U.S. SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                ________________

                                    FORM 10-Q

(Mark One)

[X]  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
     ACT OF 1934

     For the quarterly period ended March 31, 2002


[ ]  TRANSITION  REPORT  PURSUANT  TO  SECTION  13 OR  15(d)  OF THE  SECURITIES
     EXCHANGE ACT OF 1934

     For the transition period from ______ to ______

                         Commission file number: 0-25859

                             1ST STATE BANCORP, INC.
             ------------------------------------------------------
             (Exact Name of Registrant as Specified in Its Charter)


          VIRGINIA                                           56-2130744
--------------------------------------------------------------------------------
(State or Other Jurisdiction of                           (I.R.S. Employer
 Incorporation or Organization)                           Identification No.)

445 S. MAIN STREET, BURLINGTON, NORTH CAROLINA                        27215
--------------------------------------------------------------------------------
(Address of Principal Executive Offices)                           (Zip Code)


Registrant' s Telephone Number, Including Area Code (336) 227-8861
                                                    --------------

                                       N/A
--------------------------------------------------------------------------------
Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report

     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
             -----       -----

     As of April 30,  2002,  the issuer  had  3,289,607  shares of common  stock
issued and outstanding.

                                       1
<PAGE>
                                    CONTENTS

                                                                            PAGE
                                                                            ----

PART I.  FINANCIAL INFORMATION
         ---------------------

Item 1.  Financial Statements

         Consolidated Balance Sheets as of March 31, 2002 (unaudited)
            and September 30, 2001.............................................3

         Consolidated Statements of Income for the Three Months
            Ended March 31, 2002 and 2001 (unaudited)..........................4

         Consolidated Statements of Income for the Six Months Ended
            March 31, 2002 and 2001 (unaudited)................................5

         Consolidated Statements of Stockholders' Equity and Comprehensive
            Income for the Six Months Ended March 31, 2002 and 2001
            (unaudited)........................................................6

         Consolidated Statements of Cash Flows for the Six Months Ended
            March 31, 2002 and 2001 (unaudited)................................7

         Notes to Consolidated Financial Statements............................9

Item 2.  Management's Discussion and Analysis of Financial Condition
            and Results of Operations.........................................12

Item 3.  Quantitative and Qualitative Disclosures About Market Risk...........21


PART II.  OTHER INFORMATION
          -----------------

Item 1.  Legal Proceedings....................................................22

Item 2.  Changes in Securities and Use of Proceeds............................22

Item 3.  Defaults Upon Senior Securities......................................22

Item 4.  Submission of Matters to a Vote of Security Holders..................22

Item 5.  Other Information....................................................22

Item 6.  Exhibits and Reports on Form 8-K.....................................22


SIGNATURES....................................................................23


                                       2
<PAGE>
                     1ST STATE BANCORP, INC. AND SUBSIDIARY

                           CONSOLIDATED BALANCE SHEETS

                      MARCH 31, 2002 AND SEPTEMBER 30, 2001

                                 (IN THOUSANDS)
<TABLE>
<CAPTION>
                                                                      AT              AT
                                                                    MARCH  31,    SEPTEMBER 30,
                                                                       2002           2001
                                                                    ----------    ------------
                                                                    (Unaudited)
<S>                                                                 <C>             <C>
                        ASSETS

Cash and cash equivalents                                           $  12,260       25,981
  Investment securities:
     Held to maturity (fair value of $11,725 and $12,495
         at March 31, 2002 and September 30, 2001, respectively)       11,618       12,169
     Available for sale (cost of $90,848 and $54,689
         at March 31, 2002 and September 30, 2001, respectively)       89,640       55,527
Loans held for sale, at lower of cost or fair value                     2,444        3,291
Loans receivable (net of allowance for loan losses of $3,640
    and $3,612 at March 31, 2002 and September 30, 2001,
    respectively)                                                     210,999      222,285
Real estate owned                                                       2,252        1,981
Federal Home Loan Bank stock, at cost                                   1,650        1,650
Premises and equipment                                                  8,202        8,414
Accrued interest receivable                                             2,791        2,542
Other assets                                                            3,421        2,952
                                                                    ---------     --------
             Total assets                                           $ 345,277      336,792
                                                                    =========     ========

                LIABILITIES AND STOCKHOLDERS' EQUITY

Liabilities:
  Deposit accounts                                                    247,099      248,370
  Advances from Federal Home Loan Bank                                 30,000       20,000
  Advance payments by borrowers for property taxes and insurance          480           82
  Dividend payable                                                        263          263
  Other liabilities                                                     3,004        4,433
                                                                    ---------     --------
          Total liabilities                                           280,846      273,148
                                                                    ---------     --------

Stockholders' Equity:
   Preferred stock, $0.01 par value, 1,000,000 shares authorized;
         none issued                                                       --           --
   Common stock, $0.01 par value, 7,000,000 shares authorized;
         3,289,607 shares issued and outstanding                           33           33
   Additional paid-in capital                                          35,601       35,588
   Unallocated ESOP shares                                             (4,035)      (4,373)
   Unearned compensation - management recognition plan                   (130)        (518)
   Deferred compensation                                                4,443        4,173
   Treasury stock for deferred compensation                            (4,443)      (4,173)
   Retained income - substantially restricted                          33,697       32,404
   Accumulated other comprehensive income (loss) - net unrealized
        gain (loss) on investment securities available for sale          (735)         510
                                                                    ---------     --------
        Total stockholders' equity                                     64,431       63,644
                                                                    ---------     --------
        Total liabilities and stockholders' equity                  $ 345,277      336,792
                                                                    =========     ========
</TABLE>
See accompanying notes to the consolidated financial statements.

                                       3
<PAGE>
                     1ST STATE BANCORP, INC. AND SUBSIDIARY

                        CONSOLIDATED STATEMENTS OF INCOME

               FOR THE THREE MONTHS ENDED MARCH 31, 2002 AND 2001

                      (IN THOUSANDS, EXCEPT PER SHARE DATA)

                                   (UNAUDITED)
<TABLE>
<CAPTION>
                                                            FOR THE THREE MONTHS ENDED
                                                                     MARCH 31,
                                                            --------------------------
                                                                 2002           2001
                                                               -------        --------
<S>                                                            <C>              <C>
Interest income:
   Interest and fees on loans                                  $ 3,510          4,927
   Interest and dividends on investments                         1,357          1,119
   Overnight deposits                                               52            195
                                                               -------         ------
         Total interest income                                   4,919          6,241
                                                               -------         ------

Interest expense:
    Deposit accounts                                             1,678          3,013
    Borrowings                                                     286            277
                                                               -------         ------
         Total interest expense                                  1,964          3,290
                                                               -------         ------

         Net interest income                                     2,955          2,951

Provision for loan losses                                           60             60
                                                               -------         ------
         Net interest income after provision for loan losses     2,895          2,891
                                                               -------         ------

Other income:
   Service fees on loans sold                                       24             22
   Customer service fees                                           217            162
   Commissions from sales of annuities and mutual funds             98            108
   Mortgage banking income, net                                    350            193
   Securities gains, net                                            47             --
   Other                                                            56             41
                                                               -------         ------
Total other income                                                 792            526
                                                               -------         ------

Operating expenses:
   Compensation and related benefits                             1,584          1,431
   Occupancy and equipment                                         311            331
   Deposit insurance premiums                                       11             13
   Real estate operations, net                                     (50)             6
   Other expenses                                                  393            425
                                                               -------         ------
         Total operating expenses                                2,249          2,206
                                                               -------         ------

         Income before income taxes                              1,438          1,211

Income taxes                                                       513            436
                                                               -------         ------

         Net income                                            $   925            775
                                                               =======         ======
         Earnings per share:

         Basic                                                 $  0.31        $  0.26
         Diluted                                               $  0.29        $  0.24
</TABLE>

See accompanying notes to the consolidated financial statements.

                                       4
<PAGE>

                     1ST STATE BANCORP, INC. AND SUBSIDIARY

                        CONSOLIDATED STATEMENTS OF INCOME

                FOR THE SIX MONTHS ENDED MARCH 31, 2002 AND 2001

                      (IN THOUSANDS, EXCEPT PER SHARE DATA)

                                   (UNAUDITED)
<TABLE>
<CAPTION>
                                                               FOR THE SIX MONTHS ENDED
                                                                      MARCH 31,
                                                               ------------------------
                                                                  2002            2001
                                                               --------        --------
<S>                                                            <C>               <C>
Interest income:
   Interest and fees on loans                                  $  7,399          10,017
   Interest and dividends on investments                          2,579           2,336
   Overnight deposits                                               142             398
                                                               --------        --------
         Total interest income                                   10,120          12,751
                                                               --------        --------
Interest expense:
    Deposit accounts                                              3,773           5,990
    Borrowings                                                      562             580
                                                               --------        --------
         Total interest expense                                   4,335           6,570
                                                               --------        --------
         Net interest income                                      5,785           6,181

Provision for loan losses                                           120             120
                                                               --------        --------
         Net interest income after provision for loan losses      5,665           6,061
                                                               --------        --------
Other income:
   Service fees on loans sold                                        46              42
   Customer service fees                                            466             318
   Commissions from sales of annuities and mutual funds             220             219
   Mortgage banking income, net                                     766             321
   Securities gains, net                                             47              --
   Other                                                            106              83
                                                               --------        --------
         Total other income                                       1,651             983
                                                               --------        --------
Operating expenses:
   Compensation and related benefits                              3,148           2,974
   Occupancy and equipment                                          614             608
   Deposit insurance premiums                                        23              25
   Real estate operations, net                                      (32)              6
   Other expenses                                                   753             836
                                                               --------        --------
         Total operating expenses                                 4,506           4,449
                                                               --------        --------

         Income before income taxes                               2,810           2,595

Income taxes                                                      1,040             919
                                                               --------        --------
         Net income                                            $  1,770           1,676
                                                               ========        ========

         Earnings per share:

         Basic                                                 $   0.59        $   0.56
         Diluted                                               $   0.56        $   0.53
</TABLE>

See accompanying notes to the consolidated financial statements

                                       5
<PAGE>

                             1ST STATE BANCORP, INC.
    CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME
          FOR THE SIX MONTHS ENDED MARCH 31, 2002 AND 2001 (UNAUDITED)
                                 (IN THOUSANDS)
<TABLE>
<CAPTION>

                                                              ADDITIONAL    UNEARNED       UNEARNED
                                                   COMMON      PAID-IN        ESOP       COMPENSATION      DEFERRED
                                                    STOCK      CAPITAL       SHARES           MRP        COMPENSATION
                                                   ------     ----------    --------     ------------    ------------
<S>                                              <C>            <C>           <C>            <C>              <C>
Balance at September 30, 2000                    $      33       35,587        (4,950)        (1,296)          2,679

Comprehensive income:
     Net income                                         --           --            --             --              --
     Other comprehensive income-unrealized
       gain on securities available-for-sale net
       of income taxes of $110                          --           --            --             --              --

     Total comprehensive income
Allocation of ESOP shares                               --          (12)          272             --              --
Deferred compensation                                   --           --            --             --           1,136
Treasury stock held for deferred
     compensation                                       --           --            --             --              --
Vesting of MRP shares                                   --           --            --            389              --
Cash dividends declared                                 --           --            --             --              --
Cash dividends on unallocated ESOP shares
     and unvested MRP shares                            --           --            --             --              --
                                                 ---------     --------        ------          -----         -------
Balance at March 31, 2001                        $      33       35,575        (4,678)          (907)          3,815
                                                 =========     ========        ======          =====         =======

Balance at September 30, 2001                    $      33       35,588        (4,373)          (518)          4,173

Comprehensive income:
     Net income                                         --           --            --             --              --
     Other comprehensive loss-unrealized
       loss on securities available-for-sale net
       of income taxes of $801                          --           --            --             --              --

     Total comprehensive income
Allocation of ESOP shares                               --           13           338             --              --
Deferred compensation                                   --           --            --             --             270
Treasury stock held for deferred compensation           --           --            --             --              --
Vesting of MRP shares                                   --           --            --            388              --
Cash dividends declared                                 --           --            --             --              --
Cash dividends on unallocated ESOP shares
     and unvested MRP shares                            --           --            --             --              --
                                                 ---------     --------        ------          -----         -------
Balance at March 31, 2002                        $     33        35,601        (4,035)          (130)          4,443
                                                 =========     ========        ======          =====         =======
<CAPTION>
                                                 TREASURY                        ACCUMULATED
                                                 STOCK FOR                           OTHER           TOTAL
                                                 DEFERRED        RETAINED       COMPREHENSIVE   STOCKHOLDERS'
                                                COMPENSATION      INCOME        INCOME (LOSS)      EQUITY
                                                ------------     --------       -------------   -------------
<S>                                               <C>              <C>                <C>          <C>
Balance at September 30, 2000                      (2,679)          29,999             (164)        59,209

Comprehensive income:
     Net income                                        --            1,676               --          1,676
     Other comprehensive income-unrealized
       gain on securities available-for-sale
       net of income taxes of $110                     --               --              176            176
                                                                                                   -------

     Total comprehensive income                                                                      1,852
Allocation of ESOP shares                              --               --               --            260
Deferred compensation                                  --               --               --          1,136
Treasury stock held for deferred
     compensation                                  (1,136)              --               --         (1,136)
Vesting of MRP shares                                  --               --               --            389
Cash dividends declared                                --             (526)              --           (526)
Cash dividends on unallocated ESOP shares
     and unvested MRP shares                           --               46               --             46
                                                  -------          -------           ------        -------
Balance at March 31, 2001                          (3,815)          31,195               12         61,230
                                                  =======          =======           ======        =======

Balance at September 30, 2001                      (4,173)          32,404              510         63,644

Comprehensive income:
     Net income                                        --            1,770               --          1,770
     Other comprehensive loss-unrealized
       loss on securities available-for-sale net
       of income taxes of $801                         --               --           (1,245)        (1,245)
                                                                                                   -------

     Total comprehensive income                                                                        525
Allocation of ESOP shares                              --               --               --            351
Deferred compensation                                  --               --               --            270
Treasury stock held for deferred compensation        (270)              --               --           (270)
Vesting of MRP shares                                  --               --               --            388
Cash dividends declared                                --             (526)              --           (526)
Cash dividends on unallocated ESOP shares
     and unvested MRP shares                           --               49               --             49
                                                  -------          -------           ------        -------
Balance at March 31, 2002                          (4,443)          33,697             (735)        64,431
                                                  =======          =======           ======        =======
</TABLE>

See accompanying notes to the consolidated financial statements.

                                       6
<PAGE>

                     1ST STATE BANCORP, INC. AND SUBSIDIARY

                      CONSOLIDATED STATEMENTS OF CASH FLOWS

                FOR THE SIX MONTHS ENDED MARCH 31, 2002 AND 2001

                                   (UNAUDITED)

                                 (IN THOUSANDS)
<TABLE>
<CAPTION>
                                                                                  FOR THE SIX MONTHS ENDED
                                                                                           MARCH 31,
                                                                              --------------------------------
                                                                                 2002                 2001
                                                                               ---------            --------
<S>                                                                           <C>                   <C>
Cash flows from operating activities:
   Net income                                                                  $   1,770               1,676

   Adjustment to reconcile net income to net cash provided by
       operating activities:
           Provision for loan losses                                                 120                 120
           Depreciation                                                              313                 305
           Deferred tax expense (benefit)                                            305                (325)
           Amortization of premiums and discounts, net                               (21)                (12)
           Deferred compensation                                                     164                 135
           Release of ESOP shares                                                    351                 260
           Vesting of MRP shares and dividends on unvested MRP shares                520                 527
           Loan origination fees and unearned discounts
               deferred, net of current amortization                                 (75)                (11)
           Gain on sale of other real estate                                          (5)                 --
           Securities gains, net                                                     (47)                 --
           Net loss on sale of loans                                                 230                  50
           Proceeds from loans held for sale                                      41,951              17,646
           Originations of loans held for sale                                   (41,334)            (18,707)
           Decrease in other assets                                                   27                  25
           Decrease (increase) in accrued interest receivable                       (249)                212
           Decrease in other liabilities                                          (1,995)               (282)
                                                                               ---------            --------
                   Net cash provided by operating activities                       2,025               1,619
                                                                               ---------            --------

Cash flows provided by (used in) investing activities:
           Purchases of investment securities held to maturity                    (2,454)                 --
           Purchase of investment securities available for sale                  (62,108)             (6,999)
           Proceeds from sales of investment securities available for sale         1,811                  --
           Proceeds from maturities of investment securities available for sale   24,208               3,108
           Proceeds from maturities of investment securities
               held to maturity                                                    3,003              17,532
           Net decrease (increase) in loans receivable                            10,894              (5,812)
           Proceeds from disposal of real estate acquired in
               settlement of loans                                                    81                  --

           Purchases of premises and equipment                                      (101)               (544)
                                                                               ---------            --------
                   Net cash provided by (used in) investing activities           (24,666)              7,285
                                                                               ---------            --------

                                                                                                  (Continued)
</TABLE>
                                       7
<PAGE>
                     1ST STATE BANCORP, INC. AND SUBSIDIARY

                CONSOLIDATED STATEMENTS OF CASH FLOWS - CONTINUED

                FOR THE SIX MONTHS ENDED MARCH 31, 2002 AND 2001

                                   (UNAUDITED)

                                 (IN THOUSANDS)
<TABLE>
<CAPTION>
                                                                                  FOR THE SIX MONTHS ENDED
                                                                                           MARCH 31,
                                                                              --------------------------------
                                                                                 2002                 2001
                                                                               ---------            --------
<S>                                                                           <C>                   <C>
Cash flows from financing activities:
   Net increase (decrease) in deposits                                         $  (1,271)          $   8,306
   Advances from the Federal Home Loan Bank                                       21,000               5,000
   Repayments of advances from Federal Home Loan Bank                            (11,000)             (5,000)
   Return of capital dividend payment                                                 --             (17,007)
   Purchase of treasury stock for deferred compensation                              270               1,136
   Dividends paid on common stock                                                   (477)               (480)
   Increase in advance payments by borrowers for
     property taxes and insurance                                                    398                 390
                                                                               ---------           ---------
Net cash provided by (used in) financing activities                                8,920              (7,655)
                                                                               ---------           ---------

        Net increase (decrease) in cash and cash equivalents                     (13,721)              1,249

Cash and cash equivalents at beginning of period                                  25,981              33,107
                                                                               ---------           ---------
Cash and cash equivalents at end of period                                     $  12,260           $  34,356
                                                                               =========           =========
Payments are shown below for the following:
       Interest                                                                $   4,348           $   6,598
                                                                               =========           =========
       Income taxes                                                            $     269           $     937
                                                                               =========           =========
Noncash investing and financing activities:
     Deferred compensation to be settled in Company's stock                    $     270           $   1,136
                                                                               =========           =========
     Unrealized gains (losses) on investment securities
          available for sale                                                   $  (2,046)          $     286
                                                                               =========           =========
     Cash dividends declared but not paid                                      $     241           $     241
                                                                               =========           =========
     Cash dividends on unallocated ESOP shares                                 $      49           $      46
                                                                               =========           =========
     Transfer from loans held for sale to loans receivable                     $      --           $     686
                                                                               =========           =========
     Transfer from loans to real estate acquired in settlement of loans        $     347           $   2,106
                                                                               =========           =========
</TABLE>
See accompanying notes to consolidated financial statements.

                                       8
<PAGE>

                     1ST STATE BANCORP, INC. AND SUBSIDIARY

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                MARCH 31, 2002 (UNAUDITED) AND SEPTEMBER 30, 2001

NOTE 1.  NATURE OF BUSINESS

     1st State Bancorp,  Inc. (the "Company") was incorporated under the laws of
the Commonwealth of Virginia for the purpose of becoming the holding company for
1st State Bank (the  "Bank") in  connection  with the Bank's  conversion  from a
North Carolina-chartered mutual savings bank to a North Carolina-chartered stock
savings bank (the  "Converted  Bank")  pursuant to its Plan of  Conversion  (the
"Stock Conversion"). Upon completion of the Stock Conversion, the Converted Bank
converted from a North Carolina-chartered stock savings bank to a North Carolina
commercial bank (the "Bank Conversion"),  retaining the name 1st State Bank (the
"Commercial  Bank"),  and the Commercial Bank succeeded to all of the assets and
liabilities of the Converted Bank. The Stock  Conversion and the Bank Conversion
were  consummated  on April 23,  1999.  The common  stock of the  Company  began
trading on the Nasdaq  National  Market  System under the symbol "FSBC" on April
26, 1999.

NOTE 2.  BASIS OF PRESENTATION

     The accompanying  consolidated  financial  statements (which are unaudited,
except for the  consolidated  balance  sheet at  September  30,  2001,  which is
derived from the September 30, 2001 audited consolidated  financial  statements)
have been prepared in accordance with accounting  principles  generally accepted
in the United States of America for interim  financial  information and with the
rules and  regulations of the Securities and Exchange  Commission.  Accordingly,
they do not include all of the information and footnotes  required by accounting
principles  generally  accepted  in the United  States of America  for  complete
financial  statements.  In the opinion of management,  all adjustments  (none of
which  were  other  than  normal  recurring   accruals)  necessary  for  a  fair
presentation of the financial position and results of operations for the periods
presented have been included.

     The results of  operations  for the three and six month periods ended March
31, 2002 are not necessarily indicative of the results of operations that may be
expected for the year ended  September 30, 2002. The preparation of consolidated
financial statements in accordance with accounting principles generally accepted
in the United States of America requires  management to make certain  estimates.
These amounts may be revised in future  periods  because of changes in the facts
and circumstances underlying their estimation.

     Certain  amounts in the March 31, 2001  consolidated  financial  statements
have been  reclassified to conform with the  presentation  adopted in 2002. Such
reclassifications   did  not  change  net  income  or  stockholders'  equity  as
previously reported.

NOTE 3.  EARNINGS PER SHARE

     Earnings  per  share  computations  have  been  made  only for the  periods
subsequent  to the  Conversion.  For  purposes  of  computing  basic and diluted
earnings per share,  weighted average shares  outstanding  excludes  unallocated
ESOP  shares  that  have  not  been  committed  to  be  released.  The  deferred
compensation  obligation discussed in note 5 that is fully funded with shares of
the Company's common stock has no net impact on the Company's earnings per share
computations.  Diluted  earnings  per share  includes the  potentially  dilutive
effects of the Company's  stock-based  benefit plans. There were no antidilutive
stock  options for the three and six months  ended  March 31,  2002 and 2001.  A
reconciliation  of the  denominators of the basic and diluted earnings per share
computations is as follows:

                                       9
<PAGE>
<TABLE>
<CAPTION>

                                                           THREE MONTHS ENDED
                                                               MARCH 31,
                                                           2002          2001
                                                           ----          ----
      <S>                                               <C>           <C>
      Average shares issued and outstanding             3,289,607     3,289,607

      Less: Unvested MRP shares                           (42,156)      (84,319)
      Less: Unallocated ESOP shares                      (223,522)     (191,213)
                                                        ---------     ---------
      Average basic shares for earnings per share       3,023,929     3,014,075

      Add: Unvested MRP shares                             42,156        84,319
      Add: Potential common stock pursuant to stock
            option plan                                    86,763        67,269
                                                        ---------     ---------
      Average dilutive shares for earnings per share    3,152,848     3,165,663
                                                        =========     =========
<CAPTION>
                                                            SIX MONTHS ENDED
                                                               MARCH 31,
                                                           2002          2001
                                                           ----          ----
      <S>                                               <C>           <C>
      Average shares issued and outstanding             3,289,607     3,289,607

      Add: Unvested MRP shares issued                     (42,156)      (84,319)
      Less: Unallocated ESOP shares                      (227,870)     (194,774)
                                                        ---------     ---------
      Average basic shares for earnings per share       3,019,581     3,010,514

      Add: Unvested MRP shares                             42,156        84,319
      Add: Potential common stock pursuant to stock
            option plan                                    87,666        64,165
                                                        ---------     ---------
      Average dilutive shares for earnings per share    3,149,403     3,158,998
                                                        =========     =========
</TABLE>

NOTE 4.  EMPLOYEE STOCK OWNERSHIP PLAN ("ESOP")

     The Company  sponsors an employee stock ownership plan (the "ESOP") whereby
an aggregate  number of shares amounting to 253,050 or 8% of the stock issued in
the  conversion was purchased for future  allocation to employees.  The ESOP was
funded by an 11 year term loan from the Company in the amount of $4,899,000. The
loan is secured by the shares of stock purchased by the ESOP. In connection with
the special cash  dividend,  the ESOP  received  $1,308,000 on its shares of the
Company's  stock.  The ESOP  purchased  an  additional  64,415  shares with this
dividend.  During the three and six months ended March 31, 2002 and 2001,  8,507
and 6,992 and 17,203 and 14,089  shares of stock were  committed  to be released
and   approximately   $172,000   and  $131,000  and  $350,000  and  $260,000  of
compensation expense was recognized, respectively.

NOTE 5.  DEFERRED COMPENSATION

     Directors  and  certain  executive  officers   participate  in  a  deferred
compensation plan, which was approved by the Board of Directors on September 24,
1997.  This plan  generally  provides  for fixed  payments  beginning  after the
participant  retires.  Each  participant is fully vested in his account  balance
under the plan. Directors may elect to defer their directors' fees and executive
officers may elect to defer 25% of their salary and 100% of bonus compensation.

     Prior to the Conversion,  amounts deferred by each participant  accumulated
interest  at a rate equal to the  highest  rate of  interest  paid on the Bank's
one-year   certificates   of  deposit.   In  connection   with  the  Conversion,
participants  in the plan were given the opportunity to  prospectively  elect to
have their  deferred  compensation  balance  earn a rate of return

                                       10
<PAGE>

equal to the total return of the Company's stock. All participants  elected this
option concurrent with the Conversion, so the Company purchases its common stock
to fund this obligation.  Refer to the Company's notes to consolidated financial
statements,  incorporated  by reference in the  Company's  2001 Annual Report on
Form 10-K for a discussion  of the Company's  accounting  policy with respect to
this deferred  compensation plan and the related treasury stock purchased by the
Company to fund this obligation.

     The expense  related to this plan for the three and six months  ended March
31,  2002  and  2001  was  $72,000  and  $68,000  and  $164,000  and   $135,000,
respectively. This expense is included in compensation expense.

NOTE 6.  MANAGEMENT RECOGNITION PLAN

     The Company has a Management  Recognition  Plan  ("MRP")  which serves as a
means of providing existing directors and officers of the Bank with an ownership
interest in the  company.  On June 6, 2000,  restricted  stock awards of 126,482
shares  were  granted.  The  shares  awarded  under  the MRP  were  issued  from
authorized but unissued shares of common stock at no cost to the recipients. The
shares vest at a rate of 33 1/3% per year with a one-third immediate vest on the
date of the grant.  Compensation  expense of $260,000  and $263,000 and $520,000
and  $527,000  associated  with the MRP was  recorded  during  the three and six
months ended March 31, 2002 and 2001, respectively.

NOTE 7.  STOCK OPTION AND INCENTIVE PLAN

     On June 6, 2000 the Company's  stockholders approved the 1st State Bancorp,
Inc. 2000 Stock Option and Incentive Plan (the "Plan"). The purpose of this plan
is to  advance  the  interests  of the  Company  through  providing  select  key
employees and directors of the Bank with the opportunity to acquire  shares.  By
encouraging  such stock  ownership,  the Company  seeks to  attract,  retain and
motivate  the  best   available   personnel   for   positions   of   substantial
responsibility  and to provide  incentives to the key  employees and  directors.
Under the Plan, the Company  granted  316,312  options to purchase its $0.01 par
value common stock in fiscal year 2000. The exercise price per share is equal to
the fair market  value per share on the date of the grant of the stock.  Options
granted  under the Stock  Option  Plan are 100% vested on the date of the grant,
and all options  expire 10 years from the date of the grant.  As a result of the
one-time cash dividend of $5.17 paid on October 2, 2000,  the exercise price for
the options repriced from $18.44 to $14.71.

NOTE 8. NEW ACCOUNTING PRONOUNCEMENT

     In July 2001, the FASB issued Statement of Financial  Accounting  Standards
No. 141 (Statement  141),  "Business  Combinations",  and Statement of Financial
Accounting  Standards No. 142 (Statement  142),  "Goodwill and Other  Intangible
Assets".  Statement 141 requires that the purchase  method of accounting be used
for all business combinations  initiated after June 30, 2001. Statement 141 also
specifies  criteria  which  must  be met for  intangible  assets  acquired  in a
purchase  method  business  combination to be recognized and reported apart from
goodwill.  Statement  142  requires  that  goodwill and  intangible  assets with
indefinite  useful  lives  no  longer  be  amortized,  but  instead  tested  for
impairment at least annually in accordance with the provisions of Statement 142.
Statement 142 also requires that  identifiable  intangible  assets with definite
useful lives be amortized over their respective  estimated useful lives to their
estimated  residual  values,  and reviewed for  impairment  in  accordance  with
Statement  121,  "Accounting  for the  Impairment of  Long-Lived  Assets and for
Long-Lived  Assets to Be Disposed Of". The adoption of SFAS No. 141 and SFAS No.
142 did not have a  material  effect  on the  Company's  consolidated  financial
statements  other than providing  enhanced  disclosures  for mortgage  servicing
rights. As of January 1, 2002, the Company had no goodwill and had no intangible
assets related to deposit and branch purchase acquisitions.

     The rights to service  mortgage  loans for  others  are  included  in other
assets on the consolidated balance sheet. Mortgage servicing rights ("MSRs") are
capitalized  based on the allocated cost which is determined when the underlying
loans are sold. MSRs are amortized over a period which  approximates the life of
the underlying loans as an adjustment of income.  Impairment reviews of MSRs are
performed on a quarterly  basis.  As of March 31, 2002 and  September  30, 2001,
MSRs totaled $330,000 and $209,000, respectively, and no valuation allowance was
required.

     Amortization  expense  totaled $17,000 and $23,000 for the six months ended
March 31, 2002 and 2001, respectively.


                                       11
<PAGE>

The estimated  amortization  expense for the mortgage  servicing  rights for the
years ended September 30, 2002,  2003,  2004, 2005 and 2006 and thereafter is as
follows:

                                           ESTIMATED AMORTIZATION EXPENSE
                                                  (DOLLARS IN THOUSANDS)

                2002                                 $36,000
                2003                                  38,000
                2004                                  38,000
                2005                                  38,000
                2006                                  38,000
                2007 and thereafter                   21,000
                                                    --------
                                                    $209,000
                                                    ========

The  estimation  of  future  amortization  expense  presented  above is based on
assumptions  (such as estimates of  prepayments  of loans)  subject to change in
future periods.  Accordingly,  the amortization expense in future periods may be
different  from the  amounts  disclosed  above to the  extent  that any of these
assumptions are modified due to a change in the underlying estimations.

ITEM 2. MANAGEMENT'S  DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

FORWARD-LOOKING STATEMENTS

     When used in this Form 10-Q,  the words or phrases  "will  likely  result,"
"are expected to," "will continue," "is anticipated,"  "estimate,"  "project" or
similar expressions are intended to identify "forward-looking statements" within
the  meaning of the  Private  Securities  Litigation  Reform  Act of 1995.  Such
statements are subject to certain risks and  uncertainties  including changes in
economic  conditions  in our market  area,  changes in  policies  by  regulatory
agencies,  fluctuations in interest rates,  demand for loans in our market area,
and  competition  that could  cause  actual  results to differ  materially  from
historical  earnings and those  presently  anticipated or projected.  We wish to
caution you not to place undue reliance on any such forward-looking  statements,
which  speak  only as of the date made.  We wish to advise you that the  factors
listed above could affect our financial  performance  and could cause our actual
results for future periods to differ  materially from any opinions or statements
expressed with respect to future periods in any current statements.

     We do not undertake, and specifically disclaim any obligation,  to publicly
release  the result of any  revisions  which may be made to any  forward-looking
statements to reflect events or circumstances  after the date of such statements
or to reflect the occurrence of anticipated or unanticipated events.

GENERAL

     1st State Bancorp,  Inc. was formed in November 1998 and became the holding
company  for 1st State Bank on April 23,  1999.  As a result,  portions  of this
discussion  (as of dates and for periods  prior to April 23, 1999) relate to the
financial condition and results of operations of 1st State Bank.

     Our business consists  principally of attracting  deposits from the general
public and investing these funds in loans secured by  single-family  residential
and commercial real estate,  secured and unsecured commercial loans and consumer
loans. Our profitability  depends primarily on our net interest income, which is
the  difference  between  the  income  we  receive  on our loan  and  investment
securities  portfolios and our cost of funds, which consists of interest paid on
deposits  and  borrowed  funds.  Net  interest  income  also is  affected by the
relative amounts of interest-earning  assets and  interest-bearing  liabilities.
When interest-earning assets approximate or exceed interest-bearing liabilities,
any  positive  interest  rate spread will  generate  net  interest  income.  Our
profitability  is also  affected  by the  level of other  income  and  operating
expenses.  Other income consists of miscellaneous  fees related to our loans and
deposits,  mortgage  banking income and commissions  from sales of annuities and
mutual funds. Operating expenses consist of compensation and benefits, occupancy
related  expenses,   federal  deposit  insurance   premiums,   data  processing,
advertising and other expenses.

     Our operations are influenced  significantly  by local economic  conditions
and by policies of financial  institution  regulatory  authorities.  Our cost of
funds is  influenced  by interest  rates on competing  investments  and by rates
offered on

                                       12
<PAGE>

similar investments by competing  financial  institutions in our market area, as
well as general market  interest rates.  Lending  activities are affected by the
demand for  financing of real estate and other types of loans,  which in turn is
affected by the  interest  rates at which such  financing  may be  offered.  The
primary  manner in which the economy  impacts our  business is our credit  risk.
Most of our customers are small businesses in our immediate market area that are
more  vulnerable  to recent  declines in the local  economy  than  larger,  more
diversified  companies whose revenues are supported by customers in a variety of
locations.  Our customer base includes textile  companies that are continuing to
feel the negative impact of the NAFTA  legislation and the downturn in our local
and regional economy. Such changes may impact future operations and earnings.

     Our business emphasis has been to operate as a well-capitalized, profitable
and independent  community-oriented financial institution dedicated to providing
quality customer service. We are committed to meeting the financial needs of the
communities  in which we operate.  We believe  that we can be more  effective in
servicing our  customers  than many of our nonlocal  competitors  because of our
ability to quickly  and  effectively  provide  senior  management  responses  to
customer needs and inquiries.  Our ability to provide these services is enhanced
by the stability of our senior management team.

     Beginning  in the late  1980's,  we have sought to  gradually  increase the
percentage of our assets  invested in commercial  real estate loans,  commercial
loans and consumer loans, which have shorter terms and adjust more frequently to
changes in interest rates than single-family residential mortgage loans.

CRITICAL ACCOUNTING POLICIES

     The Company's  significant  accounting  policies are set forth in note 1 of
the consolidated  financial  statements as of September 30, 2001 which was filed
on Form 10-K. Of these significant  accounting  policies,  the Company considers
its policy  regarding  the  allowance  for loan  losses to be its most  critical
accounting policy,  because it requires management's most subjective and complex
judgments.  In addition,  changes in economic  conditions can have a significant
impact on the  allowance  for loan losses and  therefore  the provision for loan
losses and results of operations. The Company has developed appropriate policies
and  procedures  for  assessing  the adequacy of the  allowance for loan losses,
recognizing  that this process  requires a number of  assumptions  and estimates
with respect to its loan portfolio. The Company's assessments may be impacted in
future  periods by  changes in  economic  conditions,  the impact of  regulatory
examinations,  and the discovery of information  with respect to borrowers which
is not  known to  management  at the time of the  issuance  of the  consolidated
financial statements.

COMPARISON OF FINANCIAL CONDITION AT MARCH 31, 2002 AND SEPTEMBER 30, 2001

     Total  assets  increased  by $8.5  million or 2.5% from  $336.8  million at
September 30, 2001 to $345.3 million at March 31, 2002.  Increases in investment
securities were partially offset by decreases in cash and loans receivable, net.
Asset growth was primarily funded by increases in borrowed money.

     Cash and cash  equivalents  decreased  $13.7  million,  or 52.7% from $26.0
million at September 30, 2001 to $12.3 million at March 31, 2002. Because of the
relatively low interest  rates on overnight  funds,  we invested  excess cash in
short term government agency securities to increase our yield on these funds.

     Investment securities available for sale increased $34.1 million from $55.5
million at  September  30, 2001 to $89.6  million at March 31,  2002.  As market
interest  rates fell  during the six months  ended March 31,  2002,  many of the
Company's callable investment securities were called by the issuers.  During the
six months  ended March 31, 2002,  we received  $26.0  million in proceeds  from
sales,  maturities and issuer calls of investment securities available for sale.
We reinvested $62.1 in investment securities available for sale during this time
period.

     Loans  receivable,  net decreased by $11.3  million,  or 5.1%,  from $222.3
million at September  30, 2001 to $211.0  million at March 31,  2002,  and loans
held for sale  decreased  27.3% from $3.3 million at September  30, 2001 to $2.4
million at March 31,  2002.  During the six months  ended  March 31,  2002,  our
mortgage  originations,  sales  and  prepayments  were  at  record  levels.  The
attractive mortgage rate environment encouraged many borrowers to take advantage
of this opportunity to refinance their existing mortgage loans at lower interest
rates.  We sold  these  longer  term,  lower  rate  mortgage  loans to limit our
interest rate risk. The decrease in the loans held for sale resulted from timing
differences  in the funding of loan sales.  We sold $42.0  million in fixed rate
mortgage  loans  during the six months  ended March 31,  2002  compared to $17.6
million for the six months  ended  March 31,  2001.  We  continue  to  emphasize
commercial,  commercial  real estate,  consumer loans and equity lines of credit
that carry  variable  rates  and/or  short term

                                       13
<PAGE>

maturities.  At March 31, 2002,  commercial,  construction  and commercial  real
estate  loans  totaled  $114.0  million  and  account  for 53.1% of gross  loans
compared to $110.6  million and 48.9% at September 30, 2001.  One to four family
residential  loans at March 31,  2002  totaled  $75.1  million or 35.0% of gross
loans compared to $86.9 million or 38.5% at September 30, 2001.

     Deposits  decreased  $1.3 million from $248.4 million at September 30, 2001
to $247.1 million at March 31, 2002.  Certificates  of deposit at March 31, 2002
totaled  $152.4  million or 61.7% of total  deposits.  At  September  30,  2001,
certificates of deposit  totaled $159.7 million or 64.3% of total  deposits.  We
continue to emphasize transaction accounts, which generally carry lower interest
rates than certificates of deposit.  Transaction accounts increased $6.0 million
or 6.8% from $88.7  million at September  30, 2001 to $94.7 million at March 31,
2002.

     Advances  from the Federal Home Loan Bank  increased to $30.0  million from
$20.0 million at September 30, 2001.  The increased  borrowings  were short term
advances used to fund the timing differences of loan fundings and deposit flows.

     Stockholders'  equity increased by $787,000 from $63.6 million at September
30,  2001 to $64.4  million at March 31,  2002 as a result of net income of $1.8
million,  release  of ESOP  shares of  $351,000,  and  vesting  of MRP shares of
$388,000. These increases were offset by cash dividends declared of $477,000 and
a change in unrealized  losses on available for sale securities of $1.2 million.
In the  aftermath  of the  September  11, 2001  terrorist  strikes,  bond prices
increased  sharply that created the Company's  unrealized  gain on available for
sale  securities  (net of tax) of $510,000 at September  30, 2001.  At March 31,
2002, bond prices were considerably lower than at September 30, 2001. During the
six months  ended March 31,  2002,  many of the  Company's  callable  investment
securities  were called by the issuers  which were  subsequently  reinvested  at
lower interest  rates.  The Company had an unrealized loss on available for sale
securities (net of tax) of $735,000 at March 31, 2002.

COMPARISON  OF  OPERATING  RESULTS FOR THE THREE MONTHS ENDED MARCH 31, 2002 AND
2001

     Net Income.  We recorded net income of $925,000 for the quarter ended March
31,  2002,  as  compared  to $775,000  for the  quarter  ended  March 31,  2001,
representing an increase of $150,000, or 19.4%. For the three months ended March
31,  2002  basic  and  diluted   earnings   per  share  were  $0.31  and  $0.29,
respectively.  The Company reported basic and diluted earnings per share for the
quarter  ended  March 31, 2001 of $0.26 and $0.24 per share,  respectively.  The
increase in net income  resulted  primarily from increased other income that was
offset partially by increased income taxes and operating expenses.

     Net Interest Income.  Net interest income,  the difference between interest
earned  on  loans  and  investments   and  interest  paid  on   interest-bearing
liabilities,  for the three  months  ended March 31, 2002 was $3.0  million,  an
increase of $4,000 compared to the same quarter in the prior year. This increase
reflects a $1.3 million  decrease in interest  income that was mostly  offset by
the $1.3 million  decrease in total interest  expense.  The average net interest
margin  decreased 2 basis points from 3.67% for the three months ended March 31,
2001 to 3.65% for the quarter ended March 31, 2002.

     Interest Income. The decrease in interest income for the three months ended
March  31,  2002   resulted   from  an  increase  of  $1.9  million  in  average
interest-earning assets compared to the same quarter in the prior year which was
more than offset by a decrease in yield on interest-earning assets of 1.68% from
7.76% for the three  months  ended March 31, 2001 to 6.08% for the three  months
ended March 31, 2002. The increased  volume of average  interest-earning  assets
increased  interest  income by  approximately  $37,000 and the  decreased  yield
decreased  interest  income  by  approximately   $1.4  million.   Average  loans
outstanding   decreased  $17.0  million  coupled  with  a  decrease  in  average
interest-bearing  overnight  funds of $2.4 million were offset by an increase in
average investment  securities of $21.3 million. We experienced  unusually heavy
mortgage  loan  prepayments  during  the six  months  ended  March  31,  2002 as
borrowers took advantage of the attractive  mortgage rates and refinanced  their
existing  mortgage loans.  During this time we invested the loan prepayments and
excess overnight funds into investment securities.

     Interest  Expense.  Interest  expense  decreased  in the three months ended
March 31, 2002 due to a decrease in average interest-bearing liabilities of $6.1
million and a decrease in the cost of interest-bearing liabilities of 1.90% from
4.87% for the three  months  ended March 31, 2001 to 2.97% for the three  months
ended March 31, 2002.  Average deposits  decreased by $9.1 million while average
FHLB advances  increased  $3.0 million for the three months ended March 31, 2002
compared  to the same  quarter  in the  prior  year.  The  decrease  in  average
interest-bearing liabilities decreased interest expense by approximately $74,000
while the decrease in the average cost of interest-bearing liabilities increased
interest expense by approximately $1.3 million.

                                       14
<PAGE>

     The following table presents average balances and average rates earned/paid
by the  Company for the  quarter  ended  March 31, 2002  compared to the quarter
ended March 31, 2001.
<TABLE>
<CAPTION>
                                                           THREE MONTHS ENDED                    THREE MONTHS ENDED
                                                             MARCH 31, 2002                        MARCH 31, 2001
                                                 ----------------------------------      ---------------------------------
                                                 AVERAGE                     YIELD/      AVERAGE                    YIELD/
                                                 BALANCE       INTEREST      COST        BALANCE     INTEREST       COST
                                                 -------       --------      -----       -------     --------       -----
                                                                          (DOLLARS IN THOUSANDS)
<S>                                                <C>         <C>            <C>        <C>         <C>             <C>
Assets:
Loans receivable (1)                               $215,058    $3,510         6.53%      $232,084    $4,927          8.49%
Investment securities (2)                            96,821     1,357         5.61         75,511     1,119          5.93
Interest-bearing overnight deposits                  11,762        52         1.77         14,129       195          5.53
                                                   --------    ------        -----       --------    ------         -----
  Total interest-earning assets (3)                 323,641     4,919         6.08        321,724     6,241          7.76
Non interest-earning assets                          22,414                                26,126
                                                   --------                              --------
  Total assets                                     $346,055                              $347,850
                                                   ========                              ========
Liabilities and stockholders' equity:
Interest bearing checking                            31,320        36         0.46         29,772       125          1.67
Money market investment accounts                     27,465        86         1.25         21,470       233          4.35
Passbook and statement savings                       27,060       102         1.51         26,880       157          2.34
Certificates of deposit                             154,984     1,454         3.75        171,816     2,498          5.82
FHLB advances                                        23,444       286         4.88         20,444       277          5.41
                                                   --------    ------        -----       --------    ------         -----
  Total interest-bearing liabilities                264,273     1,964         2.97        270,382     3,290          4.87
Non interest-bearing liabilities                     17,321                                16,642
                                                   --------                              --------
  Total liabilities                                 281,594                               287,024
Stockholders' equity                                 64,461                                60,826
                                                   --------                              --------
  Total liabilities and stockholders' equity       $346,055                              $347,850
                                                   ========                              ========
Net interest income                                            $2,955                                $2,951
                                                               ======                                ======
Interest rate spread                                                          3.11%                                  2.89%
                                                                            ======                                 ======
Net interest margin (4)                                                       3.65%                                  3.67%
                                                                            ======                                 ======
Ratio of average interest-earning assets                                    122.46%                                118.99%
                                                                            ======                                 ======
<FN>
___________
(1)  Includes  nonaccrual  loans and loans held for sale,  net of discounts  and
     allowance for loan losses.
(2)  Includes FHLB of Atlanta stock.
(3)  Due to immateriality, the interest income and yields related to certain tax
     exempt assets have not been adjusted to reflect a fully taxable  equivalent
     yield.
(4)  Represents   net   interest   income   divided   by   average   balance  of
     interest-earning assets.
</FN>
</TABLE>

     Provision  for Loan  Losses.  The  provision  for loan losses is charged to
earnings to maintain the total  allowance for loan losses at a level  considered
adequate to absorb  estimated  probable  losses  inherent in the loan  portfolio
based on  existing  loan  levels and types of loans  outstanding,  nonperforming
loans,  prior  loan  loss  experience,  general  economic  conditions  and other
factors.  Provisions for loan losses  totaled  $60,000 for both the three months
ended March 31, 2002 and 2001.

     Other Income. Other income increased $266,000,  or 50.6%, from $526,000 for
the quarter  ended March 31,  2001 to $792,000  for the quarter  ended March 31,
2002.  Mortgage  banking  income,  net increased  $157,000 from $193,000 for the
quarter  ended March 31, 2001 to $350,000 for the quarter  ended March 31, 2002.
During the quarter ended March 31, 2002, we sold fixed-rate  mortgage loans held
for sale of $16.7 million and  recognized  net gains of $350,000 on these sales.
During the quarter ended March 31, 2001, we sold fixed-rate  mortgage loans held
for sale of  $11.4  million  and  recognized  a  $193,000  gain on these  sales.
Customer service fees increased $55,000,  or 34.0% from

                                       15
<PAGE>

$162,000 for the quarter  ended March 31, 2001 to $217,000 for the quarter ended
March 31, 2002.  This increase  results  primarily  from growth in the number of
transaction accounts and increased service charges. Gains on sales of investment
securities  of $47,000 were  recognized  during the quarter ended March 31, 2002
that were not present in the prior year.

     Operating Expenses.  Total operating expenses were $2.2 million for each of
the quarters ended March 31, 2002 and March 31, 2001.  Compensation  and related
benefits expense increased $153,000,  or 10.6% from $1.4 million for the quarter
ended March 31, 2001 to $1.6 million for the quarter ended March 31, 2002.  This
increase  was  primarily  the result of increased  salary and benefit  costs and
additional  employees.  During the  quarter  ended March 31,  2002,  the Company
recognized net income from real estate operations of $50,000 compared to the net
losses  from real estate  operations  of $6,000  that were  expensed  during the
quarter ended March 31, 2001.

     Income Tax Expense.  Income tax expense  increased $77,000 from tax expense
of  $436,000  for the quarter  ended March 31, 2001 to $513,000  for the quarter
ended March 31, 2002. The increase  resulted from a $227,000  increase in income
before  income  taxes.  The  effective  tax rates  were  35.7% and 36.0% for the
quarters ended March 31, 2002 and 2001, respectively.

COMPARISON OF OPERATING RESULTS FOR THE SIX MONTHS ENDED MARCH 31, 2002 AND 2001

     Net Income. We recorded net income of $1.8 million for the six months ended
March 31, 2002, an increase of $94,000 over the $1.7 million reported in the six
months ended March 31, 2001. For the six months ended March 31, 2002,  basic and
diluted  earnings  per share  were $0.59 and $0.56,  respectively.  The  Company
reported basic and diluted earnings per share for the six months ended March 31,
2001 of $0.56 and $0.53,  respectively.  The  increase  in net  income  resulted
primarily  from increased  other income which was partially  offset by decreased
net interest  income and  increased  operating  expenses and income  taxes.  The
decline in the net interest  income  resulted  primarily  from the interest rate
cuts by the Federal Reserve during calendar 2001. The rate cuts caused a greater
reduction in the average  yield on earning  assets than the average rate paid on
interest-bearing liabilities.

     Net Interest Income.  Net interest income,  the difference between interest
earned  on  loans  and  investments   and  interest  paid  on   interest-bearing
liabilities,  decreased  by $396,000 or 6.4% for the six months  ended March 31,
2002,  compared to the same six months in the prior year. This decrease reflects
a $2.6 million decrease in interest income that was partially offset by the $2.2
million  decrease in total  interest  expense.  The average net interest  margin
decreased  28 basis points from 3.84% for the six months ended March 31, 2001 to
3.56% for the six months ended March 31, 2002.

     Interest  Income.  The decrease in interest income for the six months ended
March 31, 2002 was due a decrease in yield on  interest-earning  assets of 1.70%
from 7.92% for the six months  ended  March 31, 2001 to 6.22% for the six months
ended March 31, 2002 that was partially offset by an increase of $3.3 million in
average  interest-earning  assets compared to the same period in the prior year.
The  increased  volume of average  interest-earning  assets  increased  interest
income by  approximately  $131,000 and the decreased  yield  decreased  interest
income  by  approximately  $2.8  million.  An  increase  in  average  investment
securities of $13.8 million coupled with an increase in average interest-bearing
overnight funds of $1.5 million  increased  interest-earning  assets for the six
months  compared to the prior  year.  These  increases  were offset in part by a
decrease in average loans outstanding of $12.0 million. We experienced unusually
heavy  mortgage loan  prepayments  during the six months ended March 31, 2002 as
borrowers took advantage of the attractive  mortgage rates and refinanced  their
existing mortgage loans.  During this time we invested the loan prepayments into
investment securities.

     Interest Expense.  Interest expense decreased in the six months ended March
31,  2002 due to a decrease  in  average  interest-bearing  liabilities  of $3.9
million and a decrease in the cost of interest-bearing liabilities of 1.62% from
4.90% for the six months  ended March 31, 2001 to 3.28% for the six months ended
March 31, 2002.  Average  deposits  decreased by $4.5 million while average FHLB
advances  increased $589,000 for the six months ended March 31, 2002 compared to
the same six months in the prior year. The decrease in average  interest-bearing
liabilities decreased interest expense by approximately $95,000 and the decrease
in the average cost of interest-bearing  liabilities  decreased interest expense
by approximately $2.1 million.

                                       16
<PAGE>

     The following table presents average balances and average rates earned/paid
by the  Company  for the six months  ended  March 31,  2002  compared to the six
months ended March 31, 2001.
<TABLE>
<CAPTION>
                                                          SIX MONTHS ENDED                       SIX MONTHS ENDED
                                                           MARCH 31, 2002                         MARCH 31, 2001
                                                 ----------------------------------      ------------------------------------
                                                 AVERAGE                     YIELD/      AVERAGE                    YIELD/
                                                 BALANCE        INTEREST     COST        BALANCE      INTEREST      COST
                                                 -------        --------     ------      -------      --------      ------
                                                                             DOLLARS IN THOUSANDS
<S>                                                <C>         <C>            <C>        <C>        <C>             <C>
Assets:
Loans receivable (5)                               $219,783    $7,399         6.73%      $231,747   $10,017         8.64%
Investment securities (6)                            90,909     2,579         5.67         77,118     2,336         6.06
Interest-bearing overnight deposits                  14,634       142         1.94         13,143       398         6.07
                                                   --------    ------        -----       --------    ------         -----
  Total interest-earning assets (7)                 325,326    10,120         6.22        322,008    12,751         7.92
Non interest-earning assets                          22,118                                23,977
                                                   --------                              --------
  Total assets                                     $347,444                              $345,985
                                                   ========                              ========

Liabilities and stockholders' equity:
Interest bearing checking                            31,060        77         0.49         30,118       258         1.71
Money market investment accounts                     28,167       205         1.45         20,170       447         4.43
Passbook and statement savings                       26,619       213         1.60         26,799       317         2.36
Certificates of deposit                             156,999     3,278         4.18        170,216     4,968         5.84

FHLB advances                                        21,639       562         5.19         21,050       580         5.51
                                                   --------    ------        -----       --------    ------         -----
  Total interest-earning liabilities                264,484     4,335         3.28        268,353     6,570         4.90
Non interest-earning liabilities                     18,736                                17,310
                                                   --------                              --------
  Total liabilities                                 283,220                               285,663
Stockholders' equity                                 64,225                                60,322
                                                   --------                              --------
  Total liabilities and stockholders' equity       $347,445                              $345,985
                                                   ========                              ========

Net interest income                                            $5,785                                $6,180
                                                               ======                                ======
Interest rate spread                                                          2.94%                                 3.02%
                                                                            ======                                ======
Net interest margin (8)                                                       3.56%                                 3.84%
                                                                            ======                                ======
Ratio of average interest-earning assets                                    123.00%                               119.99%
                                                                            ======                                ======
<FN>
_____________
(5)  Includes  nonaccrual  loans and loans held for sale,  net of discounts  and
     allowance for loan losses.
(6)  Includes FHLB of Atlanta stock.
(7)  Due to immateriality, the interest income and yields related to certain tax
     exempt assets have not been adjusted to reflect a fully taxable  equivalent
     yield.
(8)  Represents  net  interest   income  divided  by  the  average   balance  of
     interest-earning assets.
</FN>
</TABLE>

     Provision  for Loan  Losses.  The  provision  for loan losses is charged to
earnings to maintain the total  allowance for loan losses at a level  considered
adequate to absorb  estimated  probable  losses  inherent in the loan  portfolio
based on  existing  loan  levels and types of loans  outstanding,  nonperforming
loans,  prior  loan  loss  experience,  general  economic  conditions  and other
factors.  Provisions  for loan losses  totaled  $120,000 for both the six months
ended March 31, 2002 and 2001.

     Other Income. Other income increased $668,000,  or 68.0%, from $983,000 for
the six months  ended  March 31, 2001 to $1.7  million for the six months  ended
March 31, 2002.  Mortgage banking income,  net increased  $445,000 from $321,000
for the six months  ended March 31, 2001 to  $766,000  for the six months  ended
March 31, 2002.  During the six months ended March 31, 2002, we sold  fixed-rate
mortgage  loans  held for sale of $42.0  million  and  recognized  net  gains of
$766,000 on these sales.  During the six months  ended March 31,  2001,  we sold
fixed-rate  mortgage  loans held for sale of $17.7  million and  recognized  net
gains of $321,000 on these loan sales. Customer service fees increased

                                       17
<PAGE>

$148,000,  or 46.5% from  $318,000  for the six months  ended  March 31, 2001 to
$466,000  for the six  months  ended  March  31,  2002.  This  increase  results
primarily  from  growth in the  number of  transaction  accounts  and  increased
service  charges.  Gains on sales  of  investment  securities  of  $47,000  were
recognized  during the six months  ended March 31, 2002 that were not present in
the prior year.

     Operating Expenses.  Total operating expenses were $4.5 million for the six
months  ended March 31,  2002,  an  increase  of $57,000,  or 1.3% over the $4.4
million  recorded  for the six months  ended March 31,  2001.  Compensation  and
related benefits expense increased  $174,000,  or 5.9% from $3.0 million for the
six months  ended March 31, 2001 to $3.1  million for the six months ended March
31, 2002. This increase resulted from increased salary and benefit costs as well
as an increase in number of employees.  The Company  recognized income from real
estate operations of $32,000 during the six months ended March 31, 2002 compared
to expenses of $6,000 in the same period in the prior year.

     Income Tax Expense.  Income tax expense increased $121,000 from tax expense
of $919,000  for the six months ended March 31, 2001 to $1.0 million for the six
months ended March 31, 2002. The increase  resulted from a $215,000  increase in
income before income taxes. The effective tax rates were 37.0% and 35.4% for the
six months  ended March 31,  2002 and 2001,  respectively.  The  increase in the
effective tax rate was primarily due to an increase in  non-deductible  expenses
over the prior period.

COMMITMENTS, CONTINGENCIES AND OFF-BALANCE SHEET RISK

     The Company is a party to financial instruments with off-balance sheet risk
including  commitments  to extend  credit  under  existing  lines of credit  and
commitments  to sell  loans.  These  instruments  involve,  to varying  degrees,
elements of credit and interest rate risk in excess of the amount  recognized in
the consolidated balance sheets.

     Off-balance  sheet financial  instruments  whose contract amount represents
credit and interest rate risk are summarized as follows:
<TABLE>
<CAPTION>
                                                                       MARCH 31, 2002        SEPTEMBER 30, 2001
                                                                       --------------        ------------------
                                                                                (DOLLARS IN THOUSANDS)
<S>                                                                        <C>                   <C>
         Commitments to originate new loans                                $  14,659             $   9,119
         Commitments to originate new loans held for sale                         --                   241
         Unfunded commitments to extend credit under existing
              equity line and commercial lines of credit                      65,794                56,907
         Commercial letters of credit                                            368                   256
         Commitments to sell loans held for sale                               2,202                 2,157
</TABLE>
     The Company  does not have any special  purpose  entities or other  similar
forms of off-balance sheet financing arrangements.

     Commitments  to originate new loans or to extend  credit are  agreements to
lend to a customer as long as there is no violation of any condition established
in the contract.  Loan  commitments  generally expire within 30 to 45 days. Most
equity line  commitments  are for a term of 15 years,  and  commercial  lines of
credit are generally  renewable on an annual basis.  Commitments  generally have
fixed expiration dates or other termination clauses and may require payment of a
fee.  Since many of the  commitments  are expected to expire without being drawn
upon, the total  commitment  amounts do not  necessarily  represent  future cash
requirements.  The  Company  evaluates  each  customer's  creditworthiness  on a
case-by-case basis. The amounts of collateral  obtained,  if deemed necessary by
the Company upon extension of credit, is based on management's credit evaluation
of the borrower.

     Commitments  to sell loans held for sale are  agreements to sell loans to a
third party at an agreed upon price. At March 31, 2002, the aggregate fair value
of  these  commitments  exceeded  the  book  value  of  the  loans  to be  sold.

                                       18
<PAGE>
CONTRACTUAL OBLIGATIONS

         As of March 31, 2002
<TABLE>
<CAPTION>
                                                     PAYMENTS DUE BY PERIOD
                                                     ----------------------

                                        LESS THAN
                                          1 YEAR             1-3 YEARS        4-5 YEARS        OVER 5 YEARS         TOTAL
                                       -----------           ---------        ---------        ------------         -----
<S>                                   <C>                      <C>               <C>             <C>                <C>
Deposits                               $ 222,048               17,443            7,608               --             247,099
Short-term borrowings                     10,000                   --               --               --              10,000
Long-term borrowings                          --                   --               --           20,000              20,000
Lease obligations                             19                   56               42               38                 155
                                       ---------               ------            -----           ------             -------
Total contractual cash
    Obligations                        $ 232,067               17,499            7,650           20,038             277,254
                                       =========               ======            =====           ======             =======
</TABLE>


ASSET QUALITY

     At March 31, 2002,  we had  approximately  $4.0  million in  non-performing
assets  (nonaccrual  loans and real estate owned) or 1.16% of total  assets.  At
September  30, 2001,  non-performing  assets were $2.9 million or 0.85% of total
assets.  At March 31, 2002 and September 30, 2001,  impaired  loans totaled $3.7
million and $2.5  million,  respectively,  as defined by  Statement of Financial
Accounting  Standards  No. 114,  "Accounting  by Creditors  for  Impairment of a
Loan."  The  increase  in  impaired  loans at March  31,  2002  result  from two
unrelated  commercial  loan  customers,  both of which  have  loans  secured  by
commercial  real estate and  business  assets in Alamance  County.  At March 31,
2002,  $1.3 million of the impaired  loans is on non-accrual  status,  and their
related  reserve for loan losses  totaled  $160,000.  There was no impact on the
provision  as  management  had already  anticipated  the loans'  performance  in
setting the allowance for loan losses in previous periods.  The average carrying
value of impaired  loans was $3.7 million and $3.0 million  during the three and
six months ended March 31, 2002,  respectively.  Interest  income of $54,000 and
$113,000 has been  recorded on impaired  loans in the three and six months ended
March 31, 2002,  respectively.  The Bank's net  chargeoffs for the three and six
months  ended March 31, 2002 were $7,000 and $92,000,  respectively.  The Bank's
allowance  for  loan  losses  was $3.6  million  at  March  31,  2002 as well as
September 30, 2001 and March 31, 2002. As a result of our continued shift toward
commercial, construction, consumer and home equity loans, the recent decrease in
residential mortgage loans, the increase in non-performing loans as a percentage
of total  loans as well as the  continued  decline  in the  local  and  regional
economy, the ratio of the allowance for loan losses to total loans, net of loans
in process and deferred loan fees  increased to 1.70% at March 31, 2002 compared
to 1.60% at September 30, 2001.

     The following table presents an analysis of our nonperforming assets:
<TABLE>
<CAPTION>
                                                              AT                      AT                   AT
                                                           MARCH 31,             SEPTEMBER 30,          MARCH 31,
                                                             2002                    2001                 2001
                                                             ----                    ----                 ----
<S>                                                         <C>                    <C>                   <C>
Nonperforming loans:
Nonaccrual loans                                            $   1,747              $    878             $  2,963
Loans 90 days past due and accruing                                --                    --                    -
Restructured loans                                                 --                    --                    -
                                                            ---------              --------             --------
Total nonperforming loans                                       1,747                   878                2,963
Other real estate                                               2,252                 1,981                   70
                                                            ---------              --------             --------
Total nonperforming assets                                  $   3,999              $  2,859             $  3,033
                                                            =========              ========             ========
Nonperforming loans to loans receivable, net                     0.83%                 0.39%                1.30%
Nonperforming assets as a percentage
 of loans and other real estate owned                            1.88%                 1.27%                1.32%
Nonperforming assets to total assets                             1.16%                 0.85%                0.87%
</TABLE>

                                       19
<PAGE>

     Regulations  require that we classify our assets on a regular basis.  There
are three classifications for problem assets: substandard, doubtful and loss. We
regularly   review  our  assets  to   determine   whether  any  assets   require
classification or  re-classification.  At March 31, 2002, we had $3.2 million in
classified  assets consisting of $942,000 in substandard and loss loans and $2.3
million in real estate  owned.  At September  30,  2001,  we had $3.6 million in
classified  assets  consisting of $1.6 million in substandard and loss loans and
$2.0 million in real estate owned.

     In addition to  regulatory  classifications,  we also  classify as "special
mention" and "watch"  assets that are currently  performing  in accordance  with
their contractual terms but may become classified or nonperforming assets in the
future.  At March 31, 2002,  we have  identified  approximately  $4.6 million in
assets  classified as special  mention and $30.6 million as watch.  At September
30, 2001,  we  classified  $4.5 million as special  mention and $32.9 million as
watch.  Included  in the watch  asset  total are five  loans  with an  aggregate
outstanding  balance of $3.7  million at March 31, 2002 to a company  affiliated
with one of our directors.  In addition,  the director has the ability to borrow
an additional $430,000 from us under a line of credit. All the loans are secured
by a first lien on all company assets, including accounts receivable, inventory,
equipment,  furniture and real property  occupied by the borrower.  In addition,
the  director has  personally  guaranteed  repayment of the loans.  At March 31,
2002,  such loans were  current  with  respect to their  payment  terms and were
performing in accordance with the related loan agreements.  Based on an analysis
of  the  borrower's  current  financial   statements  received  in  April  2002,
management has concerns that the borrower may have  difficulty in complying with
the present loan repayment terms on an ongoing basis. Accordingly, this loan may
become a  nonperforming  asset in a future period.  Management  will continue to
closely monitor the performance of these loans in future periods.

LIQUIDITY AND CAPITAL RESOURCES

     The Bank must meet certain liquidity requirements  established by the State
of North Carolina Office of the Commissioner of Banks (the  "Commissioner").  At
March 31, 2002, the Bank's liquidity ratio exceeded such requirements. Liquidity
generally refers to the Bank's ability to generate  adequate amounts of funds to
meet its cash needs.  Adequate  liquidity  guarantees that sufficient  funds are
available to meet deposit withdrawals, fund loan commitments,  maintain adequate
reserve  requirements,  pay operating expenses,  provide funds for debt service,
pay dividends to stockholders and meet other general commitments.

     Our primary sources of funds are deposits,  principal and interest payments
on loans, proceeds from the sale of loans, and to a lesser extent, advances from
the FHLB of Atlanta.  While  maturities and scheduled  amortization of loans are
predictable sources of funds, deposit flows and mortgage prepayments are greatly
influenced by general interest rates, economic conditions and local competition.

     Our most liquid assets are cash and cash  equivalents.  The levels of these
assets  are  dependent  on  our  operating,  financing,  lending  and  investing
activities during any given period. At March 31, 2002, cash and cash equivalents
totaled  $12.2  million.  We have  other  sources  of  liquidity  should we need
additional funds.  During the three and six months ended March 31, 2002, we sold
loans totaling $16.7 million and $42.0 million, respectively. Additional sources
of funds include FHLB of Atlanta  advances.  Other sources of liquidity  include
loans and investment  securities designated as available for sale, which totaled
$92.1 million at March 31, 2002.

     We  anticipate  that we will have  sufficient  funds  available to meet our
current  commitments.  At March 31, 2002, we had $14.7 million in commitments to
originate  new loans,  $65.8  million in unfunded  commitments  to extend credit
under  existing  equity  lines and  commercial  lines of credit and  $368,000 in
standby letters of credit. At March 31, 2002, certificates of deposit, which are
scheduled to mature within one year,  totaled $127.3 million.  We believe that a
significant portion of such deposits will remain with us.

     The FDIC requires the Bank to meet a minimum leverage  capital  requirement
of Tier I capital to assets ratio of 4%. The FDIC also requires the Bank to meet
a ratio of total capital to  risk-weighted  assets of 8%, of which 4% must be in
the form of Tier I capital.  The Commissioner  requires the Bank at all times to
maintain  certain minimum  capital  levels.  The Bank was in compliance with all
capital  requirements of the FDIC and the  Commissioner at March 31, 2002 and is
deemed to be "well capitalized."

                                       20
<PAGE>

     The Federal Reserve also mandates capital  requirements on all bank holding
companies,  including 1st State  Bancorp,  Inc. These capital  requirements  are
similar to those imposed by the FDIC on the Bank. At March 31, 2002, the Company
was in compliance with the capital requirements of the Federal Reserve.

     On October 2, 2000, the Company paid a one-time  special cash  distribution
of $5.17 to its stockholders.  The distribution was made to manage the Company's
capital and enhance  shareholder  value.  Returning  capital to the stockholders
reduced the Company's  equity to asset ratio from 21.2% to 17.2%.  The Company's
equity to asset ratio at March 31, 2002 was 18.7%.  The Company's  capital level
is sufficient to support future growth.

     The Company has declared cash  dividends per common share of $0.08 for each
of the three months ended March 31, 2002, September 30, 2001 and March 31, 2001.
The Company's ability to pay dividends is dependent upon earnings. The Company's
dividend  payout ratio for the three months ended March 31, 2002,  September 30,
2001 and March 31, 2001 was 27.6%, 32.0% and 33.3%, respectively.

ACCOUNTING ISSUES

     In July 2001, the FASB issued Statement of Financial  Accounting  Standards
No. 141 (Statement  141),  "Business  Combinations",  and Statement of Financial
Accounting  Standards No. 142 (Statement  142),  "Goodwill and Other  Intangible
Assets".  Statement 141 requires that the purchase  method of accounting be used
for all business combinations  initiated after June 30, 2001. Statement 141 also
specifies  criteria  which  must  be met for  intangible  assets  acquired  in a
purchase  method  business  combination to be recognized and reported apart from
goodwill.  Statement 142 will require that goodwill and  intangible  assets with
indefinite  useful  lives  no  longer  be  amortized,  but  instead  tested  for
impairment at least annually in accordance with the provisions of Statement 142.
Statement  142 will  also  require  that  identifiable  intangible  assets  with
definite useful lives be amortized over their respective  estimated useful lives
to their estimated  residual  values,  and reviewed for impairment in accordance
with Statement 121,  "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived  Assets to Be Disposed Of". The adoption of SFAS No. 141 and SFAS No.
142 did not have a  material  effect  on the  Company's  consolidated  financial
statements  other than providing  enhanced  disclosures  for mortgage  servicing
rights. As of January 1, 2002, the Company had no goodwill and had no intangible
assets related to deposit and branch purchase acquisitions.

     SFAS No. 144 also  supersedes the  accounting  and reporting  provisions of
FASB Opinion No. 30 (Reporting the Results of Operations - Reporting the Effects
of  Disposal  of a  Segment  of  a  Business,  and  Extraordinary,  Unusual  and
Infrequently Occurring Events and Transactions) for the disposal of a segment of
a  business.  However,  it retains the  requirement  in Opinion No. 30 to report
separately  discontinued  operations and extends the reporting to a component of
an entity  that  either  has been  disposed  of (by sale,  abandonment,  or in a
distribution  to owners) or is classified  as held for sale.  By broadening  the
presentation of discontinued  operations to include more disposal  transactions,
the FASB has enhanced  management's  ability to provide  information  that helps
financial statement users to assess the effects of disposal  transactions on the
ongoing  operations of an entity.  The  provisions of SFAS No. 144 are effective
for financial  statements  issued for fiscal years  beginning after December 15,
2001, and interim periods within those fiscal years. Adoption of SFAS No. 144 is
not expected to have a material impact on the Company's  consolidated  financial
statements.

ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     Market  risk is the  possible  chance of loss from  unfavorable  changes in
market prices and rates.  These changes may result in a reduction of current and
future period net interest income, which is the favorable spread earned from the
excess of interest income on  interest-earning  assets over interest  expense on
interest-bearing liabilities.

     The Company considers  interest rate risk to be its most significant market
risk, which could  potentially  have the greatest impact on operating  earnings.
The  structure  of the  Company's  loan and  deposit  portfolios  is such that a
significant decline in interest rates may adversely impact net market values and
net interest income.

     The Company  monitors whether material changes in market risk have occurred
since September 30, 2001. The Company does not believe that any material adverse
changes in market risk exposures occurred since September 30, 2001.

                                       21
<PAGE>

                           PART II. OTHER INFORMATION

     ITEM 1.  LEGAL PROCEEDINGS

     None

     ITEM 2.  CHANGES IN SECURITIES AND USE OF PROCEEDS

     None

     ITEM 3.  DEFAULTS UPON SENIOR SECURITIES

     None

     ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

     The Company's  Annual Meeting of Stockholders was held on January 29, 2002.
     At this  meeting  2,746,622  shares  of the  Company's  common  stock  were
     represented in person or by proxy.

     Stockholders voted in favor of the election of three nominees for director.
     The voting results for each nominee were as follows:

                                        Votes in Favor             Votes
               Nominee                   Of Election              Withheld

      Richard C. Keziah                  2,696,666                 49,956
      Ernest A. Koury, Jr.               2,696,666                 49,956
      Richard H. Shirley                 2,693,820                 52,802

     There were no broker nonvotes on the matter.


     ITEM 5. OTHER INFORMATION

     None.

     ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

     (a.) Exhibits. None.
          --------

     (b.) Reports on Form 8-K.  During the  quarter  ended March 31,  2002,  the
          -------------------
          registrant did not file any current reports on Form 8-K.


                                       22
<PAGE>
                                   SIGNATURES



     Pursuant to the  requirements  of the Exchange Act, the  registrant  caused
this  report to be  signed on its  behalf  by the  undersigned,  thereunto  duly
authorized.

                                   1ST STATE BANCORP, INC.


                                   /s/ James C. McGill
Date:  May 13, 2002                ---------------------------------------------
                                   James C. McGill
                                   President and Chief Executive Officer
                                   (Principal Executive Officer)


                                   /s/ A. Christine Baker
Date:  May 13, 2002                ---------------------------------------------
                                   A. Christine Baker
                                   Executive Vice President
                                   Treasurer and Secretary
                                   (Principal Financial and Accounting Officer)

                                       23