FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2003

Commission file number: 0-20050 PRINCETON NATIONAL BANCORP, INC. (Exact name of registrant as specified in its charter)

DELAWARE	36-32110283
(State or other jurisdiction of	(I.R.S. Employer
incorporation or organization)	Identification No.)
606 S. Main Street
Princeton, IL	61356
(Address of principal executive offices)	(Zip Code)

(815) 875-4444 (Registrant’s telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.   Yes  ü No o Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).   Yes  o    No ü  As of October 20, 2003, the registrant had outstanding 3,148,945 shares of its $5 par value common stock. Page 1 of 22 pages

Part I: FINANCIAL INFORMATION

The unaudited consolidated financial statements of Princeton National Bancorp, Inc. and Subsidiary and

management's discussion and analysis of financial condition and results of operations are presented in the

schedules as follows:

Schedule 1: Consolidated Balance Sheets

Schedule 2: Consolidated Statements of Income and Comprehensive Income

Schedule 3: Consolidated Statements of Stockholders’ Equity

Schedule 4: Consolidated Statements of Cash Flows

Schedule 5: Notes to Consolidated Financial Statements

Schedule 6: Management's Discussion and Analysis of

Financial Condition and Results of Operations

Schedule 7: Controls and Procedures

Part II: OTHER INFORMATION

Item 6. Exhibits and Reports on Form 8-K

(a)    Exhibits :

31.1

Certification of Tony J. Sorcic required by Rule 13a-14(a).

31.2

Certification of Todd D. Fanning required by Rule 13a-14(a).

32.1

Certificaton of Tony J. Sorcic required by Rule 13a-14(b) and Section 906 of the

Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350.

32.2

Certificaton of Todd D. Fanning required by Rule 13a-14(b) and Section 906 of the

Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350.

(b)

The Corporation filed an 8-K on July 30, 2003 related to the announcement of third quarter 2003 earnings.

The Corporation filed an 8-K on August 1, 2003 related to the announcement of a shareholders’ rights plan.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this

report to be signed on its behalf by the undersigned thereunto duly authorized.

PRINCETON NATIONAL BANCORP, INC.

Date:  November 7, 2003

By

/s/ Tony J. Sorcic           Tony J. Sorcic

President & Chief Executive Officer

Date:  November 7, 2003

By

/s/ Todd D. Fanning           Todd D. Fanning

Vice-President & Chief Financial Officer

---

Schedule 1

PRINCETON NATIONAL BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(Unaudited)
(dollars in thousands, except share data)

			September 30, 2003			December 31, 2002
ASSETS
Cash and due from banks			$	14,390		$	13,939
Interest-bearing deposits with financial institutions				566			1,706
Federal funds sold				5,600			3,225
Total cash and cash equivalents				20,556			18,870
Loans held for sale, at lower of cost or market				3,497			6,761
Investment securities:
Available-for-sale, at fair value				145,548			157,881
Held-to-maturity, at amortized cost				17,456			11,437
Total investment securities				163,004			169,318
Loans:
Loans, net of unearned interest				375,770			357,359
Allowance for loan losses				(2,378	)		(2,660	)
Net loans				373,392			354,699
Premises and equipment, net of accumulated depreciation				14,118			13,388
Bank-owned life insurance				14,266			13,566
Interest receivable				4,908			5,180
Goodwill, net of accumulated amortization				1,355			1,355
Intangible assets, net of accumulated amortization				1,576			1,732
Other real estate owned				42			75
Other assets				2,450			2,431
TOTAL ASSETS			$	599,164		$	587,375
LIABILITIES
Deposits:
Demand			$	55,485		$	58,655
Interest-bearing demand				175,713			155,549
Savings				56,531			51,750
Time				236,655			245,313
Total deposits				524,384			511,267
Borrowings:
Customer repurchase agreements				11,487			10,044
Advances from the Federal Home Loan Bank				5,300			5,750
Interest-bearing demand notes issued to the U.S. Treasury				762			2,397
Note payable				1,151			1,300
Total borrowings				18,700			19,491
Other liabilities				4,522			5,543
TOTAL LIABILITIES				547,606			536,301
STOCKHOLDERS’ EQUITY
Common stock: $5 par value, 7,000,000 shares
authorized; 4,139,841 issued				20,699			20,699
Surplus				6,953			6,612
Retained earnings				38,452			35,255
Accumulated other comprehensive income, net of tax				1,515			2,218
Less: Cost of 990,896 and 906,155 treasury shares at
September 30, 2003 and December 31, 2002, respectively				(16,061	)		(13,710	)
TOTAL STOCKHOLDERS’ EQUITY				51,558			51,074
TOTAL LIABILITIES AND
STOCKHOLDERS’ EQUITY			$	599,164		$	587,375

See accompanying notes to consolidated financial statements

3

---

Schedule 2

PRINCETON NATIONAL BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
(dollars in thousands, except share data)

			For the Three Months Ended September 30						For the Nine Months Ended September 30
			2003			2002			2003			2002
Interest income:
Interest and fees on loans			$	5,916		$	6,170		$	17,858		$	18,715
Interest and dividends on investment securities				1,505			1,925			3,942			5,736
Interest on federal funds sold				12			37			60			107
Interest on interest-bearing time deposits in other banks				8			29			46			73
Total interest income				7,441			8,161			21,906			24,631
Interest expense:
Interest on deposits				2,381			3,316			7,822			9,975
Interest on borrowings				101			132			316			405
Total interest expense				2,482			3,448			8,138			10,380
Net interest income				4,959			4,713			13,768			14,251
Provision for loan losses				100			50			365			425
Net interest income after provision
for loan losses				4,859			4,663			13,403			13,826
Non-interest income:
Trust & farm management fees				315			312			955			895
Service charges on deposit accounts				774			706			2,242			2,031
Other service charges				264			261			802			760
Gain on sales of securities available-for-sale				0			98			935			138
Brokerage fee income				143			157			410			501
Mortgage banking income, net				611			167			1,554			531
Bank-owned life insurance income				139			206			439			576
Other operating income				12			20			97			125
Total non-interest income				2,258			1,927			7,434			5,557
Non-interest expense:
Salaries and employee benefits				2,747			2,534			8,001			7,405
Occupancy				320			292			942			892
Equipment expense				405			393			1,198			1,120
Federal insurance assessments				50			53			159			159
Intangible assets amortization				52			52			156			156
Data processing				171			188			531			559
Advertising				87			130			304			348
Other operating expense				896			976			2,637			2,468
Total non-interest expense				4,728			4,618			13,928			13,107
Income before income taxes				2,389			1,972			6,909			6,276
Income tax expense				680			444			1,943			1,647
Net income			$	1,709		$	1,528		$	4,966		$	4,629
Net income per share:
Basic				0.54			0.46			1.55			1.40
Diluted				0.53			0.46			1.54			1.39
Basic weighted average shares outstanding				3,171,527			3,292,127			3,194,049			3,300,654
Diluted weighted average shares outstanding				3,213,331			3,314,705			3,229,696			3,319,401

See accompanying notes to consolidated financial statements

4

---

Schedule 2

PRINCETON NATIONAL BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
(dollars in thousands, except share data)

			For the Three Months Ended September 30						For the Nine Months Ended September 30
			2003			2002			2003			2002
Net income			$	1,709		$	1,528		$	4,966		$	4,629
Other comprehensive income (loss), net of tax
Unrealized holding gains (losses) arising during the period				(517	)		1,044			(130	)		2,285
Less: Reclassification adjustment for realized gains
included in net income				0			(60	)		(573	)		(85	)
Other comprehensive income (loss)				(517	)		984			(703	)		2,200
Comprehensive income			$	1,192		$	2,512		$	4,263		$	6,829

See accompanying notes to consolidated financial statements

5

---

Schedule 3

PRINCETON NATIONAL BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
(Unaudited)
(dollars in thousands, except per share data)

			For the Nine Months Ended September 30
			2003			2002
Balance, January 1			$	51,074		$	47,500
Net income				4,966			4,629
Cash dividends ($0.47 per share in 2003, and $.40 per share in 2002)				(1,506	)		(1,322	)
Other comprehensive income (loss), net of tax				(703	)		2,200
Purchases of treasury stock (111,000 shares in 2003, and 57,300 shares in 2002)				(2,627	)		(1,151	)
Exercise of stock options and re-issuance of treasury stock
(22,936 shares in 2003 and 6,689 shares in 2002)				275			105
Sales of treasury stock (3,323 shares in 2003, and 3,549 shares in 2002)				79			70
Balance, September 30			$	51,558		$	52,031

See accompanying notes to consolidated financial statements

6

---

Schedule 4

PRINCETON NATIONAL BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(dollars in thousands)

			For the Nine Months Ended Ended September 30
			2003			2002
Operating activities:
Net income			$	4,966		$	4,629
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation				1,059			950
Provision for loan losses				365			425
Amortization of other intangible assets				156			156
Amortization of premiums on investment
securities, net of accretion				2,310			698
Gain on securities transactions, net				(935	)		(138	)
Gain on sale of premises and equipment				(2	)		0
FHLB stock dividends				(49	)		(67	)
Loans originated for sale				(82,175	)		(23,015	)
Proceeds from sales of loans originated for sale				85,439			27,588
Decrease in interest payable				(576	)		(367	)
Decrease in interest receivable				272			86
Increase in other assets				(686	)		(1,127	)
Decrease in other liabilities				(1	)		(431	)
Net cash provided by operating activities				10,143			9,387
Investing activities:
Proceeds from sales of investment securities available-for-sale				9,681			3,863
Proceeds from maturities of investment securities available-for-sale				70,315			31,243
Purchase of investment securities available-for-sale				(76,229	)		(53,510	)
Proceeds from maturities of investment securities held-to-maturity				989			1,244
Purchase of investment securities held-to-maturity				(915	)		(1,501	)
Proceeds from sales of premises and equipment				2			0
Net increase in loans				(19,058	)		(19,486	)
Purchases of premises and equipment				(1,789	)		(631	)
Net cash used in investing activities				(17,004	)		(38,778	)
Financing activities:
Net increase in deposits				13,117			17,789
Net decrease in borrowings				(791	)		(835	)
Dividends paid				(1,506	)		(1,322	)
Purchases of treasury stock				(2,627	)		(1,151	)
Exercise of stock options				275			105
Sales of treasury stock				79			70
Net cash provided by financing activities				8,547			14,656
Increase (decrease) in cash and cash equivalents				1,686			(14,735	)
Cash and cash equivalents at beginning of period				18,870			33,726
Cash and cash equivalents at September 30			$	20,556		$	18,991
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest			$	8,714		$	10,747
Income taxes			$	1,799		$	1,798
Supplemental disclosures of non-cash flow activities:
Loans transferred to other real estate owned			$	71		$	3,413

See accompanying notes to consolidated financial statements

7

---

Schedule 5

PRINCETON NATIONAL BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
(Unaudited)

The accompanying unaudited consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and do not include all of the information required by accounting principles generally accepted in the United States of America for complete financial statements and related footnote disclosures. In the opinion of management, all adjustments (consisting only of normal recurring accruals) considered for a fair presentation of the results for the interim period have been included. For further information, refer to the consolidated financial statements and notes included in the Registrant’s 2002 Annual Report on Form 10-K. Results of operations for interim periods are not necessarily indicative of the results that may be expected for the year. Certain amounts in the 2002 consolidated financial statements have been reclassified to conform to the 2003 presentation.

(1) EARNINGS PER SHARE CALCULATION

        The following table sets forth the computation of basic and diluted earnings per share for the periods indicated (in thousands, except share data):

			Three Months Ended September 30,						Nine Months Ended September 30,
			2003			2002			2003			2002
Numerator:
Net income			$	1,709		$	1,528		$	4,966		$	4,629
Denominator:
Basic earnings per share-
weighted average shares				3,171,527			3,292,127			3,194,049			3,300,654
Effect of dilutive securities-
stock options				41,804			22,578			35,647			18,747
Diluted earnings per share-
adjusted weighted average shares				3,213,331			3,314,705			3,229,696			3,319,401
Net income per share:
Basic			$	0.54		$	0.46		$	1.55		$	1.40
Diluted			$	0.53		$	0.46		$	1.54		$	1.39

8

---

(2) GOODWILL AND INTANGIBLE ASSETS

        The balance of goodwill, net of accumulated amortization, totaled $1,355,000 at September 30, 2003 and December 31, 2002. The balance of intangible assets, net of accumulated amortization, totaled $1,576,000 and $1,732,000 at September 30, 2003 and December 31, 2002, respectively.

        The following table summarizes the Corporation’s intangible assets, which are subject to amortization, as of September 30, 2003 and December 31, 2002.

			2003						2002
			Gross Carrying Amount			Accumulated Amortization			Gross Carrying Amount			Accumulated Amortization
Core deposit intangible			$	2,968		$	(1,451	)	$	2		$	(1,303	)
Other intangible assets				160			(101	)		160			(93	)
Total			$	3,128		$	(1,552	)	$	3,128		$	(1,396	)

        Amortization expense totaled $52,000 and $156,000 both for the three and nine months ended September 30, 2003 and September 30, 2002, respectively. The amortization expense will be approximately $52,000 for the remainder of 2003 and will be approximately $205,000 for each of the next five years.

        The Corporation’s other intangible assets consist of originated mortgage servicing rights which are included in other assets on the consolidated balance sheets. Mortgage servicing rights are amortized in proportion to, and over the period of, estimated net servicing income similar to the interest method using an accelerated amortization method and are subject to periodic impairment testing. As of September 30, 2003 no impairment had been recorded. Changes in the carrying value of capitalized mortgage servicing rights are summarized as follows:

(in thousands)
Balance, January 1			$	970
Servicing rights capitalized				80
Amortization of servicing rights				(488	)
Impairment of servicing rights				0
Balance, September 30			$	1,288

        Amortization expense for the mortgage servicing rights asset are based on assumptions made during each reporting period. Such assumptions include, but are not limited to, the current level of interest rates and the forecasted prepayment speeds. Actual amortization expense is also affected by the amount of loans sold with servicing retained.

9

---

        The Corporation services loans for others with unpaid principal balances at September 30, 2003 and December 31, 2002 of approximately $133,444,000, and $94,678,000, respectively.

        The following table shows the future estimated amortization expense for mortgage servicing rights based on existing balances as of September 30, 2003. The Corporation’s actual amortization expense in any given period may be significantly different from the estimated amounts displayed depending on the amount of additional servicing rights, changes in mortgage interest rates, estimated prepayment speeds, and market conditions.

Estimated Amortization Expense:

			Amount (in thousands)
For the three months ended December 31, 2003			$	114
For the year ended December 31, 2004				344
For the year ended December 31, 2005				273
For the year ended December 31, 2006				210
For the year ended December 31, 2007				149
For the year ended December 31, 2008				96
Thereafter				102

(3) STOCK OPTION PLAN

        The Corporation accounts for the stock-based compensation plan under APB Opinion No. 25. For the stock option program, no compensation cost is recognized in connection with the granting of stock options with an exercise price equal to the fair market value of the stock on the date of the grant. In accordance with the disclosure requirements of FAS 123, as amended by FAS 148, the following table provides the pro forma effect on net income and earnings per share if the fair value method of accounting for stock-based compensation had been used for all awards:

		For the Three Months Ended Sept. 30							For the Nine Months Ended Sept. 30,
(in thousands, except per share data)			2003			2002			2003			2002
Net Income as reported			$	1,709		$	1,528		$	4,966		$	4,629
Deduct: Stock-based compensation, net of
tax, that would have been reported
if the fair value based method had
been applied to all awards				(59	)		(30	)		(179	)		(90	)
Pro forma net income			$	1,650		$	1,498		$	4,787		$	4,539
Basic Earnings Per Share
As Reported			$	0.54		$	0.46		$	1.55		$	1.40
Pro Forma				0.52			0.46			1.50			1.38
Diluted Earnings Per Share
As Reported			$	0.53		$	0.46		$	1.54		$	1.39
Pro Forma				0.51			0.45			1.48			1.37

10

---

Schedule 6

PRINCETON NATIONAL BANCORP, INC. AND SUBSIDIARY
MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
For the quarter and nine months ended September 30, 2003 and 2002

        The following discussion provides information about Princeton National Bancorp, Inc.‘s (“PNBC” or the “Corporation”) financial condition and results of operations for the quarter and nine months ended September 30, 2003 and 2002. This discussion should be read in conjunction with the attached consolidated financial statements and notes thereto. Certain statements in this report constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, including, but not limited to those statements that include the words “believes”, “expects”, “anticipates”, “estimates”, or similar expressions. PNBC cautions that such forward-looking statements involve risks and uncertainties that may cause actual results to differ materially from those expressed or implied. Such risks and uncertainties include potential change in interest rates, competitive factors in the financial services industry, general economic conditions, the effect of new legislation, and other risks detailed in documents filed by the Corporation with the Securities and Exchange Commission from time to time.

RESULTS OF OPERATIONS

        Net income for the third quarter of 2003 was $1,709,000, or basic earnings per share of $0.54 (diluted earnings per share of $0.53), as compared to net income of $1,528,000 in the third quarter of 2002, or basic and diluted earnings per share of $0.46. This represents an increase of $181,000 (11.9%) or $.08 per basic share and $.07 per diluted share. An increase in non-interest income along with an improving net interest margin more than offset increases in non-interest expenses causing the increase in net income. Net income for the first nine months of 2003 was $4,966,000, or basic earnings per share of $1.55 (diluted earnings per share of $1.54), compared to net income of $4,629,000, or basic earnings per share of $1.40 (diluted earnings per share of $1.39) for the first nine months of 2002. This represents an increase of $337,000 (or 7.3%) during the first nine months of 2003 over the same period in 2002, and an increase of $.15 per basic and diluted share (or 10.7% and 10.8%, respectively). The increase in net income for the first nine months of 2003 is a result of a 33.8% increase in non-interest income, partially offset by a 6.3% increase in non-interest expense and a lower net interest margin. The annualized return on average assets and return on average equity were 1.13% and 13.50%, respectively, for the third quarter of 2003, compared with 1.05% and 11.82% for the third quarter of 2002. For the nine-month periods, the annualized return on average assets and average equity were 1.12% and 13.06%, respectively for 2003, compared to 1.11% and 12.54%, respectively for 2002.

        Net interest income before provision for loan losses was $4,959,000 for the third quarter of 2003, compared to $4,713,000 for the third quarter of 2002 (an increase of $246,000 or 5.2%). This increase is a result of both an increase in average interest-earning assets and an improving net interest margin. For the three months ended September 30, 2003, average interest-earning assets were $547.7 million compared to $522.5 million for the three months ended September 30, 2002. The resulting net yield on interest-earning assets (on a fully taxable equivalent basis) increased from 3.83% in the third quarter of 2002 to 3.84% in the third quarter of 2003. For the first nine months of 2003, the net yield on interest-earning assets (on a fully

11

---

taxable equivalent basis) decreased to 3.62% from 4.02% for the first nine months of 2002 . This decrease resulted from premium amortization of $1,184,000 recorded in the second quarter of 2003 due to accelerated prepayments in the collateralized mortgage obligation (“CMO”) portfolio causing the yield on taxable investment securities to decrease from 5.07% for the nine months ended September 30, 2002 to 2.43% for the nine months ended September 30, 2003.

        PNBC recorded a loan loss provision of $100,000 in the third quarter of 2003 compared to $50,000 in the third quarter of 2002. For the nine-month comparable periods, PNBC recorded a loan loss provision of $365,000 in 2003 and $425,000 in 2002. The provision expense recorded each quarter is determined by management’s evaluation of the risk characteristics of the loan portfolio. For the third quarter of 2003, PNBC had net charge-offs of $152,000, compared to net charge-offs of $28,000 for the third quarter of 2002. For the nine-month comparable periods, PNBC had net charge-offs of $647,000 in 2003 and net recoveries of $22,000 in 2002.

        Non-interest income totaled $2,258,000 for the third quarter of 2003, as compared to $1,927,000 during the third quarter of 2002, an increase of $331,000 (or 17.2%). This is a result of an increase in mortgage banking income of $444,000 (or 265.9%) due to fee income generated from continued origination/refinancing and subsequent sales and servicing of mortgage loans in the secondary market. Additionally, there was $98,000 in gains on sales of available-for-sale securities in the third quarter of 2002, but none in the third quarter of 2003. Year-to-date in 2003, non-interest income totals $7,434,000 compared to $5,557,000 for the first nine months of 2002 (an increase of $1,877,000 or 33.8%). Mortgage banking income has increased by $1,023,000 in the comparable periods, while gains on sales of securities have increased by $797,000 during the first three quarters of 2003. Other notable increases have been seen in service charges on deposit accounts ($211,000 or 10.4%) and in trust and farm management fees ($60,000 or 6.7%).

        Total non-interest expense for the third quarter of 2003 was $4,728,000, an increase of $110,000 (or 2.4%) from $4,618,000 in the third quarter of 2002. The largest increases was in salaries/employee benefits, which increased $213,000 (or 8.4%) due to increases in commissions from mortgage banking operations as well as increased insurance costs. Collectively, all other categories of non-interest expense decreased $103,000 (or 4.9%). Year-to-date non-interest expenses for 2003 of $13,928,000 have increased $821,000 (or 6.3%) from the year-to-date totals at September 30, 2002. The most notable increases are again in salaries/employee benefits ($596,000 or 8.1%), other operating expense ($169,000 or 6.9%), and in equipment expense, which increased $78,000 (7.0%) due to increased depreciation from the upgrade of bank technology. Additionally impacting other operating expense was the Corporation’s decision to outsource the internal audit function.

INCOME TAXES

        Income tax expense totaled $680,000 for the third quarter of 2003, as compared to $444,000 for the third quarter of 2002. The effective tax rate was 28.5% for the three months ended September 30, 2003 compared to 22.5% for the three months ended September 30, 2002. Income tax expense totaled $1,943,000 for the first nine months of 2003, as compared to $1,647,000 for the same time period of 2002. The effective tax rate was 28.1% for the nine months ended September 30, 2003 compared to 26.2% for the nine months ended September 30, 2002.

12

---

ANALYSIS OF FINANCIAL CONDITION

        Total assets at September 30, 2003 increased to $599,164,000 from $587,375,000 at December 31, 2002 (an increase of $11.8 million or 2.0%). Total deposits at September 30, 2003 increased to $524,384,000 from $511,267,000 at December 31, 2002 (an increase of $13.1 million or 2.6%). As interest rates have decreased, there continues to be a shift to savings and interest-bearing demand deposits (which would include money market and interest checking accounts) away from time deposits. Comparing categories of deposits at September 30, 2003 to the December 31, 2002 totals: interest-bearing demand deposits increased $20.2 million (or 13.0%) and savings deposits increased $4.8 million (or 9.2%). Conversely, time deposits decreased $8.7 million (or 3.5%); and demand deposits decreased by $3.2 million (or 5.4%). Borrowings, consisting of customer repurchase agreements, notes payable, treasury, tax, and loan (“TT&L”) deposits, federal funds purchased, and Federal Home Loan Bank advances, decreased from $19,491,000 at December 31, 2002 to $18,700,000 at September 30, 2003 (a decrease of $791,000 or 4.1%). Investments totaled $163,004,000 at September 30, 2003, compared to $169,318,000 at December 31, 2002 (a decrease of $6.3 million or 3.7%).

        Loan balances, net of unearned interest, increased to $379,267,000 at September 30, 2003, compared to $364,120,000 at December 31, 2002 (an increase of $15.1 million or 4.2%). Non-performing loans totaled $2,839,000 or 0.75% of net loans at September 30, 2003, as compared to $3,820,000 or 1.07% of net loans at December 31, 2002.

        For the nine months ended September 30, 2003, the subsidiary bank charged off $792,000 of loans and had recoveries of $145,000, compared to charge-offs of $391,000 and recoveries of $413,000 during the nine months ended September 30, 2002. The allowance for loan losses is based on factors that include the overall composition of the loan portfolio, types of loans, underlying collateral, past loss experience, loan delinquencies, substandard and doubtful credits, and such other factors that, in management’s reasonable judgment, warrant consideration. The adequacy of the allowance is monitored monthly. At September 30, 2003, the allowance was $2,378,000 which is 83.8% of non-performing loans and 0.63% of total loans, compared with $2,660,000 which was 69.6% of non-performing loans and 0.73% of total loans at December 31, 2002.

        At September 30, 2003, impaired loans totaled $1,755,000 compared to $2,230,000 at December 31, 2002. Loans 90 days or more past due and still accruing interest at September 30, 2003 were $0, compared to $23,000 at December 31, 2002. The balances of non-performing and impaired loans continue to be below industry averages. There is a specific loan loss reserve of $462,000 established for impaired loans as of September 30, 2003 compared to a specific loan loss reserve of $173,000 at December 31, 2002. PNBC’s management analyzes the allowance for loan losses monthly and believes the current level of allowance is adequate to meet probable losses as of September 30, 2003.

CAPITAL RESOURCES

        Federal regulations require all financial institutions to evaluate capital adequacy by the risk-based capital method, which makes capital requirements more sensitive to the differences in the level of risk assets. At September 30, 2003 total risk-based capital of PNBC was 11.57%, compared to 11.74% at December 31, 2002. The Tier 1 capital ratio increased from 7.80% at December 31, 2002, to 7.88% at September 30, 2003. Total stockholders’ equity to total assets at September 30, 2003 decreased to 8.60% from 8.70% at December 31, 2002.

13

---

LIQUIDITY

        Liquidity is measured by a financial institution’s ability to raise funds through deposits, borrowed funds, capital, or the sale of assets. Additional sources of liquidity include cash flow from the repayment of loans and the maturity of investment securities. Major uses of cash include the origination of loans and purchase of investment securities. Cash flows provided by operating and financing activities, offset by those used in investing activities, resulted in a net increase in cash and cash equivalents of $1,686,000 from December 31, 2002 to September 30, 2003. This increase was primarily due to a net increase in deposits and a net decrease in investments, offset by a net increase in loans. For more detailed information, see PNBC’s Consolidated Statements of Cash Flows.

FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK

        The subsidiary bank is party to financial instruments with off balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. Those instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets. The contract amounts of those instruments reflect the extent of involvement the subsidiary bank has in particular classes of financial instruments.

        The subsidiary bank’s exposure to credit loss in the event of non-performance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual notional amount of those instruments. The subsidiary bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments. At September 30, 2003 commitments to extend credit and standby letters of credit were approximately $94,952,000 and $2,781,000, respectively.

        Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The subsidiary bank evaluates each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary, by the subsidiary bank upon extension of credit is based on management’s credit evaluation of the counter party. Collateral held varies, but may include real estate, accounts receivable, inventory, property, plant and equipment, and income-producing properties.

        Standby letters of credit are conditional commitments issued by the subsidiary bank to guarantee the performance of a customer to a third party. The credit risk involved in issuing standby letters of credit is essentially the same as that involved in extending loan facilities to customers. The subsidiary bank secures the standby letters of credit with the same collateral used to secure the loan.

EXPANSION PLANS

        The Corporation has signed a sales contract for the purchase of property in Aurora, Illinois. The purchase of this property should occur prior to year-end 2003 and construction of the new bank facility will begin in the spring of 2004. Once this facility is completed, a facility will be built on the Elburn, Illinois property which was purchased in July of 2003.

14

---

LEGAL PROCEEDINGS

        There are various claims pending against PNBC’s subsidiary bank, arising in the normal course of business. Management believes, based upon consultation with legal counsel, that liabilities arising from these proceedings, if any, will not be material to PNBC’s financial condition.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

        There has been no material change in market risk since December 31, 2002, as reported in PNBC’s 2002 Annual Report on Form 10-K.

NEW ACCOUNTING PRONOUNCEMENTS

        In January 2003, the Financial Accounting Standards Board (“FASB”) issued Interpretation No. 46, “Consolidation of Variable Interest Entities” which provides new accounting guidance on when to consolidate a variable interest entity. A variable interest entity exists when either the total equity investment at risk is not sufficient to permit the entity to finance its activities by itself, or the equity investors lack one of three characteristics associated with owning a controlling financial interest. Those characteristics include the direct or indirect ability to make decisions about an entity’s activities through voting rights or similar rights, the obligation to absorb the expected loss of an entity if they occur, and the right to receive the expected residual return of the entity to occur. The Corporation does not expect the adoption of the Interpretation will have any impact on the consolidated financial statements.

        In April 2003, the FASB issued FAS 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” This Statement amends and clarifies accounting for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities. This Statement is effective for contracts entered into or modified after June 30, 2003 and for hedging relationships designated after June 30, 2003. Adoption of this Statement did not have a material effect on the Corporation’s consolidated financial statements.

        In May 2003, the FASB issued FAS 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” This statement would require that certain financial instruments with characteristics of both liabilities and equity be classified on the consolidated balance sheet as liabilities. The Statement is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. Adoption of this Statement did not have a material effect on the Corporation’s consolidated financial statements.

EFFECTS OF INFLATION

        The consolidated financial statements and related consolidated financial data presented herein have been prepared in accordance with accounting principles generally accepted in the United States of America and practices within the banking industry which require the measurement of financial condition and operating results in terms of historical dollars, without considering the changes in the relative purchasing power of money over time due to inflation. Unlike most industrial companies, virtually all the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates have a more significant impact on a financial institution’s performance than the effects of general levels of inflation.

15

---

PRINCETON NATIONAL BANCORP, INC. AND SUBSIDIARY

        The following table sets forth (in thousands) details of average balances, interest income and expense, and resulting annualized rates for the Corporation for the periods indicated, reported on a fully taxable equivalent basis, using a tax rate of 34%.

		Nine Months Ended, September 30, 2003										Nine Months Ended, September 30, 2002
			Average Balance			Interest			Yield/ Cost			Average Balance			Interest			Yield/ Cost
Average Interest-Earning Assets
Interest-bearing deposits			$	5,829		$	46			1.05	%	$	6,134		$	73			1.59	%
Taxable investment securities				111,746			2,030			2.43	%		102,642			3,896			5.07	%
Tax-exempt investment securities				54,302			2,897			7.13	%		49,746			2,788			7.49	%
Federal funds sold				7,197			60			1.12	%		8,958			107			1.60	%
Net loans				365,824			17,868			6.53	%		339,151			18,733			7.38	%
Total interest-earning assets				544,898			22,902			5.62	%		506,631			25,597			6.76	%
Average non-interest earning assets				50,056									52,314
Total average assets			$	594,954								$	558,945
Average Interest-Bearing Liabilities
Interest-bearing demand deposits			$	163,848			1,553			1.27	%	$	125,420			1,747			1.86	%
Savings deposits				55,462			249			0.60	%		54,480			531			1.30	%
Time deposits				245,250			6,019			3.28	%		253,326			7,697			4.06	%
Interest-bearing demand notes
issued to the U.S. Treasury				827			6			0.96	%		1,108			13			1.57	%
Federal funds purchased and
securities repurchase agreements				9,129			48			0.70	%		10,885			91			1.12	%
Advances from Federal Home Loan Bank				5,599			232			5.54	%		6,236			258			5.53	%
Borrowings				1,241			31			3.36	%		1,499			43			3.84	%
Total interest-bearing liabilities				481,356			8,138			2.26	%		452,954			10,380			3.06	%
Net yield on average interest-earning assets						$	14,764			3.62	%				$	15,217			4.02	%
Average non-interest-bearing liabilities				62,756									56,635
Average stockholders’ equity				50,842									49,356
Total average liabilities and
stockholders’ equity			$	594,954								$	558,945

16

---

Schedule 7. Controls and Procedures

(a)

Disclosure controls and procedures. We evaluated the effectiveness of the design and operation of our disclosure controls and procedures as of September 30, 2003. Our disclosure controls and procedures are the controls and other procedures that we designed to ensure that we record, process, summarize and report in a timely manner the information we must disclose in reports that we file with or submit to the SEC. Tony J. Sorcic, President and Chief Executive Officer, and Todd D. Fanning, Vice-President and Chief Financial Officer, reviewed and participated in this evaluation. Based on this evaluation, Messrs. Sorcic and Fanning concluded that, as of the date of their evaluation, our disclosure controls were effective.

(b)

Internal controls. There have not been any significant changes in our internal accounting controls or in other factors during the quarter ended September 30, 2003 that could significantly affect those controls.

17

---

INDEX TO EXHIBITS

Exhibit Number	Exhibit
31.1	Certification of Tony J. Sorcic required by Rule 13a-14(a).
31.2	Certification of Todd D. Fanning required by Rule 13a-14(a).
32.1	Certification of Tony J. Sorcic required by Rule 13a-14(b) and Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350.
32.2	Certification of Todd D. Fanning required by Rule 13a-14(b) and Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350.

18

---