content: UNITED STATES
  
                         SECURITIES AND EXCHANGE COMMISSION
  
                               Washington, D.C. 20549
  
                                      Form 10-Q
  
  
       Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
       Act of 1934
  
  For the period ended    September 30, 1997
  
  
  Commission File Number:  0-13775
  
  
                            KEYSTONE HERITAGE GROUP, INC.
                                    (Registrant)
  
  
       PENNSYLVANIA                                               23-2219740
  (State of incorporation)                                     (I.R.S. Employer
                                                               Identification No.)
  
                555 WILLOW STREET, LEBANON, PENNSYLVANIA     17046
               (Address of principal executive offices)    (Zip Code)
  
  
                                    717-274-6800
                (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 X No
  
           Indicate  the  number of  shares  outstanding  of each of the  issuer's
  classes of common stock, as of the latest practicable date.
  
  
            Class                               Outstanding at November 10, 1997
  
  Common Stock ($5.00 par value)                         3,966,249 shares
  
  <PAGE>
  
                            KEYSTONE HERITAGE GROUP, INC.
  
                                        Index
  
  PART I - FINANCIAL INFORMATION                                         Page
  
  
  Item 1 - Financial Statements
  
           Consolidated Balance Sheets as of
           September 30, 1997 and December 31, 1996 (Unaudited)             3
  
           Consolidated Statements of Income for the
           Three and Nine Months ended September 30, 1997 and
           1996 (Unaudited)                                                 4
  
           Consolidated Statements of Stockholders' Equity
           for the Nine Months ended September 30, 1997 and
           1996 (Unaudited)                                                 5
  
           Consolidated Statements of Cash Flows for the
           Nine Months ended September 30, 1997 and
           1996 (Unaudited)                                                 6
  
           Notes to Consolidated Financial Statements                       7
  
  
  Item 2 - Management's Discussion and Analysis of
            Financial Condition and Results of Operations                   8
  
  
  PART II - OTHER INFORMATION
  
  Signature Page                                                           18
  
                                         -2-
  <PAGE>
                            KEYSTONE HERITAGE GROUP, INC.
                             CONSOLIDATED BALANCE SHEETS
  
                               (Dollars In Thousands)
  <TABLE>
  <CAPTION>
                                                            September 30    December 31
                                                                1997           1996
                                                             ---------      ---------
  ASSETS
  <S>                                                          <C>            <C>    
        Cash and due from banks                                $21,274        $22,832
        Interest bearing deposits with banks                       437            181
        Term federal funds sold                                  8,000              0
        Investment securities available for sale                63,576         62,596
        Investment securities held to maturity
             (fair value of $80,624 and $92,079
             for 1997 and 1996, respectively)                   80,177         91,652
        Loans held for sale                                      1,418          6,019
        Loans, net of unearned income of
           $1,568 for 1997 and $1,812 for 1996                 461,925        422,534
        Allowance for loan losses                               (8,633)        (7,736)
                                                             ---------      ---------
  
             Loans, net                                        453,292        414,798
  
        Premises and equipment, net                              8,272          8,132
        Accrued interest receivable                              4,161          3,677
        Other real estate owned                                     80            695
        Deferred tax asset, net                                  2,481          2,604
        Other assets                                             3,168          3,121
                                                             ---------      ---------
  
             Total assets                                     $646,336       $616,307
                                                             =========      =========
  
  LIABILITIES
        Non-interest bearing deposits                          $74,339        $72,683
        Interest bearing deposits                              473,695        454,150
                                                             ---------      ---------
  
             Total deposits                                    548,034        526,833
  
        Short-term borrowings                                   19,081         12,478
        Other borrowings                                         3,388          6,438
        Accrued interest payable                                 5,416          5,184
        Other liabilities                                        3,186          3,135
                                                             ---------      ---------
  
             Total liabilities                                 579,105        554,068
  
  STOCKHOLDERS' EQUITY
  
        Common stock - $5 par value; 10,000,000
             shares authorized; 4,071,683 outstanding
             at September 30, 1997 and December 31, 1996        20,358         20,358
        Capital surplus                                         22,078         22,078
        Retained earnings                                       26,148         21,418
        Treasury stock - 113,434 shares at September 30,
             1997 and 93,700 at December 31, 1996               (2,669)        (2,123)
        Net unrealized gain on investment securities
             available for sale, net of taxes                    1,316            508
                                                             ---------      ---------
  
             Total stockholders' equity                         67,231         62,239
  
             Total liabilities and stockholders'
               equity                                         $646,336       $616,307
                                                             =========      =========
  </TABLE>
  See accompanying notes to financial statements.
  
                                         -3-
  <PAGE>
                            KEYSTONE HERITAGE GROUP, INC.
                          CONSOLIDATED STATEMENTS OF INCOME
  
                    (Dollars in thousands, except per share data)
  <TABLE>
  <CAPTION>
                                                             Three Months Ended      Nine Months Ended
                                                                September 30            September 30
                                                              1997        1996        1997       1996
                                                            -------     -------     -------     -------
  INTEREST INCOME
  <S>                                                        <C>         <C>        <C>         <C>    
                Interest and fees on loans                   $9,902      $9,366     $29,136     $27,096
                Interest and dividends on investment
                  securities available for sale:
                    Taxable investment securities               899         722       2,650       2,155
                    Equity investments                           66          55         196         159
                Interest and dividends on investment
                  securities held to maturity:
                    Taxable investment securities             1,025       1,055       3,207       3,274
                    Non-taxable investment securities           210         131         569         382
                                                            -------     -------     -------     -------
                      Total interest and dividends on
                       investment securities                  2,200       1,963       6,622       5,970
                Interest on money market investments            192          89         374         156
                                                            -------     -------     -------     -------
                    Total interest income                    12,294      11,418      36,132      33,222
  
  INTEREST EXPENSE
                Interest on deposits                          5,296       4,672      15,286      13,626
                Interest on short-term borrowings               152         135         401         369
                Interest on other borrowings                     86          98         278         420
                                                            -------     -------     -------     -------
                    Total interest expense                    5,534       4,905      15,965      14,415
  
                    Net interest income                       6,760       6,513      20,167      18,807
  
                Provision for loan losses                         0           0           0           0
                                                            -------     -------     -------     -------
                    Net interest income after provision
                     for loan losses                          6,760       6,513      20,167      18,807
  
  OTHER OPERATING INCOME
                Trust income                                    356         352       1,004         961
                Service charges on deposits                     377         341       1,078         978
                Net realized gain on investment
                    securities available for sale               310          35         512          58
                Net gain on sale of mortgage loans              239         321         664         644
                Net gain on sale of credit card loans
                    and merchant processing activity              0           0         618           0
                Other income                                    513         559       1,767       1,624
                                                            -------     -------     -------     -------
                    Total other operating income              1,795       1,608       5,643       4,265
  
  OTHER OPERATING EXPENSE
                Salaries and employee benefits                2,770       2,672       8,211       7,522
                Occupancy expense, net                          412         340       1,147         967
                Equipment expense                               481         448       1,419       1,500
                Deposit insurance expense                        16           1          48           2
                Other expense                                 1,647       1,360       3,892       3,986
                                                            -------     -------     -------     -------
                    Total other operating expense             5,326       4,821      14,717      13,977
  
                    Income before income taxes                3,229       3,300      11,093       9,095
                Income taxes                                    973       1,001       3,393       2,795
                                                            -------     -------     -------     -------
  
                    Net income                               $2,256      $2,299      $7,700      $6,300
                                                            =======     =======     =======     =======
  
  PER COMMON SHARE
                    Net income                                 $.57        $.57       $1.94       $1.55
                                                            =======     =======     =======     =======
  
                    Cash dividends paid                        $.25        $.22        $.75        $.62
  </TABLE>
                                         -4-
  <PAGE>
                            KEYSTONE HERITAGE GROUP, INC.
                   CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
                           Nine Months Ended September 30
  
                               (Dollars in thousands)
  <TABLE>
  <CAPTION>
                                                                                                         Net Unrealized
                                                                                                          Gain (Loss) On
                                                  Common        Capital       Retained        Treasury  Securities Available
                                                   Stock        Surplus       Earnings          Stock        for Sale         Total
  Balance, December 31, 1995                      $20,358       $22,078        $16,107        $   -0-       $    336         $58,879
  <S>                                               <C>           <C>         <C>               <C>            <C>          <C>  
       Net Income                                     -0-           -0-          6,300            -0-            -0-           6,300
       Cash dividends ($.62 per share)                -0-           -0-         (2,524)           -0-            -0-          (2,524)
       Acquisition of 43,300 shares of
       treasury stock at cost                         -0-           -0-            -0-           (974)           -0-            (974)
       Change in unrealized gain (loss)
        on investment securities
        available for sale, net of taxes              -0-           -0-            -0-            -0-           (124)           (124)
                                                  -------       -------        -------       --------     ----------        --------
  Balance, September 30, 1996                     $20,358       $22,078        $19,883        $  (974)      $    212         $61,557
                                                  =======       =======        =======       ========     ==========        ========
  
  Balance, December 31, 1996                      $20,358       $22,078        $21,418        ($2,123)      $    508         $62,239
       Net income                                     -0-           -0-          7,700            -0-            -0-           7,700
       Cash dividends ($.75 per share)                -0-           -0-         (2,968)           -0-            -0-          (2,968)
       Re-issuance of 6,666 shares of
       treasury stock                                 -0-           -0-             (2)           157            -0-             155
       Acquisition of 26,400 shares of
        treasury stock at cost                        -0-           -0-            -0-           (703)           -0-            (703)
       Change in unrealized gain
        (loss) on investment securities
        available for sale, net of taxes              -0-           -0-            -0-            -0-            808             808
                                                  -------       -------        -------       --------      ---------         -------
  Balance, September 30, 1997                     $20,358       $22,078        $26,148        ($2,669)      $  1,316         $67,231
                                                  =======       =======        =======       ========      =========         =======
  </TABLE>
                                         -5-
  <PAGE>
                            KEYSTONE HERITAGE GROUP, INC.
                        CONSOLIDATED STATEMENTS OF CASH FLOWS
                               (Dollars in thousands)
  <TABLE>
  <CAPTION>
                                                                     Nine Months Ended
                                                                       September 30
                                                                     1997         1996
  CASH FLOW FROM OPERATING ACTIVITIES:
  <S>                                                              <C>           <C>   
      Net income                                                   $7,700        $6,300
      Adjustments to reconcile net income to cash:
          Depreciation and amortization                               951         1,108
          (Increase) decrease in deferred income taxes               (325)          220
          (Increase) decrease in accrued interest receivable         (484)          106
          Increase (decrease) in accrued interest payable             232          (976)
          Net gain on sale or credit card loans
           and merchant card processing                              (618)            0
          Net gain on sale of other real estate owned                (112)            0
          Net gain on sale of loans                                  (664)         (644)
          Originations of residential mortgage loans sold         (25,175)      (28,135)
          Proceeds from sale of residential mortgage loans         26,263        27,175
          Net realized gain on investment securities
           available for sale                                        (512)          (58)
          Other, net                                                 (585)         (401)
                                                                 --------      --------
              Net cash provided by operating activities             6,671         4,695
  
  CASH FLOWS FROM INVESTING ACTIVITIES:
      Net increase in money market investments                     (8,256)       (3,377)
      Maturities of investment securities
        held to maturity                                           28,976        27,492
      Maturities of investment securities
        available for sale                                         19,523        20,980
      Sale of investment securities available for sale              3,037           156
      Funds invested in investment securities
        held to maturity                                          (17,406)      (15,801)
      Funds invested in investment securities
        available for sale                                        (21,409)       (9,289)
      Proceeds from sale of credit card loans and
        merchant processing activity                                3,051             0
      Net increase in loans made to customers                     (36,665)      (30,458)
      Net expenditures for premises and equipment                  (1,091)         (835)
      Proceeds from sale of other real estate owned                   773           206
                                                                 --------      --------
          Net cash used in investing activities                   (29,467)      (10,926)
  
  CASH FLOWS FROM FINANCING ACTIVITIES:
      Net increase in deposits                                     21,201        12,642
      Net increase in short-term borrowings                         6,603         4,054
      Net decrease in other borrowings                             (3,050)       (9,592)
      Acquisition of treasury stock                                  (703)         (974)
    Re-issuance of treasury stock                                     155             0
      Cash dividends paid                                          (2,968)       (2,524)
                                                                 --------      --------
          Net cash provided by financing activities                21,238         3,606
  
      Net decrease in cash and due from banks                      (1,558)       (2,625)
  
      Cash and due from banks at beginning of period               22,832        23,766
      Cash and due from banks at end of period                    $21,274       $21,141
  
  SUPPLEMENTAL DISCLOSURES:
      Interest paid                                                $8,416        $8,148
      Income taxes paid                                             3,850         2,183
  
  NON-CASH INVESTING AND FINANCING ACTIVITIES:
      Loans charged-off                                               466           673
  </TABLE>
  
                                         -6-
  <PAGE>
  
                            KEYSTONE HERITAGE GROUP, INC.
  
                     NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
  
  
  1.   The accompanying  consolidated  financial  statements of Keystone  Heritage
       Group,  Inc.  have  not  been  reviewed  by  independent  certified  public
       accountants.  However, in management's  opinion, the statements reflect all
       adjustments  and  disclosures  necessary  for a  fair  presentation  of the
       consolidated  balance  sheet of the  Company as of  September  30, 1997 and
       December 31, 1996, the consolidated  statements of income for the three and
       nine month periods  ended  September  30, 1997 and 1996,  the  consolidated
       statements of stockholders'  equity for the nine months ended September 30,
       1997 and 1996 and the  consolidated  statements  of cash flows for the nine
       months ended September 30, 1997 and 1996. The accounting  policies followed
       in the  presentation  of interim  financial  results  are the same as those
       followed on an annual basis or those adopted  during the first two quarters
       of 1997. The consolidated  financial statements of Keystone Heritage Group,
       Inc.  and  subsidiaries  include the accounts of the Company and its wholly
       owned subsidiaries, Lebanon Valley National Bank and Keystone Heritage Life
       Insurance Company. All significant  intercompany  balances and transactions
       have been eliminated in the consolidated financial statements. For purposes
       of comparability, certain prior year amounts have been reclassified.
  
  2.   Earnings  per common share are based upon the  weighted  average  number of
       shares  outstanding.  The weighted average number of shares outstanding was
       3,954,184 and  4,053,287  for the three month  periods ended  September 30,
       1997 and 1996,  respectively,  and  3,959,748  and  4,065,506  for the nine
       months ended September 30, 1997 and 1996, respectively.
  
  3.   On August 15, 1997, an  announcement  was made of Keystone  Heritage Group,
       Inc's. agreement to merge with Fulton Financial  Corporation.  According to
       the terms of this agreement, each share of Keystone Heritage's common stock
       outstanding  at the time of the merger will be exchanged for 1.83 shares of
       Fulton  Financial  common stock.  Under the  agreement,  Keystone  Heritage
       Group, Inc. and its banking  subsidiary  Lebanon Valley National Bank would
       be merged into Fulton Financial. Fulton Financial is the fifth largest bank
       holding company in Pennsylvania, with assets of $4.2 billion. The merger is
       subject to approval by regulatory  authorities and stockholders of Keystone
       Heritage  Group.  The merger is expected to be  finalized  during the first
       quarter of 1998.
  
                                         -7-
  <PAGE>
                        MANAGEMENT'S DISCUSSION AND ANALYSIS
                  OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
  
        Keystone  Heritage  Group,  Inc. (the "Company") is a bank holding company
  organized under the laws of Pennsylvania  and registered  under the Federal Bank
  Holding  Company Act of 1956.  The  Company's  principal  subsidiary  is Lebanon
  Valley National Bank (the "Bank").
  
  Results of Operations
        Net income for the Company for the three months ended  September  30, 1997
  was $2.256  million or $.57 per share,  compared  to $2.299  million or $.57 per
  share  for the  three  months  ended  September  30,  1996.  Return  on  average
  stockholders' equity and return on average assets for the 1997 period were 13.60
  percent and 1.40 percent,  respectively.  Return on average stockholders' equity
  and return on average  assets for the 1996  period  were 14.91  percent and 1.56
  percent, respectively.
  
        During the third quarter,  an announcement  was made of Keystone  Heritage
  Group, Inc's. agreement to merge with Fulton Financial Corporation. According to
  the terms of this  agreement,  each share of Keystone  Heritage's  common  stock
  outstanding  at the time of the  merger  will be  exchanged  for 1.83  shares of
  Fulton Financial  common stock.  Under the agreement,  Keystone  Heritage Group,
  Inc. and its banking  subsidiary  Lebanon  Valley  National Bank would be merged
  into Fulton  Financial.  Fulton  Financial  is the fifth  largest  bank  holding
  company in Pennsylvania,  with assets of $4.2 billion.  The merger is subject to
  approval by regulatory  authorities and stockholders of Keystone Heritage Group.
  The merger is expected to be finalized during the first quarter of 1998.
  
        Net income for the nine months ended September 30, 1997 was $7.700 million
  or $1.94 per share,  compared to net income of $6.300 million or $1.55 per share
  for 1996.  Return on average  stockholders'  equity and return on average assets
  for the 1997 period were 16.09 percent and 1.65 percent, respectively. Return on
  average  stockholders'  equity and return on average  assets for the 1996 period
  were 13.95 percent and 1.46 percent, respectively.
  
  
  Net Interest Income
        Net interest  income is the primary source of income for the Company.  Net
  interest  income  is  the  difference  between  interest  earned  on  loans  and
  investments  and interest paid on deposits and other funding  sources.  Deposits
  are the primary source of funds for the Company. The factors which influence net
  interest  income  include  changes in  interest  rates and  changes in asset and
  liability balances.
  
        For purposes of this  discussion,  interest  income and the average  yield
  earned on loans and  investments  are presented on a taxable  equivalent  basis.
  This provides a basis for  comparison of tax exempt loans and  investments  with
  taxable loans and  investments by giving effect to interest earned on tax exempt
  loans and  investments  by an amount  equivalent  to federal  income taxes which
  would have been paid on the assumption  that the interest earned on those assets
  was taxable at the Company's statutory tax rate of 35 percent.
  
        The tables  presented  on pages 15 and 16 are  comparative  statements  of
  average balances of interest  earning assets and interest  bearing  liabilities,
  interest  income and interest  expense,  and interest rates for the three months
  ended  September 30, 1997 and 1996, and for the nine months ended  September 30,
  1997 and 1996.
  
        Net interest income for the three months ended September 30, 1997 was $7.0
  million,  a $287 thousand or 4.3 percent  increase from the same period of 1996.
  The net interest margin for the third quarter of 1997 was 4.54 percent  compared
  to 4.77  percent for the same  period of 1996.  Average  earning  assets for the
  three month period ended September 30, 1997 were $607.2 million, a $51.4 million
  or a 9.2  percent  increase  from the same  period of 1996.  For the three month
  comparative periods, net interest income increased in 1997 primarily as a result
  of an increase in average loans  outstanding of $30.5 million or 7.3 percent and
  increases  in the  investment  and money  market  investment  balances  of $20.9
  million or 14.9  percent.  This  growth was  primarily  funded by  increases  in
  average interest  bearing deposit balances of $42.9 million,  or 9.9 percent and
  an
  
                                         -8-
  <PAGE>
  increase in average  non-interest bearing demand deposits of $5.6 million or 8.8
  percent.  The net interest margin  decreased to 4.54 percent in 1997. This was a
  result of the growth in earning  assets being funded by the growth in the higher
  costing  time  deposits  and also due to a lower yield  earned on loan  balances
  attributable to a more competitive loan market environment.
  
        Net interest income for the nine months ended September 30, 1997 was $20.7
  million,  a $1.5 million or 7.6 percent  increase  from the same period of 1996.
  The net interest  margin for the nine months ended  September  30, 1997 was 4.67
  percent  compared to 4.71 percent for the same period of 1996.  Average  earning
  assets for the nine month period ended September 30, 1997 were $592.8 million, a
  $46.8 million or a 8.6 percent increase from the same period of 1996.
  
  Provision and Allowance for Loan Losses
        There was no provision  for loan losses  charged to net income  during the
  nine month period ended September 30, 1997 or 1996.
  
        Net  charge-offs  of $48 thousand were recorded for the three months ended
  September  30, 1997  compared to net  recoveries  of $52  thousand  for the same
  period of 1996. For the nine month  comparative  period the Company recorded net
  recoveries  of $897  thousand  for 1997 and  recorded  net  charge-offs  of $319
  thousand for 1996.  During the second quarter or 1997,  the Company  recovered a
  total of $885  thousand on three  unrelated  commercial  loans.  A total of $500
  thousand  which  was  previously  charged  off  in  1992  was  recovered  on one
  commercial  loan though a  litigation  process.  In  addition  to the  recovered
  principal  balance on this loan,  the Company also  recovered  $490  thousand in
  interest income and legal expenses  associated  with this loan.  Commercial loan
  charge-offs  for the nine month  period were $339  thousand  lower than the same
  period of 1996  while  charge-offs  in loans to  individuals  increased  by $102
  thousand for the same comparative periods.
  
        The  allowance  for loan losses was $8.6  million or 1.87 percent of total
  loans  outstanding  at  September  30, 1997 and $7.7  million or 1.82 percent at
  September  30, 1996.  The  allowance  for loan losses is a reserve for estimated
  potential  loan losses in the loan  portfolio.  Losses occur  primarily from the
  loan  portfolio,  but may also be derived from  commitments to extend credit and
  standby letters of credit. Loan losses and recoveries of previously  charged-off
  loans are charged or credited  directly to the  allowance  for loan losses.  The
  allowance  for loan losses is an amount which,  in  management's  judgement,  is
  considered  adequate to absorb  potential losses inherent in the loan portfolio.
  Management  performs a  quarterly  assessment  of the Bank's loan  portfolio  to
  determine the  appropriate  level of the allowance for loan losses.  The factors
  considered  in this  evaluation  include,  but are not  necessarily  limited to,
  estimated  loan losses  identified  through the review of loans by the Company's
  personnel; general economic conditions;  deterioration in loan concentrations or
  pledged  collateral;  historic loss experience;  and trends in portfolio volume,
  composition,  delinquencies,  and non-accruals.  In addition, various regulatory
  agencies, as an integral part of their examination process,  periodically review
  the Bank's allowance for loan losses.
  
                                         -9-
  <PAGE>
  
        The  following  is a summary of the  activity  in the  allowance  for loan
  losses for the three and nine month periods ended September 30, 1997 and 1996:
  <TABLE>
  <CAPTION>
                                                   Three Months Ended         Nine Months Ended
                                                      September 30              September 30
                                                  -------------------      --------------------
  (Dollars in thousands)                            1997        1996         1997         1996
                                                  -------     -------      -------      -------
  <S>                                              <C>         <C>          <C>          <C>   
  Allowance for loan losses
   at beginning of period                          $8,681      $7,654       $7,736       $8,025
  Loans charged-off:
   Commercial                                           0           0           67          406
   Agriculture                                          0           0            0            0
   Real estate construction                             0           0            0            0
   Loans to individuals                               130          96          367          265
   Real estate - residential mortgage                  28           2           32            2
                                                  -------     -------      -------      -------
  Total loans charged-off                             158          98          466          673
  
  Recoveries of loans previously charged-off:
   Commercial                                          97         128        1,307          299
   Agriculture                                          0           0            0            0
   Real estate construction                             0           7            0           19
   Loans to individuals                                13          15           55           36
   Real estate - residential mortgage                   0           0            1            0
                                                  -------     -------      -------      -------
   Total recoveries of loans previously
                            charged-off               110         150        1,363          354
  
   Net loans charged-off (recovered)                   48         (52)        (897)         319
   Current period's provision for
   loan losses                                          0           0            0            0
                                                  -------     -------      -------      -------
  
   Allowance for loan
   losses at end of period                         $8,633      $7,706       $8,633       $7,706
                                                  =======     =======      =======      =======
  </TABLE>
  
  Other Operating Income and Expense
       Other  operating  income was $1.8  million  and $1.6  million for the three
  months ended September 30, 1997 and 1996,  respectively.  Other operating income
  was $5.6 million and $4.3 million for the nine months ended  September  30, 1997
  and 1996, respectively.  During the second quarter of 1997 the Company completed
  the sale of its $3.1  million  portfolio  of credit card  receivables,  and in a
  separate  transaction,  completed the sale of its merchant credit card processor
  portfolio. The combined effect of these transactions resulted in a $618 thousand
  pre-tax gain. The gain on the sale of the credit card portfolio along with gains
  recognized on the sale of certain  equity  investments  recorded as  investments
  available  for sale were the primary  reasons for the growth in other  operating
  income during the nine month period of 1997 compared to the same period of 1996.
  
       Other  operating  expense for the three months ended September 30, 1997 was
  $5.3 million,  a 10.5 percent  increase  from the $4.8 million  reported for the
  same  period  of 1996.  For the nine  months  ended  September  30,  1997  other
  operating  expense  was $14.7  million  compared  to $14.0  million for the same
  period of 1996.
  
       Salaries and benefits expense  increased by $98 thousand or 3.7 percent and
  by $689  thousand or 9.2 percent for the three and nine months  ended  September
  30, 1997,  respectively,  compared to the same periods of 1996.  The increase in
  salary and benefit  expense is primarily  attributable to the opening of five de
  novo  branches  since  September  30, 1996 and the effects of the  staffing  for
  Central  Mortgage  being  present  for the full year in 1997,  compared to being
  present for seven  months in 1996.  In addition  merit  increases of 3.5 percent
  were applied to base  salaries as of January 1, 1997.  The increase in occupancy
  expense for the three and nine month comparative periods is also attributable to
  the aforementioned addition of five de novo branches. Other expense increased by
  $287  thousand for the three month period ended  September  30, 1997 compared to
  the same  period  of 1996.  This was  attributable  to  certain  merger  related
  expenses incurred during the third quarter of 1997.
  
                                        -10-
  <PAGE>
  
  Non-Performing Assets
       Loans,  other than consumer loans not secured by real estate, are typically
  classified  as  non-accrual  at the  time  they  reach  90 days  past  due as to
  principal or interest.  Loans may also be placed on non-accrual  status when, in
  management's  opinion,  the collectability of principal or interest is doubtful,
  or should management  believe that circumstances  warrant such action.  Consumer
  loans not secured by residential  real estate are  charged-off  when they become
  120 days past due.
  
       Non-performing  loans at September  30, 1997  totalled $801 thousand or .17
  percent of total loans outstanding,  compared to $973 thousand or .23 percent of
  loans at  December  31,  1996  and  $727  thousand  or .17  percent  of loans at
  September  30,  1996.  Non-performing  assets at  September  30,  1997 were $881
  thousand or .19 percent of loans plus other real estate  owned  compared to $1.7
  million or .39  percent of loans plus other real estate  owned at  December  31,
  1996 and $1.5  million or .35 percent of loans plus other real  estate  owned at
  September 30, 1996. The  improvement in  non-performing  assets at September 30,
  1997 as compared to December  31, 1996 was a result of a reduction in the levels
  of  other  real  estate  owned  due to the  sale  of  other  real  estate  owned
  properties.
  
       The following is a presentation  of  non-performing  assets as of September
  30, 1997, December 31, 1996, and September 30, 1996:
  
                                          Sept. 30     Dec. 31     Sept. 30
  (Dollars in thousands)                    1997        1996        1996
                                           ------      ------      ------
  Non-performing loans                       $801        $973        $727
  Other real estate owned, net                 80         695         749
                                           ------      ------      ------
  Total non-performing assets                $881      $1,668      $1,476
                                           ======      ======      ======
  
  Loans past due 90 days or more as to
    principal or interest                     762         624         455
  
  
  Allowance for loan losses to
    non-performing loans                    10.78x       7.95x      10.60x
  Non-performing loans as a
    percent of loans outstanding              .17%        .23%        .17%
  Non-performing assets as a
    percent of loans outstanding
    plus other real estate owned              .19%        .39%        .35%
  
       Interest income of  approximately  $12 thousand and $36 thousand would have
  been  recognized  during the three and nine month  periods  ended  September 30,
  1997,  had these loans been current in accordance  with their original terms and
  been  outstanding  through the period or since  origination.  Interest income on
  these loans of $3 thousand and $5 thousand was  recognized  during the three and
  nine months ended September 30, 1997.
  
       Concentrations   of  credit  are   considered  to  exist  if  a  number  of
  counterparties  are  engaged in similar  activities  and have  similar  economic
  characteristics  that would cause their ability to meet contractual  obligations
  to  be  similarly   affected  by  changes  in  economic  or  other   conditions.
  Agriculture-related  borrowings  at September  30, 1997 totalled $121 million or
  26.3 percent of total loans outstanding.  These loans may be impacted by adverse
  climate or economic  conditions  not common to other  industries.  The Company's
  exposure to possible loss in the event of  nonperformance  by these borrowers is
  represented by the contractual amount of those instruments. The Company's policy
  is to require  supporting  collateral  for these loans which is generally in the
  form of agriculture real estate, livestock, and farm equipment. At September 30,
  1997  there  were no  significant  agriculture  related  borrowings  which  were
  classified as non-performing assets and there were no charge-offs of agriculture
  related loans during the three or nine months ended September 30, 1997.
  
                                        -11-
  <PAGE>
  Financial Position
       Total  assets at  September  30,  1997 were $646  million  compared to $616
  million at December 31, 1996. Total loans outstanding at September 30, 1997 were
  $462 million  compared to $423 million at December 31, 1996.  Total  deposits at
  September  30, 1997 were $548  million  compared to $527 million at December 31,
  1996.
  
  Capital Adequacy
       The Company's  stockholders' equity was $67.2 million at September 30, 1997
  and $62.2 million at December 31, 1996. Total stockholders'  equity increased by
  8.0 percent from  December 31, 1996 which was the net effect of the  recognition
  of $7.7 million in net income for the nine month period,  cash dividend payments
  to stockholders of $2.97 million,  a favorable change in net unrealized gains or
  losses  on  investment  securities  available  for  sale of $808  thousand,  the
  acquisition  of 26,400  shares of treasury  stock at a cost of $703 thousand and
  the  re-issuance  of 6,666 shares of treasury stock which provided $155 thousand
  of additional capital.  Net unrealized gains on investment  securities available
  for sale of $1.32  million and $508  thousand  were  included as a component  of
  stockholders' equity at September 30, 1997 and December 31, 1996, respectively.
  
       The Company  announced  its  intentions  to  repurchase  up to 5 percent or
  203,584 shares of its outstanding  common stock in June, 1996. These repurchased
  shares are available for reissuance through the Company's Dividend  Reinvestment
  or Stock  Option Plans or for other  general  corporate  purposes.  No shares of
  common stock were re-acquired by the Company during the third quarter of 1997. A
  total of 6,666  shares of  treasury  stock were  reissued  as as result of stock
  options which were exercised  during the third quarter of 1997. At September 30,
  1997, the Company's had 113,434 shares in treasury stock.
  
       The  maintenance  of an  appropriate  level of capital is a priority of the
  Company's  management.  The Company's  capital  adequacy and dividend policy are
  closely  monitored  by  management  and are  reviewed  regularly by the Board of
  Directors of the Company.  The Company  intends to provide an adequate return to
  its stockholders while retaining a sufficient capital base to provide for future
  growth and to comply with regulatory standards.
  
       Banking  regulators'  risk-based  capital  guidelines  address  the capital
  adequacy of banking  organizations.  These  guidelines  include a definition  of
  capital and a framework for calculating risk-weighted assets by assigning assets
  and off-balance sheet items to broad risk categories,  as well as minimum ratios
  to be maintained by banking  organizations.  The  risk-based  capital ratios are
  calculated by dividing qualifying capital by risk-weighted assets.
  
       Under the risk-based  capital  guidelines,  Total Capital is defined as the
  sum of core or "Tier 1" Capital and "Tier 2" Capital. As the guidelines apply to
  Keystone Heritage Group, Inc., Tier 1 Capital is total stockholders'  equity and
  Tier 2 Capital  includes a portion of the allowance  for loan losses.  The rules
  require  that  banking  organizations  must have ratios of 4.00 percent and 8.00
  percent for Tier 1 and Total  Capital,  respectively.  At September 30, 1997 the
  Company's  Tier 1 and Total Capital ratios were 12.95 percent and 14.27 percent,
  respectively.  Tier 1 and Total  Capital  ratios  were 13.12  percent  and 14.43
  percent  respectively,  at December  31,  1996.  In  addition to the  risk-based
  capital ratio, a bank is also required to maintain a "Leverage  ratio" of Tier 1
  capital to average total assets of 3 percent or higher.  The Company's  Leverage
  ratio was 10.29  percent at September 30, 1997 and was 10.28 percent at December
  31, 1996.
  
  Off-Balance Sheet Items
  
       The  Company's  loan   portfolio   consists  of  loans  to  businesses  and
  individuals  primarily  in its  five-county  market area of Lebanon,  Lancaster,
  Berks, Dauphin, and Schuylkill counties.
  
       In the ordinary course of business, the Company enters into agreements with
  customers,  such as commitments  to extend credit and standby  letters of credit
  which involve, to varying degrees,  elements of credit and interest rate risk in
  excess of the amounts presented in the balance sheet. The Company's  exposure to
  possible loss in the event of nonperformance by the other party to the financial
  instruments for commitments to extend credit and financial guarantees written is
  represented by the contractual amount of those instruments.  The Company may not
  be obligated to advance funds if the customer's financial condition deteriorates
  or if the customer fails to meet certain terms.
  
                                        -12-
  <PAGE>
       Commitments and  conditional  obligations  generally have fixed  expiration
  dates or termination clauses and may require payment of a fee. Since many of the
  commitments  are expected to expire  without  being used,  the total  commitment
  amounts do not  necessarily  represent  future  cash  requirements.  The Company
  evaluates each customer's creditworthiness on a case-by-case basis, applying the
  same  credit   standards  used  in  the  lending   process,   through   periodic
  reassessments  of the  customer's  creditworthiness  and through  ongoing credit
  reviews. The amount of collateral  obtained,  if deemed necessary by the Company
  upon  extension of credit,  is based on  management's  credit  evaluation of the
  counterparty.  Collateral  held  varies  but may  include  accounts  receivable,
  inventory,  property,  plant  and  equipment,  and  income-producing  commercial
  properties.
  
       The Company has entered into  interest  rate swap  contracts as part of its
  asset-liability  management  activities.  These contracts are used primarily for
  the purpose of managing  interest  rate risk in order to minimize  mismatches in
  the Bank's interest rate sensitivity and interest rate risk positions.
  
       Interest rate swap  contracts  generally  involve the exchange of fixed and
  floating-rate   interest  payment   obligations  without  the  exchange  of  the
  underlying  principal  amounts.  Entering  into  interest  rate  swap  contracts
  involves not only the risk of dealing with  counterparties  and their ability to
  meet the terms of the contracts but also the interest rate risk  associated with
  unmatched  positions.  Notional  principal amounts often are used to express the
  volume of these transactions.
  
       The interest  income or interest  expense  differential  from interest rate
  swap  contracts is  recognized  on the accrual  basis as a component of interest
  income or interest  expense over the life of the contract.  Gains or losses from
  early  termination  of interest  rate swap  contracts are deferred and amortized
  over the remaining term of the underlying assets or liabilities.  The Company is
  not exposed to credit risk in terms of the notional  amounts of these contracts,
  however, the receipt of payments representing the interest differential is based
  on the creditworthiness of the counterparty to each contract.
  
           The  Company's  use of these  interest  rate swap  contracts is closely
  monitored by the Company's  Board of Directors  and is closely  controlled as to
  levels of exposure.  At September  30, 1997 the Company had five  interest  rate
  agreements  outstanding  having a total  notional  amount of $50 million.  These
  agreements  consisted  of  interest  rate swap  agreements  each with a notional
  amount of $10 million.
  
           The Company  does not obtain  collateral  or other  security to support
  financial instruments subject to credit risk but monitors the credit standing of
  counterparties. The counterparties of the aforementioned interest rate contracts
  are commercial banks having a rating of A1 from Moody's Investor Service.
  
       The following is the amount of financial instruments with off-balance sheet
  risk not reflected in the consolidated  balance sheets at September 30, 1997 and
  December 31, 1996:
  
                                 Contractual Amounts
  ===============================================================================
                                                       September 30   December 31
  (Dollars in thousands)                                   1997           1996
  
  Financial instruments whose
   contractual amounts represent
   credit risk:
    Commitments to extend credit                         $96,733        $93,811
    Standby letters of credit                              8,302          7,335
  Contractual amounts of off-balance sheet financial
    instruments not constituting
    credit risk:
    Interest rate swap, notional
     value                                                50,000         70,000
  
  ===============================================================================
  
                                        -13-
  <PAGE>
  Supervision and Regulation
  
       During the latter part of 1996, Congress agreed on a legislative package to
  stabilize the Savings and Loan (S&L) industry's  deposit  insurance fund (SAIF).
  The  legislation  required the S&L industry to  recapitalize  its insurance fund
  with a one-time assessment.  Previous proposals required the bank insurance fund
  (BIF) to contribute a substantial  amount to help  recapitalize  SAIF. Under the
  current legislation,  banks are required to pay an annual rate of 1.29 cents for
  every $100 of domestic  deposits  from 1997  through 1999 and pay 2.43 cents per
  $100 of domestic deposits for the years of 2000 through 2017. The amount of FDIC
  insurance to be paid under this new legislation  will not materially  impact the
  financial  position,  equity or the  results of  operations  for the  Company in
  future periods.
  
     The Bank is a national  bank,  chartered  under the National Bank Act, and is
  subject to the primary  supervision  of, and is examined by, the  Comptroller of
  the Currency.  As a member of the Federal Reserve System, the Bank is subject to
  provisions of the Federal  Reserve Act, which restricts the ability of a bank to
  extend  credit to its parent  holding  company  or to  certain  of the  parent's
  subsidiaries,  or to invest in the Company's  common stock or to take such stock
  as  collateral  for loans to any borrower.  The  operations of the Bank are also
  subject to regulation by the FDIC.
  
  New Accounting Standards
  
       In February 1997, the Financial Accounting Standards Board issued Statement
  of Financial Accounting Standards No. 128 (SFAS 128), "Earnings Per Share". SFAS
  128,  which  supersedes  APB  Opinion  No. 15 (APB 15),  "Earnings  Per  Share",
  specifies  the  computation,   presentation,  and  disclosure  requirements  for
  earnings  per share (EPS) for  entities  with  publicly  held common  stock.  It
  replaces the  presentation  of primary EPS with a presentation  of basic EPS and
  fully  diluted EPS with diluted EPS,  Basic EPS,  unlike  primary EPS,  excludes
  dilution and is computed by dividing income available to common  stockholders by
  the weighted average number of common shares outstanding for the period. Diluted
  EPS is  computed  similarly  to fully  diluted  EPS  under  APB 15.  Had the new
  accounting  standard  been applied for current and prior periods it would of had
  no effect on reported  EPS.  The Company  will adopt SFAS 128 as of December 31,
  1997.  Management  does not expect SFAS 128 to have any effect on the EPS of the
  Company.
  
                                        -14-
  <PAGE>
            AVERAGE BALANCE SHEETS, RATES AND INTEREST INCOME AND EXPENSE
                               (Dollars in thousands)
  <TABLE>
  <CAPTION>
                                               Three Months Ended September 30, 1997 Three Months Ended September 30, 1996
                                                 Average                    Average   Average                   Average
                                                 Balance     Interest         Rate    Balance      Interest       Rate
  Assets
  <S>                                          <C>             <C>            <C>    <C>            <C>           <C>  
  Loans                                        $446,153        $9,984         8.88%  $415,632       $9,451        9.05%
  Money market investments:
    Interest bearing deposits with banks            380             5         5.22        372            6        6.40
    Federal funds sold                           13,265           187         5.59      6,314           83        5.22
                                               --------      --------         ----   --------     --------        ----
      Total money market investments             13,645           192         5.58      6,686           89        5.31
  Investment securities available for sale
   and held to maturity:
    Taxable investment securities
     available for sale                          65,034           965         5.89     55,859          777        5.52
    Taxable investment securities
     held to maturity                            63,594         1,025         6.39     65,569        1,055        6.38
    Non-taxable investment securities
     held to maturity                            18,723           324         6.86     12,035          202        6.68
                                               --------      --------         ----   --------     --------        ----
      Total investment securities               147,351         2,314         6.23    133,463        2,034        6.06
      Total earning assets                      607,149       $12,490         8.16%   555,781      $11,574        8.28%
                                               ========      ========         ====    =======      =======        ==== 
  
  Other assets                                   31,549                                29,315
                                               --------                              --------
      Total assets                             $638,698                              $585,096
                                               ========                              ========
  
  Liabilities and stockholders' equity
  Interest bearing deposits:
     Demand                                     $55,421          $181         1.30%   $54,109         $171        1.26%
     Savings                                    129,285         1,051         3.23    131,209        1,048        3.18
     Time                                       290,789         4,064         5.54    247,289        3,453        5.56
                                               --------      --------         ----   --------     --------        ----
      Total interest bearing deposits           475,495         5,296         4.42    432,607        4,672        4.30
  
  Short-term borrowings                          13,224           152         4.58     13,116          135        4.10
  Other Borrowings                                5,547            86         6.15      6,814           98        5.69
                                               --------      --------         ----   --------     --------        ----
      Total interest bearing liabilities        494,266        $5,534         4.44%   452,537       $4,905        4.31%
                                               ========      ========         ====    =======      =======        ==== 
  
  Non-interest bearing deposits                  69,550                                63,920
  Other liabilities                               9,072                                 7,282
  Stockholders' equity                           65,810                                61,357
                                               --------                              --------
      Total liabilities and
      stockholders' equity                     $638,698                              $585,096
                                               ========                              ========
  
  Net interest income                                          $6,956                               $6,669
  Total yield on earning assets                                               8.16%                               8.28%
  Rate on supporting liabilities                                              3.62%                               3.51%
  Net interest margin                                                         4.54%                               4.77%
                                                                              ====                                ==== 
  </TABLE>
  Interest and average interest rates are presented on a fully taxable  equivalent
  basis,  using an effective  tax rate of 35%. For  purposes of  calculating  loan
  yields,  average loan balances include non-accrual loans. Loan fees are included
  in interest income.
  
                                        -15-
  <PAGE>
            AVERAGE BALANCE SHEETS, RATES AND INTEREST INCOME AND EXPENSE
                               (Dollars in thousands)
  <TABLE>
  <CAPTION>
                                              Nine Months Ended September 30, 1997   Nine Months Ended September 30, 1996
                                               Average                      Average   Average                    Average
                                               Balance       Interest         Rate    Balance    Interest         Rate
  Assets
  <S>                                          <C>            <C>             <C>    <C>           <C>            <C>  
  Loans                                        $436,150       $29,384         9.01%  $403,776      $27,340        9.04%
  Money market investments:
     Interest bearing deposits with banks           293            13         5.93        282           13        6.16
     Federal funds sold                           8,735           361         5.52      3,600          143        5.31
                                                -------       -------         ----    -------      -------        ---- 
       Total money market investments             9,028           374         5.54      3,882          156        5.38
  Investment securities available for sale
   and held to maturity:
     Taxable investment securities
      available for sale                         64,588         2,846         5.89     57,193        2,314        5.41
     Taxable investment securities
      held to maturity                           66,142         3,207         6.48     69,247        3,274        6.32
     Non-taxable investment securities
      held to maturity                           16,920           876         6.92     11,942          588        6.58
                                                -------       -------         ----    -------      -------        ---- 
       Total investment securities              147,650         6,929         6.27    138,382        6,176        5.96
       Total earning assets                     592,828       $36,687         8.27%   546,040      $33,672        8.24%
                                                =======       =======         ====    =======      =======        ==== 
  
  Other assets                                   30,511                                28,529
                                                -------                               ------- 
       Total assets                            $623,339                              $574,569
                                                =======                               =======
  
  Liabilities and stockholders' equity
  Interest bearing deposits:
     Demand                                     $54,643          $526         1.29%   $54,724         $534        1.30%
     Savings                                    128,582         3,065         3.19    129,923        3,047        3.13
     Time                                       282,366        11,695         5.54    238,854       10,045        5.62
                                                -------       -------         ----    -------      -------        ---- 
        Total interest bearing deposits         465,591        15,286         4.39    423,501       13,626        4.30
  
  Short-term borrowings                          12,406           401         4.32     11,832          369        4.17
  Long-term debt                                  6,017           278         6.18      9,620          420        5.82
                                                -------       -------         ----    -------      -------        ---- 
     Total interest bearing liabilities         484,014       $15,965         4.41%   444,953      $14,415        4.33%
                                                =======       =======         ====    =======      =======        ==== 
  
  Non-interest bearing deposits                  66,817                                61,856
  Other liabilities                               8,516                                 7,418
  Stockholders' equity                           63,992                                60,342
                                                -------                               ------- 
     Total liabilities and
     stockholders' equity                      $623,339                              $574,569
                                                =======                               =======
  
  Net interest income                                         $20,722                              $19,257
  Total yield on earning assets                                               8.27%                               8.24%
  Rate on supporting liabilities                                              3.60%                               3.53%
                                                                              ----                                ----
  Net interest margin                                                         4.67%                               4.71%
                                                                              =====                               ====
  </TABLE>
  Interest and average interest rates are presented on a fully taxable  equivalent
  basis,  using an effective  tax rate of 35%. For  purposes of  calculating  loan
  yields,  average loan balances include non-accrual loans. Loan fees are included
  in interest income.
  
                                        -16-
  <PAGE>
  
  PART II.  OTHER INFORMATION
  
  ITEM 1.  LEGAL PROCEEDINGS
  
  None.
  
  ITEM 2.  CHANGES IN SECURITIES
  
  None.
  
  ITEM 3.  DEFAULTS UPON SENIOR SECURITIES
  
  None.
  
  ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
  
  None.
  ITEM 5.  OTHER INFORMATION
  
  None
  
  ITEM 6.  EXHIBITS AND REPORTS ON FORM 8-K
  
  (a.)  None.
  
  (b.) The Company filed a report on Form 8-K on September 10, 1997. This Form 8-K
  was filed in reference to the  announcement  made on August 15, 1997 of Keystone
  Heritage Group,  Inc's.  agreement to merge with Fulton  Financial  Corporation.
  This agreement is described in Note 3 on page 7 of this 10-Q report.
  
  
                                        -17-
  <PAGE>
                            KEYSTONE HERITAGE GROUP, INC.
  
                                     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.
  
  
  
                                           Keystone Heritage Group, Inc.
                                           (Registrant)
  
  
  Date  November 10, 1997             By
                                         Kurt A. Phillips
                                         Chief Financial and Accounting Officer
  
                                        -18-
metadata_documents: [{"type": "10-Q", "sequence": "1", "secsgml_size_bytes": 64298}]
metadata_filer: {"company-data": {"conformed-name": "KEYSTONE HERITAGE GROUP INC", "cik": "0000715366", "assigned-sic": "6021", "irs-number": "232219740", "state-of-incorporation": "PA", "fiscal-year-end": "1231"}, "filing-values": {"form-type": "10-Q", "act": "34", "file-number": "001-13744", "film-number": "97714271"}, "business-address": {"street1": "55 WILLOW ST", "street2": "P O BOX 1285", "city": "LEBANON", "state": "PA", "zip": "17042-1285", "phone": "7172746800"}, "mail-address": {"street1": "55 WILLOW ST", "street2": "555 WILLOW ST P O BOX 1285", "city": "LEBANON", "state": "PA", "zip": "17042-1285"}}
text: UNITED STATES
  
                         SECURITIES AND EXCHANGE COMMISSION
  
                               Washington, D.C. 20549
  
                                      Form 10-Q
  
       Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
       Act of 1934
  
  For the period ended    September 30, 1997
  
  Commission File Number:  0-13775
  
                            KEYSTONE HERITAGE GROUP, INC.
                                    (Registrant)
  
       PENNSYLVANIA                                               23-2219740
  (State of incorporation)                                     (I.R.S. Employer
                                                               Identification No.)
  
                555 WILLOW STREET, LEBANON, PENNSYLVANIA     17046
               (Address of principal executive offices)    (Zip Code)
  
                                    717-274-6800
                (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 X No
  
           Indicate  the  number of  shares  outstanding  of each of the  issuer's
  classes of common stock, as of the latest practicable date.
  
            Class                               Outstanding at November 10, 1997
  
  Common Stock ($5.00 par value)                         3,966,249 shares
  KEYSTONE HERITAGE GROUP, INC.
  
                                        Index
  
  PART I - FINANCIAL INFORMATION                                         Page
  
  Item 1 - Financial Statements
  
           Consolidated Balance Sheets as of
           September 30, 1997 and December 31, 1996 (Unaudited)             3
  
           Consolidated Statements of Income for the
           Three and Nine Months ended September 30, 1997 and
           1996 (Unaudited)                                                 4
  
           Consolidated Statements of Stockholders' Equity
           for the Nine Months ended September 30, 1997 and
           1996 (Unaudited)                                                 5
  
           Consolidated Statements of Cash Flows for the
           Nine Months ended September 30, 1997 and
           1996 (Unaudited)                                                 6
  
           Notes to Consolidated Financial Statements                       7
  
  Item 2 - Management's Discussion and Analysis of
            Financial Condition and Results of Operations                   8
  
  PART II - OTHER INFORMATION
  
  Signature Page                                                           18
  
                                         -2-
  KEYSTONE HERITAGE GROUP, INC.
                             CONSOLIDATED BALANCE SHEETS
  
                               (Dollars In Thousands)
  September 30    December 31
                                                                1997           1996
                                                             ---------      ---------
  ASSETS
  Cash and due from banks                                $21,274        $22,832
        Interest bearing deposits with banks                       437            181
        Term federal funds sold                                  8,000              0
        Investment securities available for sale                63,576         62,596
        Investment securities held to maturity
             (fair value of $80,624 and $92,079
             for 1997 and 1996, respectively)                   80,177         91,652
        Loans held for sale                                      1,418          6,019
        Loans, net of unearned income of
           $1,568 for 1997 and $1,812 for 1996                 461,925        422,534
        Allowance for loan losses                               (8,633)        (7,736)
                                                             ---------      ---------
  
             Loans, net                                        453,292        414,798
  
        Premises and equipment, net                              8,272          8,132
        Accrued interest receivable                              4,161          3,677
        Other real estate owned                                     80            695
        Deferred tax asset, net                                  2,481          2,604
        Other assets                                             3,168          3,121
                                                             ---------      ---------
  
             Total assets                                     $646,336       $616,307
                                                             =========      =========
  
  LIABILITIES
        Non-interest bearing deposits                          $74,339        $72,683
        Interest bearing deposits                              473,695        454,150
                                                             ---------      ---------
  
             Total deposits                                    548,034        526,833
  
        Short-term borrowings                                   19,081         12,478
        Other borrowings                                         3,388          6,438
        Accrued interest payable                                 5,416          5,184
        Other liabilities                                        3,186          3,135
                                                             ---------      ---------
  
             Total liabilities                                 579,105        554,068
  
  STOCKHOLDERS' EQUITY
  
        Common stock - $5 par value; 10,000,000
             shares authorized; 4,071,683 outstanding
             at September 30, 1997 and December 31, 1996        20,358         20,358
        Capital surplus                                         22,078         22,078
        Retained earnings                                       26,148         21,418
        Treasury stock - 113,434 shares at September 30,
             1997 and 93,700 at December 31, 1996               (2,669)        (2,123)
        Net unrealized gain on investment securities
             available for sale, net of taxes                    1,316            508
                                                             ---------      ---------
  
             Total stockholders' equity                         67,231         62,239
  
             Total liabilities and stockholders'
               equity                                         $646,336       $616,307
                                                             =========      =========
  See accompanying notes to financial statements.
  
                                         -3-
  KEYSTONE HERITAGE GROUP, INC.
                          CONSOLIDATED STATEMENTS OF INCOME
  
                    (Dollars in thousands, except per share data)
  Three Months Ended      Nine Months Ended
                                                                September 30            September 30
                                                              1997        1996        1997       1996
                                                            -------     -------     -------     -------
  INTEREST INCOME
  Interest and fees on loans                   $9,902      $9,366     $29,136     $27,096
                Interest and dividends on investment
                  securities available for sale:
                    Taxable investment securities               899         722       2,650       2,155
                    Equity investments                           66          55         196         159
                Interest and dividends on investment
                  securities held to maturity:
                    Taxable investment securities             1,025       1,055       3,207       3,274
                    Non-taxable investment securities           210         131         569         382
                                                            -------     -------     -------     -------
                      Total interest and dividends on
                       investment securities                  2,200       1,963       6,622       5,970
                Interest on money market investments            192          89         374         156
                                                            -------     -------     -------     -------
                    Total interest income                    12,294      11,418      36,132      33,222
  
  INTEREST EXPENSE
                Interest on deposits                          5,296       4,672      15,286      13,626
                Interest on short-term borrowings               152         135         401         369
                Interest on other borrowings                     86          98         278         420
                                                            -------     -------     -------     -------
                    Total interest expense                    5,534       4,905      15,965      14,415
  
                    Net interest income                       6,760       6,513      20,167      18,807
  
                Provision for loan losses                         0           0           0           0
                                                            -------     -------     -------     -------
                    Net interest income after provision
                     for loan losses                          6,760       6,513      20,167      18,807
  
  OTHER OPERATING INCOME
                Trust income                                    356         352       1,004         961
                Service charges on deposits                     377         341       1,078         978
                Net realized gain on investment
                    securities available for sale               310          35         512          58
                Net gain on sale of mortgage loans              239         321         664         644
                Net gain on sale of credit card loans
                    and merchant processing activity              0           0         618           0
                Other income                                    513         559       1,767       1,624
                                                            -------     -------     -------     -------
                    Total other operating income              1,795       1,608       5,643       4,265
  
  OTHER OPERATING EXPENSE
                Salaries and employee benefits                2,770       2,672       8,211       7,522
                Occupancy expense, net                          412         340       1,147         967
                Equipment expense                               481         448       1,419       1,500
                Deposit insurance expense                        16           1          48           2
                Other expense                                 1,647       1,360       3,892       3,986
                                                            -------     -------     -------     -------
                    Total other operating expense             5,326       4,821      14,717      13,977
  
                    Income before income taxes                3,229       3,300      11,093       9,095
                Income taxes                                    973       1,001       3,393       2,795
                                                            -------     -------     -------     -------
  
                    Net income                               $2,256      $2,299      $7,700      $6,300
                                                            =======     =======     =======     =======
  
  PER COMMON SHARE
                    Net income                                 $.57        $.57       $1.94       $1.55
                                                            =======     =======     =======     =======
  
                    Cash dividends paid                        $.25        $.22        $.75        $.62
  -4-
  KEYSTONE HERITAGE GROUP, INC.
                   CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
                           Nine Months Ended September 30
  
                               (Dollars in thousands)
  Net Unrealized
                                                                                                          Gain (Loss) On
                                                  Common        Capital       Retained        Treasury  Securities Available
                                                   Stock        Surplus       Earnings          Stock        for Sale         Total
  Balance, December 31, 1995                      $20,358       $22,078        $16,107        $   -0-       $    336         $58,879
  Net Income                                     -0-           -0-          6,300            -0-            -0-           6,300
       Cash dividends ($.62 per share)                -0-           -0-         (2,524)           -0-            -0-          (2,524)
       Acquisition of 43,300 shares of
       treasury stock at cost                         -0-           -0-            -0-           (974)           -0-            (974)
       Change in unrealized gain (loss)
        on investment securities
        available for sale, net of taxes              -0-           -0-            -0-            -0-           (124)           (124)
                                                  -------       -------        -------       --------     ----------        --------
  Balance, September 30, 1996                     $20,358       $22,078        $19,883        $  (974)      $    212         $61,557
                                                  =======       =======        =======       ========     ==========        ========
  
  Balance, December 31, 1996                      $20,358       $22,078        $21,418        ($2,123)      $    508         $62,239
       Net income                                     -0-           -0-          7,700            -0-            -0-           7,700
       Cash dividends ($.75 per share)                -0-           -0-         (2,968)           -0-            -0-          (2,968)
       Re-issuance of 6,666 shares of
       treasury stock                                 -0-           -0-             (2)           157            -0-             155
       Acquisition of 26,400 shares of
        treasury stock at cost                        -0-           -0-            -0-           (703)           -0-            (703)
       Change in unrealized gain
        (loss) on investment securities
        available for sale, net of taxes              -0-           -0-            -0-            -0-            808             808
                                                  -------       -------        -------       --------      ---------         -------
  Balance, September 30, 1997                     $20,358       $22,078        $26,148        ($2,669)      $  1,316         $67,231
                                                  =======       =======        =======       ========      =========         =======
  -5-
  KEYSTONE HERITAGE GROUP, INC.
                        CONSOLIDATED STATEMENTS OF CASH FLOWS
                               (Dollars in thousands)
  Nine Months Ended
                                                                       September 30
                                                                     1997         1996
  CASH FLOW FROM OPERATING ACTIVITIES:
  Net income                                                   $7,700        $6,300
      Adjustments to reconcile net income to cash:
          Depreciation and amortization                               951         1,108
          (Increase) decrease in deferred income taxes               (325)          220
          (Increase) decrease in accrued interest receivable         (484)          106
          Increase (decrease) in accrued interest payable             232          (976)
          Net gain on sale or credit card loans
           and merchant card processing                              (618)            0
          Net gain on sale of other real estate owned                (112)            0
          Net gain on sale of loans                                  (664)         (644)
          Originations of residential mortgage loans sold         (25,175)      (28,135)
          Proceeds from sale of residential mortgage loans         26,263        27,175
          Net realized gain on investment securities
           available for sale                                        (512)          (58)
          Other, net                                                 (585)         (401)
                                                                 --------      --------
              Net cash provided by operating activities             6,671         4,695
  
  CASH FLOWS FROM INVESTING ACTIVITIES:
      Net increase in money market investments                     (8,256)       (3,377)
      Maturities of investment securities
        held to maturity                                           28,976        27,492
      Maturities of investment securities
        available for sale                                         19,523        20,980
      Sale of investment securities available for sale              3,037           156
      Funds invested in investment securities
        held to maturity                                          (17,406)      (15,801)
      Funds invested in investment securities
        available for sale                                        (21,409)       (9,289)
      Proceeds from sale of credit card loans and
        merchant processing activity                                3,051             0
      Net increase in loans made to customers                     (36,665)      (30,458)
      Net expenditures for premises and equipment                  (1,091)         (835)
      Proceeds from sale of other real estate owned                   773           206
                                                                 --------      --------
          Net cash used in investing activities                   (29,467)      (10,926)
  
  CASH FLOWS FROM FINANCING ACTIVITIES:
      Net increase in deposits                                     21,201        12,642
      Net increase in short-term borrowings                         6,603         4,054
      Net decrease in other borrowings                             (3,050)       (9,592)
      Acquisition of treasury stock                                  (703)         (974)
    Re-issuance of treasury stock                                     155             0
      Cash dividends paid                                          (2,968)       (2,524)
                                                                 --------      --------
          Net cash provided by financing activities                21,238         3,606
  
      Net decrease in cash and due from banks                      (1,558)       (2,625)
  
      Cash and due from banks at beginning of period               22,832        23,766
      Cash and due from banks at end of period                    $21,274       $21,141
  
  SUPPLEMENTAL DISCLOSURES:
      Interest paid                                                $8,416        $8,148
      Income taxes paid                                             3,850         2,183
  
  NON-CASH INVESTING AND FINANCING ACTIVITIES:
      Loans charged-off                                               466           673
  -6-
  KEYSTONE HERITAGE GROUP, INC.
  
                     NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
  
  1.   The accompanying  consolidated  financial  statements of Keystone  Heritage
       Group,  Inc.  have  not  been  reviewed  by  independent  certified  public
       accountants.  However, in management's  opinion, the statements reflect all
       adjustments  and  disclosures  necessary  for a  fair  presentation  of the
       consolidated  balance  sheet of the  Company as of  September  30, 1997 and
       December 31, 1996, the consolidated  statements of income for the three and
       nine month periods  ended  September  30, 1997 and 1996,  the  consolidated
       statements of stockholders'  equity for the nine months ended September 30,
       1997 and 1996 and the  consolidated  statements  of cash flows for the nine
       months ended September 30, 1997 and 1996. The accounting  policies followed
       in the  presentation  of interim  financial  results  are the same as those
       followed on an annual basis or those adopted  during the first two quarters
       of 1997. The consolidated  financial statements of Keystone Heritage Group,
       Inc.  and  subsidiaries  include the accounts of the Company and its wholly
       owned subsidiaries, Lebanon Valley National Bank and Keystone Heritage Life
       Insurance Company. All significant  intercompany  balances and transactions
       have been eliminated in the consolidated financial statements. For purposes
       of comparability, certain prior year amounts have been reclassified.
  
  2.   Earnings  per common share are based upon the  weighted  average  number of
       shares  outstanding.  The weighted average number of shares outstanding was
       3,954,184 and  4,053,287  for the three month  periods ended  September 30,
       1997 and 1996,  respectively,  and  3,959,748  and  4,065,506  for the nine
       months ended September 30, 1997 and 1996, respectively.
  
  3.   On August 15, 1997, an  announcement  was made of Keystone  Heritage Group,
       Inc's. agreement to merge with Fulton Financial  Corporation.  According to
       the terms of this agreement, each share of Keystone Heritage's common stock
       outstanding  at the time of the merger will be exchanged for 1.83 shares of
       Fulton  Financial  common stock.  Under the  agreement,  Keystone  Heritage
       Group, Inc. and its banking  subsidiary  Lebanon Valley National Bank would
       be merged into Fulton Financial. Fulton Financial is the fifth largest bank
       holding company in Pennsylvania, with assets of $4.2 billion. The merger is
       subject to approval by regulatory  authorities and stockholders of Keystone
       Heritage  Group.  The merger is expected to be  finalized  during the first
       quarter of 1998.
  
                                         -7-
  MANAGEMENT'S DISCUSSION AND ANALYSIS
                  OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
  
        Keystone  Heritage  Group,  Inc. (the "Company") is a bank holding company
  organized under the laws of Pennsylvania  and registered  under the Federal Bank
  Holding  Company Act of 1956.  The  Company's  principal  subsidiary  is Lebanon
  Valley National Bank (the "Bank").
  
  Results of Operations
        Net income for the Company for the three months ended  September  30, 1997
  was $2.256  million or $.57 per share,  compared  to $2.299  million or $.57 per
  share  for the  three  months  ended  September  30,  1996.  Return  on  average
  stockholders' equity and return on average assets for the 1997 period were 13.60
  percent and 1.40 percent,  respectively.  Return on average stockholders' equity
  and return on average  assets for the 1996  period  were 14.91  percent and 1.56
  percent, respectively.
  
        During the third quarter,  an announcement  was made of Keystone  Heritage
  Group, Inc's. agreement to merge with Fulton Financial Corporation. According to
  the terms of this  agreement,  each share of Keystone  Heritage's  common  stock
  outstanding  at the time of the  merger  will be  exchanged  for 1.83  shares of
  Fulton Financial  common stock.  Under the agreement,  Keystone  Heritage Group,
  Inc. and its banking  subsidiary  Lebanon  Valley  National Bank would be merged
  into Fulton  Financial.  Fulton  Financial  is the fifth  largest  bank  holding
  company in Pennsylvania,  with assets of $4.2 billion.  The merger is subject to
  approval by regulatory  authorities and stockholders of Keystone Heritage Group.
  The merger is expected to be finalized during the first quarter of 1998.
  
        Net income for the nine months ended September 30, 1997 was $7.700 million
  or $1.94 per share,  compared to net income of $6.300 million or $1.55 per share
  for 1996.  Return on average  stockholders'  equity and return on average assets
  for the 1997 period were 16.09 percent and 1.65 percent, respectively. Return on
  average  stockholders'  equity and return on average  assets for the 1996 period
  were 13.95 percent and 1.46 percent, respectively.
  
  Net Interest Income
        Net interest  income is the primary source of income for the Company.  Net
  interest  income  is  the  difference  between  interest  earned  on  loans  and
  investments  and interest paid on deposits and other funding  sources.  Deposits
  are the primary source of funds for the Company. The factors which influence net
  interest  income  include  changes in  interest  rates and  changes in asset and
  liability balances.
  
        For purposes of this  discussion,  interest  income and the average  yield
  earned on loans and  investments  are presented on a taxable  equivalent  basis.
  This provides a basis for  comparison of tax exempt loans and  investments  with
  taxable loans and  investments by giving effect to interest earned on tax exempt
  loans and  investments  by an amount  equivalent  to federal  income taxes which
  would have been paid on the assumption  that the interest earned on those assets
  was taxable at the Company's statutory tax rate of 35 percent.
  
        The tables  presented  on pages 15 and 16 are  comparative  statements  of
  average balances of interest  earning assets and interest  bearing  liabilities,
  interest  income and interest  expense,  and interest rates for the three months
  ended  September 30, 1997 and 1996, and for the nine months ended  September 30,
  1997 and 1996.
  
        Net interest income for the three months ended September 30, 1997 was $7.0
  million,  a $287 thousand or 4.3 percent  increase from the same period of 1996.
  The net interest margin for the third quarter of 1997 was 4.54 percent  compared
  to 4.77  percent for the same  period of 1996.  Average  earning  assets for the
  three month period ended September 30, 1997 were $607.2 million, a $51.4 million
  or a 9.2  percent  increase  from the same  period of 1996.  For the three month
  comparative periods, net interest income increased in 1997 primarily as a result
  of an increase in average loans  outstanding of $30.5 million or 7.3 percent and
  increases  in the  investment  and money  market  investment  balances  of $20.9
  million or 14.9  percent.  This  growth was  primarily  funded by  increases  in
  average interest  bearing deposit balances of $42.9 million,  or 9.9 percent and
  an
  
                                         -8-
  increase in average  non-interest bearing demand deposits of $5.6 million or 8.8
  percent.  The net interest margin  decreased to 4.54 percent in 1997. This was a
  result of the growth in earning  assets being funded by the growth in the higher
  costing  time  deposits  and also due to a lower yield  earned on loan  balances
  attributable to a more competitive loan market environment.
  
        Net interest income for the nine months ended September 30, 1997 was $20.7
  million,  a $1.5 million or 7.6 percent  increase  from the same period of 1996.
  The net interest  margin for the nine months ended  September  30, 1997 was 4.67
  percent  compared to 4.71 percent for the same period of 1996.  Average  earning
  assets for the nine month period ended September 30, 1997 were $592.8 million, a
  $46.8 million or a 8.6 percent increase from the same period of 1996.
  
  Provision and Allowance for Loan Losses
        There was no provision  for loan losses  charged to net income  during the
  nine month period ended September 30, 1997 or 1996.
  
        Net  charge-offs  of $48 thousand were recorded for the three months ended
  September  30, 1997  compared to net  recoveries  of $52  thousand  for the same
  period of 1996. For the nine month  comparative  period the Company recorded net
  recoveries  of $897  thousand  for 1997 and  recorded  net  charge-offs  of $319
  thousand for 1996.  During the second quarter or 1997,  the Company  recovered a
  total of $885  thousand on three  unrelated  commercial  loans.  A total of $500
  thousand  which  was  previously  charged  off  in  1992  was  recovered  on one
  commercial  loan though a  litigation  process.  In  addition  to the  recovered
  principal  balance on this loan,  the Company also  recovered  $490  thousand in
  interest income and legal expenses  associated  with this loan.  Commercial loan
  charge-offs  for the nine month  period were $339  thousand  lower than the same
  period of 1996  while  charge-offs  in loans to  individuals  increased  by $102
  thousand for the same comparative periods.
  
        The  allowance  for loan losses was $8.6  million or 1.87 percent of total
  loans  outstanding  at  September  30, 1997 and $7.7  million or 1.82 percent at
  September  30, 1996.  The  allowance  for loan losses is a reserve for estimated
  potential  loan losses in the loan  portfolio.  Losses occur  primarily from the
  loan  portfolio,  but may also be derived from  commitments to extend credit and
  standby letters of credit. Loan losses and recoveries of previously  charged-off
  loans are charged or credited  directly to the  allowance  for loan losses.  The
  allowance  for loan losses is an amount which,  in  management's  judgement,  is
  considered  adequate to absorb  potential losses inherent in the loan portfolio.
  Management  performs a  quarterly  assessment  of the Bank's loan  portfolio  to
  determine the  appropriate  level of the allowance for loan losses.  The factors
  considered  in this  evaluation  include,  but are not  necessarily  limited to,
  estimated  loan losses  identified  through the review of loans by the Company's
  personnel; general economic conditions;  deterioration in loan concentrations or
  pledged  collateral;  historic loss experience;  and trends in portfolio volume,
  composition,  delinquencies,  and non-accruals.  In addition, various regulatory
  agencies, as an integral part of their examination process,  periodically review
  the Bank's allowance for loan losses.
  
                                         -9-
  The  following  is a summary of the  activity  in the  allowance  for loan
  losses for the three and nine month periods ended September 30, 1997 and 1996:
  Three Months Ended         Nine Months Ended
                                                      September 30              September 30
                                                  -------------------      --------------------
  (Dollars in thousands)                            1997        1996         1997         1996
                                                  -------     -------      -------      -------
  Allowance for loan losses
   at beginning of period                          $8,681      $7,654       $7,736       $8,025
  Loans charged-off:
   Commercial                                           0           0           67          406
   Agriculture                                          0           0            0            0
   Real estate construction                             0           0            0            0
   Loans to individuals                               130          96          367          265
   Real estate - residential mortgage                  28           2           32            2
                                                  -------     -------      -------      -------
  Total loans charged-off                             158          98          466          673
  
  Recoveries of loans previously charged-off:
   Commercial                                          97         128        1,307          299
   Agriculture                                          0           0            0            0
   Real estate construction                             0           7            0           19
   Loans to individuals                                13          15           55           36
   Real estate - residential mortgage                   0           0            1            0
                                                  -------     -------      -------      -------
   Total recoveries of loans previously
                            charged-off               110         150        1,363          354
  
   Net loans charged-off (recovered)                   48         (52)        (897)         319
   Current period's provision for
   loan losses                                          0           0            0            0
                                                  -------     -------      -------      -------
  
   Allowance for loan
   losses at end of period                         $8,633      $7,706       $8,633       $7,706
                                                  =======     =======      =======      =======
  Other Operating Income and Expense
       Other  operating  income was $1.8  million  and $1.6  million for the three
  months ended September 30, 1997 and 1996,  respectively.  Other operating income
  was $5.6 million and $4.3 million for the nine months ended  September  30, 1997
  and 1996, respectively.  During the second quarter of 1997 the Company completed
  the sale of its $3.1  million  portfolio  of credit card  receivables,  and in a
  separate  transaction,  completed the sale of its merchant credit card processor
  portfolio. The combined effect of these transactions resulted in a $618 thousand
  pre-tax gain. The gain on the sale of the credit card portfolio along with gains
  recognized on the sale of certain  equity  investments  recorded as  investments
  available  for sale were the primary  reasons for the growth in other  operating
  income during the nine month period of 1997 compared to the same period of 1996.
  
       Other  operating  expense for the three months ended September 30, 1997 was
  $5.3 million,  a 10.5 percent  increase  from the $4.8 million  reported for the
  same  period  of 1996.  For the nine  months  ended  September  30,  1997  other
  operating  expense  was $14.7  million  compared  to $14.0  million for the same
  period of 1996.
  
       Salaries and benefits expense  increased by $98 thousand or 3.7 percent and
  by $689  thousand or 9.2 percent for the three and nine months  ended  September
  30, 1997,  respectively,  compared to the same periods of 1996.  The increase in
  salary and benefit  expense is primarily  attributable to the opening of five de
  novo  branches  since  September  30, 1996 and the effects of the  staffing  for
  Central  Mortgage  being  present  for the full year in 1997,  compared to being
  present for seven  months in 1996.  In addition  merit  increases of 3.5 percent
  were applied to base  salaries as of January 1, 1997.  The increase in occupancy
  expense for the three and nine month comparative periods is also attributable to
  the aforementioned addition of five de novo branches. Other expense increased by
  $287  thousand for the three month period ended  September  30, 1997 compared to
  the same  period  of 1996.  This was  attributable  to  certain  merger  related
  expenses incurred during the third quarter of 1997.
  
                                        -10-
  Non-Performing Assets
       Loans,  other than consumer loans not secured by real estate, are typically
  classified  as  non-accrual  at the  time  they  reach  90 days  past  due as to
  principal or interest.  Loans may also be placed on non-accrual  status when, in
  management's  opinion,  the collectability of principal or interest is doubtful,
  or should management  believe that circumstances  warrant such action.  Consumer
  loans not secured by residential  real estate are  charged-off  when they become
  120 days past due.
  
       Non-performing  loans at September  30, 1997  totalled $801 thousand or .17
  percent of total loans outstanding,  compared to $973 thousand or .23 percent of
  loans at  December  31,  1996  and  $727  thousand  or .17  percent  of loans at
  September  30,  1996.  Non-performing  assets at  September  30,  1997 were $881
  thousand or .19 percent of loans plus other real estate  owned  compared to $1.7
  million or .39  percent of loans plus other real estate  owned at  December  31,
  1996 and $1.5  million or .35 percent of loans plus other real  estate  owned at
  September 30, 1996. The  improvement in  non-performing  assets at September 30,
  1997 as compared to December  31, 1996 was a result of a reduction in the levels
  of  other  real  estate  owned  due to the  sale  of  other  real  estate  owned
  properties.
  
       The following is a presentation  of  non-performing  assets as of September
  30, 1997, December 31, 1996, and September 30, 1996:
  
                                          Sept. 30     Dec. 31     Sept. 30
  (Dollars in thousands)                    1997        1996        1996
                                           ------      ------      ------
  Non-performing loans                       $801        $973        $727
  Other real estate owned, net                 80         695         749
                                           ------      ------      ------
  Total non-performing assets                $881      $1,668      $1,476
                                           ======      ======      ======
  
  Loans past due 90 days or more as to
    principal or interest                     762         624         455
  
  Allowance for loan losses to
    non-performing loans                    10.78x       7.95x      10.60x
  Non-performing loans as a
    percent of loans outstanding              .17%        .23%        .17%
  Non-performing assets as a
    percent of loans outstanding
    plus other real estate owned              .19%        .39%        .35%
  
       Interest income of  approximately  $12 thousand and $36 thousand would have
  been  recognized  during the three and nine month  periods  ended  September 30,
  1997,  had these loans been current in accordance  with their original terms and
  been  outstanding  through the period or since  origination.  Interest income on
  these loans of $3 thousand and $5 thousand was  recognized  during the three and
  nine months ended September 30, 1997.
  
       Concentrations   of  credit  are   considered  to  exist  if  a  number  of
  counterparties  are  engaged in similar  activities  and have  similar  economic
  characteristics  that would cause their ability to meet contractual  obligations
  to  be  similarly   affected  by  changes  in  economic  or  other   conditions.
  Agriculture-related  borrowings  at September  30, 1997 totalled $121 million or
  26.3 percent of total loans outstanding.  These loans may be impacted by adverse
  climate or economic  conditions  not common to other  industries.  The Company's
  exposure to possible loss in the event of  nonperformance  by these borrowers is
  represented by the contractual amount of those instruments. The Company's policy
  is to require  supporting  collateral  for these loans which is generally in the
  form of agriculture real estate, livestock, and farm equipment. At September 30,
  1997  there  were no  significant  agriculture  related  borrowings  which  were
  classified as non-performing assets and there were no charge-offs of agriculture
  related loans during the three or nine months ended September 30, 1997.
  
                                        -11-
  Financial Position
       Total  assets at  September  30,  1997 were $646  million  compared to $616
  million at December 31, 1996. Total loans outstanding at September 30, 1997 were
  $462 million  compared to $423 million at December 31, 1996.  Total  deposits at
  September  30, 1997 were $548  million  compared to $527 million at December 31,
  1996.
  
  Capital Adequacy
       The Company's  stockholders' equity was $67.2 million at September 30, 1997
  and $62.2 million at December 31, 1996. Total stockholders'  equity increased by
  8.0 percent from  December 31, 1996 which was the net effect of the  recognition
  of $7.7 million in net income for the nine month period,  cash dividend payments
  to stockholders of $2.97 million,  a favorable change in net unrealized gains or
  losses  on  investment  securities  available  for  sale of $808  thousand,  the
  acquisition  of 26,400  shares of treasury  stock at a cost of $703 thousand and
  the  re-issuance  of 6,666 shares of treasury stock which provided $155 thousand
  of additional capital.  Net unrealized gains on investment  securities available
  for sale of $1.32  million and $508  thousand  were  included as a component  of
  stockholders' equity at September 30, 1997 and December 31, 1996, respectively.
  
       The Company  announced  its  intentions  to  repurchase  up to 5 percent or
  203,584 shares of its outstanding  common stock in June, 1996. These repurchased
  shares are available for reissuance through the Company's Dividend  Reinvestment
  or Stock  Option Plans or for other  general  corporate  purposes.  No shares of
  common stock were re-acquired by the Company during the third quarter of 1997. A
  total of 6,666  shares of  treasury  stock were  reissued  as as result of stock
  options which were exercised  during the third quarter of 1997. At September 30,
  1997, the Company's had 113,434 shares in treasury stock.
  
       The  maintenance  of an  appropriate  level of capital is a priority of the
  Company's  management.  The Company's  capital  adequacy and dividend policy are
  closely  monitored  by  management  and are  reviewed  regularly by the Board of
  Directors of the Company.  The Company  intends to provide an adequate return to
  its stockholders while retaining a sufficient capital base to provide for future
  growth and to comply with regulatory standards.
  
       Banking  regulators'  risk-based  capital  guidelines  address  the capital
  adequacy of banking  organizations.  These  guidelines  include a definition  of
  capital and a framework for calculating risk-weighted assets by assigning assets
  and off-balance sheet items to broad risk categories,  as well as minimum ratios
  to be maintained by banking  organizations.  The  risk-based  capital ratios are
  calculated by dividing qualifying capital by risk-weighted assets.
  
       Under the risk-based  capital  guidelines,  Total Capital is defined as the
  sum of core or "Tier 1" Capital and "Tier 2" Capital. As the guidelines apply to
  Keystone Heritage Group, Inc., Tier 1 Capital is total stockholders'  equity and
  Tier 2 Capital  includes a portion of the allowance  for loan losses.  The rules
  require  that  banking  organizations  must have ratios of 4.00 percent and 8.00
  percent for Tier 1 and Total  Capital,  respectively.  At September 30, 1997 the
  Company's  Tier 1 and Total Capital ratios were 12.95 percent and 14.27 percent,
  respectively.  Tier 1 and Total  Capital  ratios  were 13.12  percent  and 14.43
  percent  respectively,  at December  31,  1996.  In  addition to the  risk-based
  capital ratio, a bank is also required to maintain a "Leverage  ratio" of Tier 1
  capital to average total assets of 3 percent or higher.  The Company's  Leverage
  ratio was 10.29  percent at September 30, 1997 and was 10.28 percent at December
  31, 1996.
  
  Off-Balance Sheet Items
  
       The  Company's  loan   portfolio   consists  of  loans  to  businesses  and
  individuals  primarily  in its  five-county  market area of Lebanon,  Lancaster,
  Berks, Dauphin, and Schuylkill counties.
  
       In the ordinary course of business, the Company enters into agreements with
  customers,  such as commitments  to extend credit and standby  letters of credit
  which involve, to varying degrees,  elements of credit and interest rate risk in
  excess of the amounts presented in the balance sheet. The Company's  exposure to
  possible loss in the event of nonperformance by the other party to the financial
  instruments for commitments to extend credit and financial guarantees written is
  represented by the contractual amount of those instruments.  The Company may not
  be obligated to advance funds if the customer's financial condition deteriorates
  or if the customer fails to meet certain terms.
  
                                        -12-
  Commitments and  conditional  obligations  generally have fixed  expiration
  dates or termination clauses and may require payment of a fee. Since many of the
  commitments  are expected to expire  without  being used,  the total  commitment
  amounts do not  necessarily  represent  future  cash  requirements.  The Company
  evaluates each customer's creditworthiness on a case-by-case basis, applying the
  same  credit   standards  used  in  the  lending   process,   through   periodic
  reassessments  of the  customer's  creditworthiness  and through  ongoing credit
  reviews. The amount of collateral  obtained,  if deemed necessary by the Company
  upon  extension of credit,  is based on  management's  credit  evaluation of the
  counterparty.  Collateral  held  varies  but may  include  accounts  receivable,
  inventory,  property,  plant  and  equipment,  and  income-producing  commercial
  properties.
  
       The Company has entered into  interest  rate swap  contracts as part of its
  asset-liability  management  activities.  These contracts are used primarily for
  the purpose of managing  interest  rate risk in order to minimize  mismatches in
  the Bank's interest rate sensitivity and interest rate risk positions.
  
       Interest rate swap  contracts  generally  involve the exchange of fixed and
  floating-rate   interest  payment   obligations  without  the  exchange  of  the
  underlying  principal  amounts.  Entering  into  interest  rate  swap  contracts
  involves not only the risk of dealing with  counterparties  and their ability to
  meet the terms of the contracts but also the interest rate risk  associated with
  unmatched  positions.  Notional  principal amounts often are used to express the
  volume of these transactions.
  
       The interest  income or interest  expense  differential  from interest rate
  swap  contracts is  recognized  on the accrual  basis as a component of interest
  income or interest  expense over the life of the contract.  Gains or losses from
  early  termination  of interest  rate swap  contracts are deferred and amortized
  over the remaining term of the underlying assets or liabilities.  The Company is
  not exposed to credit risk in terms of the notional  amounts of these contracts,
  however, the receipt of payments representing the interest differential is based
  on the creditworthiness of the counterparty to each contract.
  
           The  Company's  use of these  interest  rate swap  contracts is closely
  monitored by the Company's  Board of Directors  and is closely  controlled as to
  levels of exposure.  At September  30, 1997 the Company had five  interest  rate
  agreements  outstanding  having a total  notional  amount of $50 million.  These
  agreements  consisted  of  interest  rate swap  agreements  each with a notional
  amount of $10 million.
  
           The Company  does not obtain  collateral  or other  security to support
  financial instruments subject to credit risk but monitors the credit standing of
  counterparties. The counterparties of the aforementioned interest rate contracts
  are commercial banks having a rating of A1 from Moody's Investor Service.
  
       The following is the amount of financial instruments with off-balance sheet
  risk not reflected in the consolidated  balance sheets at September 30, 1997 and
  December 31, 1996:
  
                                 Contractual Amounts
  ===============================================================================
                                                       September 30   December 31
  (Dollars in thousands)                                   1997           1996
  
  Financial instruments whose
   contractual amounts represent
   credit risk:
    Commitments to extend credit                         $96,733        $93,811
    Standby letters of credit                              8,302          7,335
  Contractual amounts of off-balance sheet financial
    instruments not constituting
    credit risk:
    Interest rate swap, notional
     value                                                50,000         70,000
  
  ===============================================================================
  
                                        -13-
  Supervision and Regulation
  
       During the latter part of 1996, Congress agreed on a legislative package to
  stabilize the Savings and Loan (S&L) industry's  deposit  insurance fund (SAIF).
  The  legislation  required the S&L industry to  recapitalize  its insurance fund
  with a one-time assessment.  Previous proposals required the bank insurance fund
  (BIF) to contribute a substantial  amount to help  recapitalize  SAIF. Under the
  current legislation,  banks are required to pay an annual rate of 1.29 cents for
  every $100 of domestic  deposits  from 1997  through 1999 and pay 2.43 cents per
  $100 of domestic deposits for the years of 2000 through 2017. The amount of FDIC
  insurance to be paid under this new legislation  will not materially  impact the
  financial  position,  equity or the  results of  operations  for the  Company in
  future periods.
  
     The Bank is a national  bank,  chartered  under the National Bank Act, and is
  subject to the primary  supervision  of, and is examined by, the  Comptroller of
  the Currency.  As a member of the Federal Reserve System, the Bank is subject to
  provisions of the Federal  Reserve Act, which restricts the ability of a bank to
  extend  credit to its parent  holding  company  or to  certain  of the  parent's
  subsidiaries,  or to invest in the Company's  common stock or to take such stock
  as  collateral  for loans to any borrower.  The  operations of the Bank are also
  subject to regulation by the FDIC.
  
  New Accounting Standards
  
       In February 1997, the Financial Accounting Standards Board issued Statement
  of Financial Accounting Standards No. 128 (SFAS 128), "Earnings Per Share". SFAS
  128,  which  supersedes  APB  Opinion  No. 15 (APB 15),  "Earnings  Per  Share",
  specifies  the  computation,   presentation,  and  disclosure  requirements  for
  earnings  per share (EPS) for  entities  with  publicly  held common  stock.  It
  replaces the  presentation  of primary EPS with a presentation  of basic EPS and
  fully  diluted EPS with diluted EPS,  Basic EPS,  unlike  primary EPS,  excludes
  dilution and is computed by dividing income available to common  stockholders by
  the weighted average number of common shares outstanding for the period. Diluted
  EPS is  computed  similarly  to fully  diluted  EPS  under  APB 15.  Had the new
  accounting  standard  been applied for current and prior periods it would of had
  no effect on reported  EPS.  The Company  will adopt SFAS 128 as of December 31,
  1997.  Management  does not expect SFAS 128 to have any effect on the EPS of the
  Company.
  
                                        -14-
  AVERAGE BALANCE SHEETS, RATES AND INTEREST INCOME AND EXPENSE
                               (Dollars in thousands)
  Three Months Ended September 30, 1997 Three Months Ended September 30, 1996
                                                 Average                    Average   Average                   Average
                                                 Balance     Interest         Rate    Balance      Interest       Rate
  Assets
  Loans                                        $446,153        $9,984         8.88%  $415,632       $9,451        9.05%
  Money market investments:
    Interest bearing deposits with banks            380             5         5.22        372            6        6.40
    Federal funds sold                           13,265           187         5.59      6,314           83        5.22
                                               --------      --------         ----   --------     --------        ----
      Total money market investments             13,645           192         5.58      6,686           89        5.31
  Investment securities available for sale
   and held to maturity:
    Taxable investment securities
     available for sale                          65,034           965         5.89     55,859          777        5.52
    Taxable investment securities
     held to maturity                            63,594         1,025         6.39     65,569        1,055        6.38
    Non-taxable investment securities
     held to maturity                            18,723           324         6.86     12,035          202        6.68
                                               --------      --------         ----   --------     --------        ----
      Total investment securities               147,351         2,314         6.23    133,463        2,034        6.06
      Total earning assets                      607,149       $12,490         8.16%   555,781      $11,574        8.28%
                                               ========      ========         ====    =======      =======        ==== 
  
  Other assets                                   31,549                                29,315
                                               --------                              --------
      Total assets                             $638,698                              $585,096
                                               ========                              ========
  
  Liabilities and stockholders' equity
  Interest bearing deposits:
     Demand                                     $55,421          $181         1.30%   $54,109         $171        1.26%
     Savings                                    129,285         1,051         3.23    131,209        1,048        3.18
     Time                                       290,789         4,064         5.54    247,289        3,453        5.56
                                               --------      --------         ----   --------     --------        ----
      Total interest bearing deposits           475,495         5,296         4.42    432,607        4,672        4.30
  
  Short-term borrowings                          13,224           152         4.58     13,116          135        4.10
  Other Borrowings                                5,547            86         6.15      6,814           98        5.69
                                               --------      --------         ----   --------     --------        ----
      Total interest bearing liabilities        494,266        $5,534         4.44%   452,537       $4,905        4.31%
                                               ========      ========         ====    =======      =======        ==== 
  
  Non-interest bearing deposits                  69,550                                63,920
  Other liabilities                               9,072                                 7,282
  Stockholders' equity                           65,810                                61,357
                                               --------                              --------
      Total liabilities and
      stockholders' equity                     $638,698                              $585,096
                                               ========                              ========
  
  Net interest income                                          $6,956                               $6,669
  Total yield on earning assets                                               8.16%                               8.28%
  Rate on supporting liabilities                                              3.62%                               3.51%
  Net interest margin                                                         4.54%                               4.77%
                                                                              ====                                ====
  Interest and average interest rates are presented on a fully taxable  equivalent
  basis,  using an effective  tax rate of 35%. For  purposes of  calculating  loan
  yields,  average loan balances include non-accrual loans. Loan fees are included
  in interest income.
  
                                        -15-
  AVERAGE BALANCE SHEETS, RATES AND INTEREST INCOME AND EXPENSE
                               (Dollars in thousands)
  Nine Months Ended September 30, 1997   Nine Months Ended September 30, 1996
                                               Average                      Average   Average                    Average
                                               Balance       Interest         Rate    Balance    Interest         Rate
  Assets
  Loans                                        $436,150       $29,384         9.01%  $403,776      $27,340        9.04%
  Money market investments:
     Interest bearing deposits with banks           293            13         5.93        282           13        6.16
     Federal funds sold                           8,735           361         5.52      3,600          143        5.31
                                                -------       -------         ----    -------      -------        ---- 
       Total money market investments             9,028           374         5.54      3,882          156        5.38
  Investment securities available for sale
   and held to maturity:
     Taxable investment securities
      available for sale                         64,588         2,846         5.89     57,193        2,314        5.41
     Taxable investment securities
      held to maturity                           66,142         3,207         6.48     69,247        3,274        6.32
     Non-taxable investment securities
      held to maturity                           16,920           876         6.92     11,942          588        6.58
                                                -------       -------         ----    -------      -------        ---- 
       Total investment securities              147,650         6,929         6.27    138,382        6,176        5.96
       Total earning assets                     592,828       $36,687         8.27%   546,040      $33,672        8.24%
                                                =======       =======         ====    =======      =======        ==== 
  
  Other assets                                   30,511                                28,529
                                                -------                               ------- 
       Total assets                            $623,339                              $574,569
                                                =======                               =======
  
  Liabilities and stockholders' equity
  Interest bearing deposits:
     Demand                                     $54,643          $526         1.29%   $54,724         $534        1.30%
     Savings                                    128,582         3,065         3.19    129,923        3,047        3.13
     Time                                       282,366        11,695         5.54    238,854       10,045        5.62
                                                -------       -------         ----    -------      -------        ---- 
        Total interest bearing deposits         465,591        15,286         4.39    423,501       13,626        4.30
  
  Short-term borrowings                          12,406           401         4.32     11,832          369        4.17
  Long-term debt                                  6,017           278         6.18      9,620          420        5.82
                                                -------       -------         ----    -------      -------        ---- 
     Total interest bearing liabilities         484,014       $15,965         4.41%   444,953      $14,415        4.33%
                                                =======       =======         ====    =======      =======        ==== 
  
  Non-interest bearing deposits                  66,817                                61,856
  Other liabilities                               8,516                                 7,418
  Stockholders' equity                           63,992                                60,342
                                                -------                               ------- 
     Total liabilities and
     stockholders' equity                      $623,339                              $574,569
                                                =======                               =======
  
  Net interest income                                         $20,722                              $19,257
  Total yield on earning assets                                               8.27%                               8.24%
  Rate on supporting liabilities                                              3.60%                               3.53%
                                                                              ----                                ----
  Net interest margin                                                         4.67%                               4.71%
                                                                              =====                               ====
  Interest and average interest rates are presented on a fully taxable  equivalent
  basis,  using an effective  tax rate of 35%. For  purposes of  calculating  loan
  yields,  average loan balances include non-accrual loans. Loan fees are included
  in interest income.
  
                                        -16-
  PART II.  OTHER INFORMATION
  
  ITEM 1.  LEGAL PROCEEDINGS
  
  None.
  
  ITEM 2.  CHANGES IN SECURITIES
  
  None.
  
  ITEM 3.  DEFAULTS UPON SENIOR SECURITIES
  
  None.
  
  ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
  
  None.
  ITEM 5.  OTHER INFORMATION
  
  None
  
  ITEM 6.  EXHIBITS AND REPORTS ON FORM 8-K
  
  (a.)  None.
  
  (b.) The Company filed a report on Form 8-K on September 10, 1997. This Form 8-K
  was filed in reference to the  announcement  made on August 15, 1997 of Keystone
  Heritage Group,  Inc's.  agreement to merge with Fulton  Financial  Corporation.
  This agreement is described in Note 3 on page 7 of this 10-Q report.
  
                                        -17-
  KEYSTONE HERITAGE GROUP, INC.
  
                                     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.
  
                                           Keystone Heritage Group, Inc.
                                           (Registrant)
  
  Date  November 10, 1997             By
                                         Kurt A. Phillips
                                         Chief Financial and Accounting Officer
  
                                        -18-