3.06 %

Less tax equivalent
adjustment                                    2,126                                         1,835
Net interest income                      $   33,453                                    $   25,189

(Dollars in thousands)          Six Months Ended June 30,                    Six Months Ended June 30,
                                           2009                                         2008

                           Average                      Average         Average                      Average
Assets                     Balance       Interest         Rate          Balance       Interest         Rate
Earning assets:
 Investment
securities:
  Taxable investments    $   888,214     $  22,239           5.04 %   $   747,157     $  19,376           5.22 %
  Nontaxable
investments (1)              316,064        10,282           6.54         289,377         8,736           6.07
   Total investment
securities                 1,204,278        32,521           5.43       1,036,534        28,112           5.45
 Federal funds sold,
securities purchased
under
   agreements to
resell and deposits in
banks                        271,136           366           0.27          57,485           813           2.84
 Loans (1) (2)             3,588,754        95,180           5.33       2,477,569        76,472           6.21
    Total earning
assets                     5,064,168       128,067           5.09       3,571,588       105,397           5.93
Noninterest-earning
assets                       528,687                                      302,341
     Total assets        $ 5,592,855                                  $ 3,873,929

Liabilities and
Shareholders' Equity
Interest-bearing
liabilities:
Interest-bearing
deposits:
Savings and money
market                   $ 1,944,350        11,506           1.19     $ 1,406,329        13,756           1.97
Time                       1,664,903        28,629           3.46       1,199,999        27,438           4.60
Total interest-bearing
deposits                   3,609,253        40,135           2.24       2,606,328        41,194           3.18
Borrowed funds               936,038        14,791           3.18         526,932        11,179           4.27
Total interest bearing
liabilities                4,545,291        54,926           2.43       3,133,260        52,373           3.36
Noninterest-bearing
liabilities:
Demand deposits              482,970                                      332,460
Other liabilities             85,188                                       68,854
Total
noninterest-bearing
liabilities                  568,158                                      401,314
Total liabilities          5,113,449                                    3,534,574
Shareholders' equity         479,406                                      339,355
Total liabilities and
shareholders' equity     $ 5,592,855                                  $ 3,873,929
Net interest spread                                          2.66                                         2.57
Effect of
noninterest-bearing
sources                                                      0.24                                         0.42
Net interest
income/margin on
earning assets                           $  73,141           2.90 %                   $  53,024           2.99 %

Less tax equivalent
adjustment                                   4,384                                        3,628
Net interest income                      $  68,757                                    $  49,396
. . .