The purpose of this discussion and analysis is to provide a concise description of the financial condition and results of operations of NBT Bancorp Inc. ("the Registrant") and its wholly owned consolidated subsidiaries, NBT Bank, N.A. (the "Bank"), NBT Financial Services, Inc. ("NBT Financial"), and NBT Holdings, Inc. ("NBT Holdings") (collectively referred to herein as the "Company"). This discussion will focus on Results of Operations, Financial Position, Capital Resources and Asset/Liability Management. Reference should be made to the Company's consolidated financial statements and footnotes thereto included in this Form 10-Q as well as to the Company's 2008 Form 10-K for an understanding of the following discussion and analysis. Operating results for the three and nine month periods ended September 30, 2009 are not necessarily indicative of the results of the full year ending December 31, 2009 or any future period.

Forward-looking Statements

Certain statements in this filing and future filings by the Company with the Securities and Exchange Commission, in the Company's press releases or other public or shareholder communications, contain forward-looking statements, as defined in the Private Securities Litigation Reform Act. These statements may be identified by the use of phrases such as "anticipate," "believe," "expect," "forecasts," "projects," "could," or other similar terms. There are a number of factors, many of which are beyond the Company's control that could cause actual results to differ materially from those contemplated by the forward-looking statements. Factors that may cause actual results to differ materially from those contemplated by such forward-looking statements include, among others, the following: (1) competitive pressures among depository and other financial institutions may increase significantly; (2) revenues may be lower than expected; (3) changes in the interest rate environment may affect interest margins; (4) general economic conditions, either nationally or regionally, may be less favorable than expected, resulting in, among other things, a deterioration in credit quality and/or a reduced demand for credit; (5) legislative or regulatory changes, including changes in accounting standards or tax laws, may adversely affect the businesses in which the Company is engaged;
(6) competitors may have greater financial resources and develop products that enable such competitors to compete more successfully than the Company; (7) adverse changes may occur in the securities markets or with respect to inflation; (8) acts of war or terrorism; (9) the costs and effects of litigation and of unexpected or adverse outcomes in such litigation; (10) internal control failures; and (11) the Company's success in managing the risks involved in the foregoing.

The Company cautions readers not to place undue reliance on any forward-looking statements, which speak only as of the date made, and advises readers that various factors, including those described above and other factors discussed in the Company's annual and quarterly reports previously filed with the Securities and Exchange Commission, could affect the Company's financial performance and could cause the Company's actual results or circumstances for future periods to differ materially from those anticipated or projected.

Unless required by law, the Company does not undertake, and specifically disclaims any obligations to publicly release any revisions to any forward-looking statements to reflect the occurrence of anticipated or unanticipated events or circumstances after the date of such statements.

Critical Accounting Policies

Management of the Company considers the accounting policy relating to the allowance for loan and lease losses to be a critical accounting policy given the judgment in evaluating the level of the allowance required to cover credit losses inherent in the loan and lease portfolio and the material effect that such judgments can have on the results of operations. While management's current evaluation of the allowance for loan and lease losses indicates that the allowance is adequate, under adversely different conditions or assumptions, the allowance may need to be increased. For example, if historical loan and lease loss experience significantly worsened or if current economic conditions further deteriorated, particularly in the Company's primary market area, additional provisions for loan and lease losses may be required to increase the allowance. In addition, the assumptions and estimates used in the internal reviews of the Company's nonperforming loans and potential problem loans has a significant impact on the overall analysis of the adequacy of the allowance for loan and lease losses. While management has concluded that the current evaluation of collateral values is reasonable under the circumstances, if collateral evaluations were significantly lowered, the Company's allowance for loan and lease policy may require additional provisions for loan and lease losses.

Management of the Company considers the accounting policy relating to pension accounting to be a critical accounting policy. Management is required to make various assumptions in valuing its pension assets and liabilities. These assumptions include the expected rate of return on plan assets, the discount rate, and the rate of increase in future compensation levels. Changes to these assumptions could impact earnings in future periods. The Company takes into account the plan asset mix, funding obligations, and expert opinions in determining the various rates used to estimate pension expense. The Company also considers relevant indices and market interest rates in setting the appropriate discount rate. In addition, the Company reviews expected inflationary and merit increases to compensation in determining the rate of increase in future compensation levels.

Management of the Company considers the accounting policy relating to other-than-temporary impairment to be a critical accounting policy. Management systematically evaluates certain assets for other-than-temporary declines in fair value, primarily investment securities and lease residual assets. Management considers historical values and current market conditions as a part of the assessment. The amount of the total other-than-temporary impairment related to the credit loss is recognized in earnings and the amount of the total other-than-temporary impairment related to other factors is recognized in other comprehensive income, net of applicable taxes.

Overview

The following information should be considered in connection with the Company's results for the first nine months of 2009:

· Like all FDIC insured financial institutions, the Company has been subjected to substantial increases in FDIC recurring premiums, as well as a special assessment levied by the FDIC in the second quarter of 2009, which had a significant impact on 2009 year to date earnings. For the three months ended September 30, 2009, FDIC expenses increased $0.9 million over the three months ended September 30, 2008. For the nine months ended September 30, 2009, FDIC expenses increased $6.1 million over the nine months ended September 30, 2008, including the aforementioned special assessment totaling $2.5 million. The FDIC premium increases and special assessment had a $0.02 and $0.13 effect on diluted earnings per share for the three months ended September 30, 2009 and for the nine months ended September 30, 2009, respectively.

· Pension expenses increased in 2009 in comparison to 2008 primarily due to the impact of market declines on pension assets. The Company expects pension expense to remain at these increased levels during the remainder of 2009. For the three months ended September 30, 2009, pension expenses increased $0.7 million over the three months ended September 30, 2008. For the nine months ended September 30, 2009, pension expenses increased $2.2 million over the nine months ended September 30, 2008. The pension expense increases had a $0.01 and $0.04 effect on diluted earnings per share for the three months ended September 30, 2009 and for the nine months ended September 30, 2009, respectively.

· The Company's results for the first nine months of 2009, unlike the first nine months of 2008, include the results of Mang for the entire period. Mang was acquired by the Company on September 1, 2008. Mang provides brokered insurance products to individuals and businesses from locations in 19 upstate New York communities.

· In 2009, the Company has strategically expanded into the northwestern Vermont region. A loan production office is currently located in Burlington, Vermont.

· The Company's results for the first nine months of 2009 include operating costs of new branches from de novo activity for three branches opened in 2007, four branches opened in 2008 and the aforementioned loan production office in Burlington, Vermont, which began operating in 2009. The operating costs for those locations are included in the Company's noninterest expense for the first nine months of 2009 of approximately $2.3 million, as compared to $2.0 million for the same period in 2008.

· The Company's common stock was added to the Standard & Poor's SmallCap 600 Index during the first quarter of 2009. Simultaneously with being added to the index, the Company launched a public offering of its common stock, which was completed during the second quarter of 2009.

· As a result of the current economic recession, the Company is facing certain challenges in its industry. Given the current low rate environment, the Company's net interest margin could come under pressure as the cash flows from the loan and securities portfolios are reinvested at lower rates and deposit rates are at or near their lowest level in years. In an effort to mitigate the effect of the recession on its loan portfolio, the Company continues to originate loans using strict underwriting criteria, specifically for consumer lending and has discontinued originating new auto leases since the second quarter of 2009. In addition, the Company has increased sales of newly originated loans to secondary markets to mitigate interest rate risk.

In addition, the Company has not actively pursued the types of loans, such as subprime, alt-A and no-interest loans, that have been the most problematic for many banks. Therefore, the Company has not made substantial changes to its core business of investing deposit funds in loans and leases in its market areas in response to the recent and continuing economic crisis. However, in light of increased margin pressures due in part to the economic crisis, the Company has recently increased its focus on earning noninterest income through organic growth of our retirement plan administration services and the Company's acquisition of Mang Insurance Agency in September of 2008. The Company has also increased its resources for collecting on past due loans.

Net income per diluted share for the three months ended September 30, 2009 was $0.40 per share, as compared with $0.46 per share for the three months ended September 30, 2008. Net income for the three months ended September 30, 2009 was $13.6 million, down $1.5 million, or 10.0%, from $15.1 million for the third quarter last year. The decrease in net income for the three months ended September 30, 2009 compared with the three months ended September 30, 2008 was primarily the result of the aforementioned increase in FDIC expenses, an increase in the provision for loan and lease losses, and an increase in salaries and employee benefits due to increases in full-time-equivalent employees and pension expenses.

Net income per diluted share for the nine months ended September 30, 2009 was $1.13 per share, as compared with $1.34 per share for the nine months ended September 30, 2008. Net income for the nine months ended September 30, 2009 was $38.2 million, down $5.2 million, or 12.1%, from the nine months ended September 30, 2008. The decrease in net income for the nine months ended September 30, 2009 compared with the nine months ended September 30, 2008 was primarily the result of the aforementioned increase in FDIC expenses including the $2.5 million special assessment, an increase in the provision for loan and lease losses, and an increase in salaries and employee benefits due to increases in full-time-equivalent employees and pension expenses.

Table 1 depicts several annualized measurements of performance using U.S. GAAP net income that management reviews in analyzing the Company's performance. Returns on average assets and equity measure how effectively an entity utilizes its total resources and capital, respectively. Net interest margin, which is the net federal taxable equivalent (FTE) interest income divided by average earning assets, is a measure of an entity's ability to utilize its earning assets in relation to the cost of funding. Interest income for tax-exempt securities and loans is adjusted to a taxable equivalent basis using the statutory Federal income tax rate of 35%.

Table 1 - Performance Measures

                                                                           Nine Months
                                                                              Ended
                                   First        Second       Third        September 30,
2009                              Quarter      Quarter      Quarter           2009
Return on average assets (ROAA)       0.99 %       0.85 %       0.99 %              0.95 %
Return on average equity (ROAE)      12.14 %       9.63 %      11.01 %             10.89 %
Net Interest Margin                   4.09 %       3.95 %       3.98 %              4.00 %

2008
Return on average assets (ROAA)       1.07 %       1.12 %       1.13 %              1.11 %
Return on average equity (ROAE)      13.68 %      14.49 %      14.58 %             14.26 %
Net Interest Margin                   3.84 %       3.94 %       3.94 %              3.91 %

Net Interest Income

Net interest income is the difference between interest income on earning assets, primarily loans and securities, and interest expense on interest bearing liabilities, primarily deposits and borrowings. Net interest income is affected by the interest rate spread, the difference between the yield on earning assets and cost of interest bearing liabilities, as well as the volumes of such assets and liabilities. Net interest income is one of the major determining factors in a financial institution's performance as it is the principal source of earnings. In response to the financial crisis, the Federal Open Market Committee lowered the target Federal Funds rate 500 bp, from 5.25% to 0.25% between September 2007 and December 2008 resulting in a corresponding drop in the Prime Rate from 8.25% to 3.25%. Since December 2008, there has been no action taken to change the rate. As a result of these changes, the yield curve has steepened, thus far allowing the Company to lower its cost of funds more quickly than the repricing of earning assets, resulting in a higher net interest margin. In addition, the Company has lowered rates paid on interest-bearing liabilities. The impact of these actions is further explained in Table 2, which represents an analysis of net interest income on a FTE basis.

FTE net interest income increased $1.6 million, or 3.3%, during the three months ended September 30, 2009, compared to the same period of 2008. The increase in FTE net interest income resulted primarily from a decrease in the rate paid on interest bearing liabilities of 74 bp to 1.83% for the three months ended September 30, 2009 from 2.57% for the same period in 2008. The interest rate spread increased 12 bp during the three months ended September 30, 2009 compared to the same period in 2008. The net interest margin increased by 4 bp to 3.98% for the three months ended September 30, 2009, compared with 3.94% for the same period in 2008. For the three months ended September 30, 2009, total FTE interest income decreased $6.0 million, or 8.0% as compared with the three months ended September 30, 2008. The yield on earning assets for the period decreased 61 bp to 5.48% for the three months ended September 30, 2009 from 6.09% for the same period in 2008. This decrease was partially offset by an increase in average interest earning assets of $94.6 million, or 1.9%, for the three months ended September 30, 2009 when compared to the same period in 2008, principally from growth in short-term interest bearing accounts. As a result of our excess liquidity, our Federal Funds sold position had a negative impact of 9 bp on our net interest margin for the three months ended September 30, 2009.

For the quarter ended September 30, 2009, total interest expense decreased $7.6 million, or 28.7%, primarily the result of the 175 basis point drop in the target Fed Funds rate from 2.00% at September 30, 2008 to 0.25% at September 30, 2009, which impacts the Company's short-term borrowing, money market account and time deposit rates. Average interest bearing liabilities decreased nominally for the three months ended September 30, 2009 when compared to the same period in 2008. Total average interest bearing deposits increased $57.7 million, or 1.8%, for the three months ended September 30, 2009 when compared to the same period in 2008. The rate paid on average interest bearing deposits decreased 80 bp from 2.24% for the three months ended September 30, 2008 to 1.44% for the same period in 2009. For the three months ended September 30, 2009, the Company experienced a shift in its deposit mix from time deposits to money market deposit accounts and NOW accounts. Average time deposit accounts decreased approximately $313.0 million, or 20.7%, for the three months ended September 30, 2009 when compared to the same period in 2008, while money market accounts and NOW accounts collectively increased approximately $336.0 million, or 26.4%.

Total average borrowings, including trust preferred debentures, decreased $62.4 million, or 7.3%, for the three months ended September 30, 2009 compared with the same period in 2008. Average short-term borrowings decreased by $22.1 million, or 14.3%, from $154.6 million for the three months ended September 30, 2008 to $132.5 million for the three months ended September 30, 2009. The Company has been in a Fed Funds sold position since March 2009 which has decreased reliance on short-term borrowings. Interest expense from short-term borrowings decreased $0.6 million, or 81.4%. The rate paid on short-term borrowings decreased 154 bp from 1.96% for the three months ended September 30, 2008 to 0.42% for the same period in 2009. Average long-term debt decreased $40.3 million, or 6.4%, for the three months ended September 30, 2009, compared with the same period in 2008. The rate paid on long-term debt decreased to 3.90% for the three months ended September 30, 2009, from 4.01% for the same period in 2008. As a result of the decrease in the average balance and rate paid on long-term debt, interest paid on long-term debt decreased $0.5 million, or 8.7%, for the three months ended September 30, 2009 as compared to the same period in 2008.

FTE net interest income increased $7.5 million, or 5.3%, during the nine months ended September 30, 2009, compared to the same period of 2008. The increase in FTE net interest income resulted primarily from a decrease in the rate paid on interest bearing liabilities of 80 bp, to 1.95% for the nine months ended September 30, 2009 from 2.75% for the same period in 2008. The interest rate spread increased 20 bp during the nine months ended September 30, 2009 compared to the same period in 2008. The net interest margin increased by 9 bp to 4.00% for the nine months ended September 30, 2009, compared with 3.91% for the same period in 2008. For the nine months ended September 30, 2009, total FTE interest income decreased $15.9 million, or 7.1%. The yield on earning assets for the period decreased 59 bp to 5.63% for the nine months ended September 30, 2009 from 6.22% for the same period in 2008. This decrease was partially offset by an increase in average interest earning assets of $136.6 million, or 2.8%, for the nine months ended September 30, 2009 when compared to the same period in 2008, principally from growth in average loans and leases and average short-term interest bearing accounts. As a result of our excess liquidity, our Federal Funds sold position had a negative impact of 7 bp on our net interest margin for the nine months ended September 30, 2009.

For the nine months ended September 30, 2009, total interest expense decreased $23.5 million, or 27.9%, primarily the result of the 175 basis point drop in the target Fed Funds rate from 2.00% at September 30, 2008 to 0.25% at September 30, 2009, which impacts the Company's short-term borrowing, money market account and time deposit rates. Additionally, average interest bearing liabilities increased $71.2 million, or 1.7%, for the nine months ended September 30, 2009 when compared to the same period in 2008, principally from growth in money market deposit accounts, NOW deposit accounts, and long-term debt, partially offset by the decrease in time deposit accounts and short-term borrowings. Total average interest bearing deposits increased $107.3 million, or 3.3%, for the nine months ended September 30, 2009 when compared to the same period in 2008. The rate paid on average interest bearing deposits decreased 91 bp from 2.47% for the nine months ended September 30, 2008 to 1.56% for the same period in 2009. For the nine months ended September 30, 2009, the Company experienced a shift in its deposit mix from time deposits to money market deposit accounts and NOW accounts. Average time deposit accounts decreased approximately $286.4 million, or 18.4%, for the nine months ended September 30, 2009 when compared to the same period in 2008, while money market accounts and NOW accounts collectively increased approximately $366.0 million, or 30.5%.

Total average borrowings, including trust preferred debentures, decreased $36.1 million, or 4.2%, for the nine months ended September 30, 2009 compared with the same period in 2008. Average short-term borrowings decreased by $104.5 million, or 43.9%, from $238.2 million for the nine months ended September 30, 2008 to $133.7 million for the nine months ended September 30, 2009. The Company has been in a Fed Funds sold position since March 2009 which has decreased reliance on short-term borrowings. Interest expense from short-term borrowings decreased $4.1 million, or 90.8%. The rate paid on short-term borrowings decreased 209 bp from 2.50% for the nine months ended September 30, 2008 to 0.41% for the same period in 2009. Average long-term debt increased $68.4 million, or 12.7%, for the nine months ended September 30, 2009, compared with the same period in 2008. The rate paid on long-term debt decreased to 3.95% for the nine months ended September 30, 2009, compared with 4.02% for the same period in 2008. As a result of the increase in the average balance of long-term debt, interest paid on long-term debt increased $1.7 million, or 10.6%, for the nine months ended September 30, 2009 as compared to the same period in 2008.

Table 2
Average Balances and Net Interest Income
The following tables include the condensed consolidated average balance sheet,
an analysis of interest income/expense and average yield/rate for each major
category of earning assets and interest bearing liabilities on a taxable
equivalent basis. Interest income for tax-exempt securities and loans has been
adjusted to a taxable-equivalent basis using the statutory Federal income tax
rate of 35%.

  Three months ended September 30,
                                          2009                                          2008
(dollars in               Average                        Yield/         Average                        Yield/
thousands)                Balance        Interest        Rates          Balance        Interest        Rates
ASSETS
Short-term interest
bearing accounts        $    99,501     $       74           0.30 %   $     4,077     $       20           1.95 %
Securities available
for sale
(1)(excluding
unrealized gains or
losses)                   1,082,655         11,859           4.35 %     1,116,089         14,159           5.05 %
Securities held to
maturity (1)                161,915          1,871           4.58 %       148,397          2,026           5.43 %
Investment in FRB and
FHLB Banks                   37,372            541           5.74 %        40,401            653           6.43 %
Loans and leases (2)      3,627,803         54,857           6.00 %     3,605,700         58,371           6.44 %
Total interest
earning assets          $ 5,009,246     $   69,202           5.48 %   $ 4,914,664     $   75,229           6.09 %
Trading securities            2,109                                         2,266
Other assets                404,019                                       384,710
Total assets            $ 5,415,374                                   $ 5,301,640

LIABILITIES AND
STOCKHOLDERS' EQUITY
Money market deposit
accounts                $ 1,025,345     $    3,317           1.28 %   $   779,954     $    3,593           1.83 %
NOW deposit accounts        582,307            694           0.47 %       491,673          1,060           0.86 %
Savings deposits            509,258            217           0.17 %       474,602            514           0.43 %
Time deposits             1,199,101          7,774           2.57 %     1,512,072         13,184           3.47 %
Total interest
bearing deposits        $ 3,316,011     $   12,002           1.44 %   $ 3,258,301     $   18,351           2.24 %
Short-term borrowings       132,459            142           0.42 %       154,567            763           1.96 %
Trust preferred
debentures                   75,422          1,049           5.52 %        75,422          1,154           6.09 %
Long-term debt              585,416          5,761           3.90 %       625,733          6,310           4.01 %
Total interest
bearing liabilities     $ 4,109,308     $   18,954           1.83 %   $ 4,114,023     $   26,578           2.57 %
Demand deposits             737,064                                       706,803
Other liabilities            79,862                                        69,355
Stockholders' equity        489,140                                       411,459
Total liabilities and
stockholders' equity    $ 5,415,374                                   $ 5,301,640
Net interest income
(FTE)                                       50,248                                        48,651
Interest rate spread                                         3.64 %                                        3.52 %
Net interest margin                                          3.98 %                                        3.94 %
Taxable equivalent
adjustment                                   1,566                                         1,608
Net interest income                     $   48,682                                    $   47,043

(1) Securities are shown at average amortized cost
(2) For purposes of these computations, nonaccrual loans are included in the average loan balances outstanding