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Basic earnings per share is calculated by dividing income available to common shareholders by the weighted average number of common shares outstanding during the period. Options, warrants and other potentially dilutive securities are excluded from the basic calculation, but are included in computing diluted earnings per share.

S&T adopted Financial Accounting Standards Board ("FASB") SFAS No. 123(R), "Share Based Payment" on January 1, 2006. S&T is applying the modified prospective method. SFAS No. 123(R) requires measurement of compensation expense of all stock-based awards at market value on the date of grant and recognition of compensation expense over the service period for all awards granted or not yet vested at the date of adoption. The adoption of SFAS 123(R) resulted in compensation expense of $215,000, pretax and $140,000, net of tax. The effect of adoption to basic earnings per share was an increase of $0.01 and diluted earnings per share remained unchanged.

Prior to the adoption of SFAS No. 123(R), S&T applied APB Opinion No. 25, "Accounting for Stock Issued to Employees" in accounting for stock-based awards. No compensation expense was reflected in net income. Results for prior periods have not been restated.

S&T granted nonstatutory stock options in 2005 under the 2003 Stock Plan at an exercise price equal to the market value of S&T common stock on the date of grant. Nonstatutory stock options granted in 2005 have a four-year vesting period and a ten-year life, with 25 percent vesting each year on January 1 of the succeeding year. There were 202,500 shares of nonstatutory stock options issued in 2005 at a price of $37.86. The total compensation expense related to the 2005 grant will approximate $1.1 million, net of tax over the next 3.75 years.

On June 20, 2005, the Board of Directors of S&T Bancorp, Inc. approved the accelerated vesting of the December 20, 2004 stock options awarded to eligible participants under the S&T Incentive Stock Plan which have an exercise price of $37.08. As a result of the acceleration, unvested options granted in 2004 to acquire approximately 381,000 shares of S&T's common stock, which otherwise 50 percent would have vested on January 1, 2006 and the remaining shares on January 1, 2007, became immediately exercisable. The options were not "in the money" (i.e., the exercise price of the options was in excess of the price of S&T's stock) at the time of acceleration.

The market values for nonstatutory stock options were estimated at the grant dates using a Black-Scholes option pricing model with the following weighted-average assumptions for 2006, 2005 and 2004, respectively: risk-free interest rates of 4.36 percent, 4.36 percent and 3.61 percent; a dividend yield of 3.0 percent, 3.0 percent and 2.9 percent; volatility of the expected market price of S&T's common stock of .27, .27 and .26; and a weighted-average expected life of seven years in 2006 and 2005 and five years in 2004.

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During the first three months of 2006, the intrinsic value of the 17,250 shares of nonstatutory stock options exercised totaled $201,868 and resulted in a tax benefit of $70,653. During the first three months of 2005, the intrinsic value of the 98,634 shares exercised totaled $1,386,508 and resulted in a tax benefit of $485,278.

The following table summarizes the total shares outstanding and the range and weighted average of exercise prices and remaining contractual lives at March 31:

S&T also maintains a Cash Appreciation Rights (CARs) plan under which CARs are granted. CARs are rights to appreciation of the market value of S&T's common stock over the exercise price as of the date of grant. The CARs are settled in cash. CARs granted in 2005 have a four-year vesting period and a ten-year life, with 25 percent vesting each year on January 1 of the succeeding year. There were 206,900 shares of CARs issued in 2005 at a price of $37.86. During the first three months of 2006, 1,100 shares have been forfeited. The total compensation expense related to the 2005 grant will approximate $1.0 million, net of tax over the next 3.75 years.

S&T's CARs are treated as liability instruments under SFAS No. 123(R). The current market value must be determined at each reporting date. The Black-Scholes option valuation model was used to determine the market value of the CARs as of March 31, 2006. The assumptions used to value the CARs are as follows: a risk-free interest rate of 4.78 percent; a dividend yield of 3.2 percent; volatility of the expected market price of S&T's common stock of .26; and a weighted-average expected life of 6.72 years.

In 2002, there were 35,600 shares of restricted stock awards granted at $26.60 per share. There were no restricted stock awards granted in 2006 and 2005. The restricted shares granted in 2002 vest 25 percent per year over the next four years with the first vesting occurring on January 1, 2004. During the restricted period, the recipient receives dividends and can vote the shares. Generally, if the recipient leaves S&T before the end of the restricted period, the shares will be forfeited. Compensation expense for the restricted stock is ratably recognized over the period of service, generally the restricted period, based on the market value of the stock on the date of grant. As of March 31, 2006 there were 8,900 shares of restricted stock remaining to vest on January 1, 2007.

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The Black-Scholes option valuation model was developed for use in estimating the market value of traded options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. S&T's employee stock options and CARs have characteristics significantly different from those of traded options, and changes in subjective input assumptions can materially affect the market value estimate.

The following table illustrates the effect on net income and earnings per share if the market value method had been applied to all outstanding and unvested awards in each period.

In March 2006, the FASB issued SFAS No. 156, "Accounting for Servicing of Financial Assets." This Statement amends SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities," with respect to the accounting for separately recognized servicing assets and servicing liabilities. SFAS No. 156 requires companies to recognize a servicing asset or servicing liability each time it undertakes an obligation to service a financial asset by entering into a servicing contract. The Statement permits a company to choose either the amortized cost method or fair value measurement method for each class of separately recognized servicing assets. This Statement is effective as of the first fiscal year beginning after September 15, 2006, unless earlier adopted, and is not expected to have a significant impact on S&T's financial position and results of operations.

S&T's balance sheet includes both tangible assets (such as land, buildings, and investments) and intangible assets (such as goodwill and core deposit intangibles). Goodwill is annually reviewed for impairment. Other intangibles are comprised of core deposit intangibles and other mortgage servicing assets, which are also reviewed for impairment on a periodic basis.

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The following table summarizes the components of net periodic pension expense for S&T's defined benefit plan:

S&T previously disclosed in its financial statements for the year ended December 31, 2005, that S&T contributed $7.2 million to its pension plan in December 2005 for 2006. No further contributions are expected to be made during 2006.

The amortized cost and market value of securities are as follows:

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During the first quarter of 2006, S&T recognized an other-than-temporary impairment totaling $0.1 million on one equity security. The other-than-temporary impairment was charged to earnings as a reduction to security gains. For debt securities available for sale, S&T does not believe any other individual unrealized loss as of March 31, 2006 and December 31, 2005 represent an other-than-temporary impairment. S&T performs a review on the entire securities portfolio on a quarterly basis to identify securities that may indicate an other-than-temporary impairment. S&T management considers the length of time and the extent to which the market value has been less than cost and the financial condition of the issuer. The unrealized losses on one hundred ninety-two debt securities are primarily attributable to changes in interest rates. The unrealized losses on fourteen marketable equity securities are attributable to temporary declines in market value. S&T has both the intent and the ability to hold the debt securities contained in the previous table for a time necessary to recover the amortized cost or until maturity.

The following tables present the age of gross unrealized losses and market value by investment category:

The amortized cost and market value of debt securities at March 31, 2006, by expected maturity, are as set forth below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

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For purposes of the maturity table, mortgage-backed securities, which are not due at a single maturity date, have been allocated over maturity groupings based upon the current estimated prepayment rates. The mortgage-backed securities may mature earlier or later than their weighted-average estimated maturities because of principal repayment optionality.

At March 31, 2006 and December 31, 2005, investment securities with a principal amount of $267,010,000 and $274,399,000, respectively, were pledged to secure repurchase agreements, public funds and trust fund deposits.

The composition of the loan portfolio at the dates set forth in the table below was as follows:

Changes in the allowance for loan losses for the three months ended March 31, were as follows:

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S&T, in the normal course of business, is subject to various legal proceedings in which claims for monetary damages are asserted. Management does not believe that the outcome of any current proceedings will have a material adverse effect on the consolidated financial position of S&T.

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The following discussion and analysis is presented so that shareholders may review in further detail the financial condition and results of operations of S&T Bancorp, Inc. and subsidiaries ("S&T"). This discussion and analysis should be read in conjunction with the condensed consolidated financial statements and the other financial data presented elsewhere in this report.

S&T is a financial holding company with its headquarters located in Indiana, Pennsylvania and with assets of $3.3 billion at March 31, 2006. S&T provides a full range of financial services through a branch network of 50 offices located in Allegheny, Armstrong, Blair, Butler, Cambria, Clarion, Clearfield, Indiana, Jefferson and Westmoreland counties of Pennsylvania. S&T provides full service retail and commercial banking products as well as cash management services; insurance; estate planning and administration; employee benefit investment management and administration; corporate services and other fiduciary services.

Total assets averaged $3.2 billion in the first three months of 2006. Average loans increased $143.0 million and average securities, other investments and federal funds sold decreased $25.8 million in the first three months of 2006 compared to the 2005 full year average. Average deposits increased $183.5 million and average borrowings decreased $56.9 million during the three months ended March 31, 2006 as compared to the 2005 full year average.

Average loans increased $143.0 million to $2.5 billion during the three months ended March 31, 2006 compared to the 2005 full year average. Changes in the composition of the average loan portfolio during the first three months of 2006 included increases of $16.0 million of commercial loans, $95.3 million of commercial real estate loans and $32.7 million of residential mortgages, offset by a decrease of $1.0 million of installment loans.

Real estate construction and commercial loans, including mortgage and industrial, comprised 76 percent of the average loan portfolio for the three months ended March 31, 2006 and the 2005 full year average. Although commercial loans can be an area of higher risk, management believes these risks are mitigated by limiting concentrations and a rigorous underwriting review by loan administration. Variable-rate commercial loans were 54 percent of the commercial loan portfolio at March 31, 2006 and 55 percent at December 31, 2005.

Residential mortgage loans comprised 21 percent of the average loan portfolio for the three months ended March 31, 2006, which was unchanged when compared to the 2005 full year average. Residential mortgage lending continues to be a strategic focus in 2006 through our centralized mortgage origination department, ongoing product redesign, secondary market activities and the utilization of commission compensated originators. Management believes that S&T is fairly well insulated from the impact of potential future declines in its local real estate market due to its conservative mortgage lending policies. These policies generally require, for portfolio loans, a maximum term of twenty years for fixed rate mortgages and a loan to value ratio of 80 percent or less. For those residential mortgage loans with a loan to value ratio between 80 and 100 percent, private mortgage insurance or a home equity term loan to credit worthy borrowers is required. At March 31, 2006, 11 percent of the residential mortgage portfolio consisted of adjustable rate mortgages with repricing terms of one, three and five years as compared to 13 percent at December 31, 2005.

S&T periodically sells longer-term, lower-yielding 1-4 family mortgages to Fannie Mae. The rationale for these sales is to mitigate interest rate risk associated with holding long-term residential mortgages in the loan portfolio, to generate fee revenue from servicing, and still maintain the primary customer relationship. During the first three months of 2006, S&T sold $4.8 million of 1-4 family mortgages to Fannie Mae compared to $9.8 million during the first three months of 2005. S&T will continue to sell longer-term loans to Fannie Mae in the future on a selective basis, especially during periods of lower interest rates.

Consumer installment loans comprised 3 percent of the average loan portfolio for the three months ended March 31, 2006 and for the 2005 full year average. The average balance of consumer installment loans for the three months ended March 31, 2006 was $67.7 million compared to $68.7 million for the 2005 full year average. Installment loan decreases were primarily the result of lower origination volumes.

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Loan underwriting standards for S&T are established by a formal policy administered by the Loan Administration Department of S&T Bank and are subject to the periodic review and approval of the S&T Bank Board of Directors. Rates and terms for commercial real estate and equipment loans normally are negotiated, subject to such variables as economic conditions, marketability of collateral, credit history of the borrower and future cash flows. The loan to value policy guideline for commercial real estate loans is generally 75-80 percent.

The loan to value policy guideline is 80 percent for residential first lien mortgages. Higher loan to value loans may be approved with the appropriate private mortgage insurance coverage or a home equity term loan to credit worthy borrowers. Second lien positions are sometimes secured with home equity loans, but normally only to the extent that the combined credit exposure for both the first and second liens does not exceed 100 percent of value. S&T offers a variety of unsecured and secured installment loan and credit card products. However, the majority of the consumer loan portfolio is automobile loans. Loan to value guidelines for direct loans are 90 -100 percent of invoice for new automobiles and 80-90 percent of National Automobile Dealer Association (NADA) value for used automobiles.

Management intends to continue to pursue quality loans in a variety of lending categories within our market area in order to enhance shareholder value. S&T's loan portfolio primarily represents loans to businesses and consumers in our market area of western Pennsylvania rather than to borrowers in other areas of the country. S&T has not concentrated its lending activities in any industry or group of industries. During the past several years, management has concentrated on building an effective credit and loan administration staff, which assists management in evaluating loans before they are made and in identifying problem loans early.

Average securities, other investments and federal funds sold decreased by $25.8 million in the first three months of 2006 compared to the 2005 full year average. The decrease in securities is partially attributable to an S&T Asset Liability Committee ("ALCO") strategy to reduce balances in both securities and borrowings to mitigate the interest rate risk of a flattening yield curve. The average decreases are comprised of $10.5 million in U.S. government agency securities, $4.2 million in other securities, $2.8 million of U.S. treasury securities, $3.8 million in mortgage-backed securities and $4.2 million in corporate stocks. Average other investments decreased $2.9 million in the first three months of 2006 compared to the 2005 full year average and are comprised of Federal Home Loan Bank ("FHLB") capital stock that is a membership and borrowing requirement and is acquired and sold at stated value. The amount of S&T's investment in FHLB stock depends upon S&T's borrowings availability and level from the FHLB. Average federal funds sold decreased $2.8 million in the first three months of 2006 compared to the 2005 full year average. Offsetting these decreases is an average increase of $5.4 million of investments in states and political subdivisions. At March 31, 2006, the equity securities portfolio had net unrealized gains of $19.2 million. The equity securities portfolio consists of securities traded on the various stock markets and are subject to changes in market value.

S&T's policy for security classification includes U.S. treasuries, U.S. government agencies, mortgage-backed securities, collateralized mortgage obligations, municipal securities, corporate securities and marketable equity securities as available for sale. On a quarterly basis, management evaluates the security portfolios for other-than-temporary declines in market value in accordance with Emerging Issues Task Force No. 03-1. During the first three months of 2006, there were $0.1 million of unrealized losses taken for an other-than-temporary impairment on one equity investment security. The performance of the equities and debt securities markets could generate further impairment in future periods. At March 31, 2006 unrealized gains, net of unrealized losses, for securities classified as available for sale were $9.6 million. Unrealized losses related to S&T's debt securities portfolio totaled $9.7 million at March 31, 2006. S&T has the intent and ability to hold these debt securities until maturity or until market value recovers above cost.

The balance in the allowance for loan losses was $37.4 million or 1.47 percent of total loans at March 31, 2006 as compared to $36.6 million or 1.47 percent of total loans at December 31, 2005. During the second quarter 2005, S&T split its allowance for credit losses into an allowance for loan losses and an allowance for lending-related commitments such as unfunded commercial real estate and commercial & industrial loan commitments. This resulted in a decrease in the allowance for loan losses of $1.0 million and a reduction in the allowance for loan losses to total loans from 1.44 percent to 1.40 percent at June 30, 2005. The balance in the allowance for lending-related commitments is $0.7 million at March 31, 2006.

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Management evaluates the degree of loss exposure for loans on a continuous basis through a formal allowance for loan losses policy as administered by the Loan Administration Department of S&T Bank and various management and director committees. Problem loans are identified and continually monitored through detailed reviews of specific commercial loans, and the analysis of delinquency and charge-off levels of consumer loan portfolios. Charged-off and recovered loan amounts are applied to the allowance for loan losses. Monthly updates are presented to the S&T Board of Directors as to the status of loan quality.

Amounts are added to the allowance for loan losses through a charge to current earnings through the provision for loan losses, based upon management's assessment of the adequacy of the allowance for loan losses for probable loan losses. A quantitative analysis is utilized to support the adequacy of the allowance for loan losses. This analysis includes review of the historical charge-off rates for all loan categories and fluctuations and trends in various risk factors. Factors consider the level of S&T's historical charge-offs that have occurred within the credits economic life cycle. Management also assesses qualitative factors such as portfolio credit trends, unemployment trends, vacancy trends, loan growth and variable interest rate factors.

Significant to this analysis and assessment is the shift in loan portfolio composition to an increased mix of commercial loans. These loans are generally larger in size and, due to the continuing loan growth, many are not well seasoned and could be more vulnerable to an economic slowdown. Management relies on its risk rating process to monitor trends, which may be occurring relative to commercial loans to assess potential weaknesses within specific credits. Current risk factors, trends in risk ratings and historical charge-off experiences are considered in the determination of the allowance for loan losses. During the first three months of 2006, the risk rating profile of the portfolio increased primarily due to two commercial loans. These two commercial loans total approximately $10.7 million and have been adequately reserved as determined by the quarterly impairment analysis performed by the loan administration department. Management believes its quantitative and qualitative analysis and risk-rating process is sufficient and enables it to conclude that the total allowance for loan losses is adequate to absorb probable loan losses.

Net loan charge-offs totaled $0.7 million in the first three months of 2006 and 2005, respectively. The balance of nonperforming loans, which included nonaccrual loans past due 90 days or more, at March 31, 2006 was $13.1 million or 0.51 percent of total loans. This compares to nonperforming loans of $11.2 million or 0.45 percent of total loans at December 31, 2005. There are no loans 90 days past due and still accruing. The most significant credit added to nonperforming status during the first quarter of 2006 is a $1.5 million loan to a wholesale distributor currently in bankruptcy. Other significant components of nonperforming assets, which occurred in 2005, include a $4.6 million nonaccrual commercial real estate loan and a $2.4 million residential development property acquired through foreclosure. These credits are currently in various stages of work out and/or liquidation and have been factored into determining the adequacy of the allowance for loan losses. The provision for loan losses was $1.5 million for the first quarter of 2006, as compared to $0.8 million for the same period of 2005. The provision is based on management's detailed quarterly analysis of the adequacy of the allowance for loan losses.

Average total deposits increased by $183.5 million, or 8 percent, during the three months ended March 31, 2006 as compared to the 2005 full year average. Changes in the average deposit mix include increases of $213.2 million in savings accounts and $42.5 million in certificates of deposit. Offsetting these increases are decreases of $62.1 million in money market accounts and $10.1 million in NOW and demand accounts. The increase in savings accounts is primarily attributable to the success of the Green Plan savings account, which has grown to $635.2 million at March 31, 2006 since its introduction in August 2004. The Green Plan account is indexed to the Federal Reserve Fed Funds Target Rate. During the first quarter of 2006, S&T introduced another high yield savings account to replace the Green Plan account called the Plan B account. No further Green Plan accounts will be opened after introduction of the Plan B account. Plan B accounts are non-indexed and are expected to allow S&T to continue core deposit growth that better compliments shifting interest rate sensitivity. Core deposit growth has been an important strategic initiative for S&T, through the expansion of retail facilities, providing cash management services to commercial customers and the ongoing enhancements to deposit products and delivery services such as electronic banking.

Management believes that the S&T deposit base is stable and that S&T has the ability to attract new deposits, mitigating a funding dependency on other more volatile sources. Time deposits of $100,000 and over were 8 percent of total deposits at March 31, 2006 compared to 9 percent of total deposits at December 31, 2005, and primarily represent deposit relationships with local customers in our market area. Periodically, S&T enters into brokered certificates of deposit with outside brokerage firms. Brokered certificates of deposit totaled $64.7 million at March 31, 2006 as compared to $57.2 million at December 31, 2005.

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Average borrowings decreased $56.9 million for the first three months of 2006 compared to the 2005 full year average as a result of increased deposit growth and lower levels of investment securities. Borrowings were comprised of retail repurchase agreements ("REPOs"), wholesale REPOs, federal funds purchased, FHLB advances and long-term borrowings. S&T defines repurchase agreements with its local retail customers as retail REPOs; wholesale REPOs are those transacted with other banks and brokerage firms with terms normally ranging from one to 365 days.

The average balance in retail REPOs increased approximately $5.9 million for the first three months of 2006 compared to the 2005 full year average. S&T views retail REPOs as a relatively stable source of funds because most of these accounts are with local long-term customers. Average federal funds purchased increased by $2.4 million and average wholesale REPOs and FHLB advances decreased by $95.6 million for the first three months of 2006 compared to the full year 2005 average.

Average long-term borrowings have increased by $30.4 million in the first three months of 2006 as compared to the full year 2005 average. S&T had average long-term borrowings outstanding of $108.8 million during the three months ended March 31, 2006. The increase in long-term borrowings is part of an ALCO strategy to limit interest rate risk as customer preferences have shifted to short-term and variable rate deposits, and to take advantage of lower cost funds through the FHLB's Community Investment Program.

Shareholders' equity decreased $2.5 million at March 31, 2006, compared to December 31, 2005. Net income was $14.2 million and dividends paid to shareholders were $7.5 million for the three months ended March 31, 2006. Also affecting capital is a decrease of $2.5 million in unrealized gains on securities available for sale, stock buybacks of 204,000 shares during the first three months of 2006 at an average cost of $36.00 per share and the issuance of 17,250 shares through the exercise of employee and director stock options.

S&T paid 53 percent of first quarter 2006 net income in dividends, equating to a projected annual dividend yield of approximately 3 percent utilizing the March 31, 2006 closing market price of $36.58. The book value of S&T's common stock was $13.41 at March 31, 2006 and December 31, 2005.

S&T continues to maintain a strong capital position with a leverage ratio of 9.3 percent as compared to the minimum regulatory guideline of 3.0 percent. S&T's risk-based capital Tier I and Total ratios were 10.3 percent and 11.9 percent, respectively, at March 31, 2006. These ratios place S&T above the Federal Reserve Board's risk-based capital guidelines of 4.0 percent and 8.0 percent for Tier I and Total, respectively.

During 2003, S&T filed a shelf registration statement on Form S-3 under the Securities Act of 1933, as amended, with the Securities and Exchange Commission ("SEC") for the issuance of up to $150.0 million of a variety of securities including, debt and capital securities, preferred and common stock and warrants. S&T can use the proceeds from the sale of any securities for general corporate purposes, which could include investments at the holding company level, investing in, or extending credit to, its subsidiaries, possible acquisitions and stock repurchases. As of March 31, 2006, S&T had not utilized the shelf registration statement.

In addition to the results of operations presented in accordance with generally accepted accounting principles ("GAAP"), S&T management uses, and this quarterly report contains or references, certain non-GAAP financial measures, such as net interest income on a fully tax-equivalent basis and operating revenue. S&T believes these non-GAAP financial measures provide information useful to investors in understanding our underlying operational performance and our business and performance trends as they facilitate comparisons with the performance of others in the financial services industry. Although S&T believes that these non-GAAP financial measures enhance investors' understanding of S&T's business and performance, these non-GAAP financial measures should not be considered an alternative to GAAP.

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S&T believes the presentation of net interest income on a fully tax-equivalent basis ensures comparability of net interest income arising from both taxable and tax-exempt sources and is consistent with industry practice. Interest income per the consolidated statements of income is reconciled to net interest income adjusted to a fully tax-equivalent basis on page 19.

Operating revenue is the sum of net interest income and noninterest income less security gains. In order to understand the significance of net interest income to S&T's business and operating results, S&T management believes it is appropriate to evaluate the significance of net interest income as a component of operating revenue.

Net income was $14.2 million or $0.54 per diluted earnings per share in the first quarter of 2006 compared to $13.8 million or $0.51 per diluted earnings per share for the same period of 2005. Net income increased 3 percent while diluted earnings per share increased 6 percent. The higher earnings per share percentage increase is the result of a successful stock buyback program in 2005 and early 2006.

On a fully tax-equivalent basis, net interest income increased $0.8 million or 3 percent in the first quarter of 2006, compared to the same period of 2005. The increase in net interest income is a result of a $186.1 million increase in average interest earning assets. The net yield on interest-earning assets decreased to 3.93 percent in the first quarter of 2006 as compared to 4.08 percent in the first quarter of 2005. The decrease in net yield on earning assets is primarily attributable to the effect of rising short-term interest rates in combination with a flat yield curve. S&T's balance sheet is slightly liability sensitive, with deposit costs rising faster than asset yields in today's interest rate environment. Also affecting the first quarter year-to-year comparisons was a $0.2 million increase in delinquent interest reserves.

In the first quarter of 2006, average loans increased $219.2 million, and average securities, other investments and average federal funds sold decreased $33.1 million as compared to the first quarter of 2005. The yields on average loans increased by 85 basis points from the comparable period in 2005 and the yield on average securities increased by 24 basis points from the three months ended March 31, 2005.

In the first quarter of 2006, balances of average interest-bearing deposits increased by $260.3 million as compared to the same period of 2005. The cost of deposits totaled 2.63 percent, an increase of 93 basis points from the comparable period in 2005 due to increased rates paid on both core and time deposits. The cost of REPOs and other borrowed funds increased 154 basis points to 4.43 percent.

Net interest income represents the difference between the interest and fees earned on interest-earning assets and the interest paid on interest-bearing liabilities. Net interest income is affected by changes in the volume of interest-earning assets and interest-bearing liabilities and changes in interest yields and rates. Therefore, maintaining consistent spreads between earning assets and interest-bearing liabilities is very significant to our financial performance because net interest income comprised 76 percent of operating revenue, (net interest income plus noninterest income, excluding security gains) in the first three months of 2006 and 79 percent in the same period of 2005. The level and mix of earning assets and funds are continually monitored by ALCO in order to mitigate the interest-rate sensitivity and liquidity risks of the balance sheet. A variety of ALCO strategies were successfully implemented within prescribed ALCO risk parameters that enabled us to maintain a net interest margin consistent with historical levels.

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The following table reconciles interest income per the consolidated statements of income to net interest income adjusted to a fully tax-equivalent basis: