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 June 30, 2001


[ ]  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 July 31, 2001, the issuer had 3,289,607 shares of common stock issued
and outstanding.


<PAGE>



                                    CONTENTS

                                                                            PAGE
                                                                            ----

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

Item 1.  Financial Statements

         Consolidated Balance Sheets as of June 30, 2001 (unaudited)
           and September 30, 2000.............................................1

         Consolidated Statements of Income for the Three Months Ended
           June 30, 2001 and 2000 (unaudited).................................2

         Consolidated Statements of Income for the Nine Months Ended
           June 30, 2001 and 2000 (unaudited).................................3

         Consolidated Statements of Stockholders' Equity and
           Comprehensive Income for the Nine Months Ended June 30,
           2001 and 2000 (unaudited)..........................................4

         Consolidated Statements of Cash Flows for the Nine Months Ended
           June 30, 2001 and 2000 (unaudited).................................5

         Notes to Consolidated Financial Statements...........................7

Item 2.  Management's Discussion and Analysis of Financial Condition
           and Results of Operations.........................................10

Item 3.  Quantitative and Qualitative Disclosures About Market Risk..........16


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

Item 1.  Legal Proceedings...................................................17

Item 2.  Changes in Securities and Use of Proceeds...........................17

Item 3.  Defaults Upon Senior Securities.....................................17

Item 4.  Submission of Matters to a Vote of Security Holders.................17

Item 5.  Other Information...................................................17

Item 6.  Exhibits and Reports on Form 8-K....................................17


SIGNATURES...................................................................18


<PAGE>

                     1ST STATE BANCORP, INC. AND SUBSIDIARY

                           CONSOLIDATED BALANCE SHEETS

                      JUNE 30, 2001 AND SEPTEMBER 30, 2000

                                 (IN THOUSANDS)
<TABLE>
<CAPTION>
                                                                                 AT                AT
                                                                               JUNE 30,        SEPTEMBER 30,
                                                                                2001               2000
                                                                             ------------      -------------
                                                                             (Unaudited)
<S>                                                                            <C>                  <C>
                                      ASSETS

Cash and cash equivalents                                                      $ 23,371             33,107
Investment securities:
     Held to maturity (fair value of $25,852 and $65,173
         at June 30, 2001 and September 30, 2000, respectively)                  25,660             67,232
     Available for sale (cost of $54,399 and $10,019
         at June 30, 2001 and September 30, 2000, respectively)                  54,330              9,752
Loans held for sale, at lower of cost or fair value                               3,251              5,533
Loans receivable (net of allowance for loan losses of $3,553
    and $3,536 at June 30, 2001 and September 30, 2000,
    respectively)                                                               222,493            223,595
Real estate owned                                                                 1,981               --
Federal Home Loan Bank stock, at cost                                             1,650              1,650
Premises and equipment                                                            8,552              8,453
Accrued interest receivable                                                       2,231              2,653
Other assets                                                                      3,221              3,552
                                                                               --------           --------
          Total assets                                                         $346,740            355,527
                                                                               ========           ========

                LIABILITIES AND STOCKHOLDERS' EQUITY

Liabilities:
  Deposit accounts                                                              258,843            254,405
  Advances from Federal Home Loan Bank                                           20,000             20,000
  Advance payments by borrowers for property taxes and insurance                    684                151
  Dividend payable                                                                  263             17,270
  Other liabilities                                                               4,789              4,492
                                                                               --------           --------
          Total liabilities                                                     284,579            296,318
                                                                               --------           --------

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                                                    35,581             35,587
   Unearned ESOP shares                                                          (4,541)            (4,950)
   Unearned compensation - management recognition plan                             (713)            (1,296)
   Deferred compensation                                                          4,025              2,679
   Treasury stock for deferred compensation                                      (4,025)            (2,679)
   Retained income - substantially restricted                                    31,843             29,999
   Accumulated other comprehensive loss - net unrealized
        loss on investment securities available for sale                            (42)              (164)
                                                                               --------           --------
        Total stockholders' equity                                               62,161             59,209
                                                                               --------           --------

        Total liabilities and stockholders' equity                             $346,740            355,527
                                                                               ========           ========
</TABLE>

See accompanying notes to the consolidated financial statements.

                                       1
<PAGE>

                     1ST STATE BANCORP, INC. AND SUBSIDIARY

                        CONSOLIDATED STATEMENTS OF INCOME

                FOR THE THREE MONTHS ENDED JUNE 30, 2001 AND 2000

                      (IN THOUSANDS, EXCEPT PER SHARE DATA)

                                   (UNAUDITED)

<TABLE>
<CAPTION>
                                                                       FOR THE THREE MONTHS ENDED
                                                                                 JUNE 30,
                                                                           2001              2000
                                                                       ----------          -------
<S>                                                                    <C>                   <C>
Interest income:
   Interest and fees on loans                                          $    4,625            4,722
   Interest and dividends on investments                                    1,182            1,380
   Overnight deposits                                                         230              178
                                                                       ----------          -------
         Total interest income                                              6,037            6,280
                                                                       ----------          -------
Interest expense:
    Deposit accounts                                                        2,725            2,564
    Borrowings                                                                273              391
                                                                       ----------          -------
         Total interest expense                                             2,998            2,955
                                                                       ----------          -------
         Net interest income                                                3,039            3,325

Provision for loan losses                                                      60               60
                                                                       ----------          -------
         Net interest income after provision for loan losses                2,979            3,265
                                                                       ----------          -------
Other income:
   Service fees on loans sold                                                  21               23
   Customer service fees                                                      204              149
   Commissions from sales of annuities and mutual funds                       240              128
   Mortgage banking income, net                                               338               80
   Other                                                                       57               51
                                                                       ----------          -------
         Total other income                                                   860              431
                                                                       ----------          -------
Operating expenses:
   Compensation and related benefits                                        1,616            2,075
   Occupancy and equipment                                                    336              263
   Deposit insurance premiums                                                  12               12
   Real estate operations, net                                                 30             (149)
   Other expenses                                                             455              408
                                                                       ----------          -------
         Total operating expenses                                           2,449            2,609
                                                                       ----------          -------

         Income before income taxes                                         1,390            1,087

Income taxes                                                                  497              380
                                                                       ----------          -------
         Net income                                                    $      893              707
                                                                       ==========         ========
         Earnings per share:

         Basic                                                         $      0.29        $   0.24
         Diluted                                                       $      0.28        $   0.24
</TABLE>

See accompanying notes to the consolidated financial statements.

                                       2
<PAGE>

                     1ST STATE BANCORP, INC. AND SUBSIDIARY

                        CONSOLIDATED STATEMENTS OF INCOME

                FOR THE NINE MONTHS ENDED JUNE 30, 2001 AND 2000

                      (IN THOUSANDS, EXCEPT PER SHARE DATA)

                                   (UNAUDITED)
<TABLE>
<CAPTION>
                                                                          FOR THE NINE MONTHS ENDED
                                                                                   JUNE 30,
                                                                            2001             2000
                                                                        -----------       ----------
<S>                                                                     <C>                <C>
Interest income:
   Interest and fees on loans                                           $    14,642           13,556
   Interest and dividends on investments                                      3,517            4,284
   Overnight deposits                                                           629              384
                                                                        -----------       ----------
         Total interest income                                               18,788           18,224
                                                                        -----------       ----------
Interest expense:
    Deposit accounts                                                          8,715            7,334
    Borrowings                                                                  853            1,112
                                                                        -----------       ----------
         Total interest expense                                               9,568            8,446
                                                                        -----------       ----------
         Net interest income                                                  9,220            9,778

Provision for loan losses                                                       180              180
                                                                        -----------       ----------
         Net interest income after provision for loan losses                  9,040            9,598
                                                                        -----------       ----------
Other income:
   Service fees on loans sold                                                    63               67
   Customer service fees                                                        522              431
   Commissions from sales of annuities and mutual funds                         459              323
   Mortgage banking income,  net                                                658               22
   Other                                                                        141              136
                                                                        -----------       ----------
         Total other income                                                   1,843              979
                                                                        -----------       ----------
Operating expenses:
   Compensation and related benefits                                          4,589            4,359
   Occupancy and equipment                                                      944              764
   Deposit insurance premiums                                                    37               58
   Real estate operations, net                                                   36             (149)
   Other expenses                                                             1,292            1,066
                                                                        -----------       ----------
         Total operating expenses                                             6,898            6,098
                                                                        -----------       ----------
         Income before income taxes                                           3,985            4,479

Income taxes                                                                  1,416            1,565
                                                                        -----------       ----------
         Net income                                                     $     2,569            2,914
                                                                        ===========       ==========
         Earnings per share:
         Basic                                                          $      0.85       $     0.99
         Diluted                                                        $      0.81       $     0.98

</TABLE>

See accompanying notes to the consolidated financial statements


                                       3
<PAGE>

                             1ST STATE BANCORP, INC.
    CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME
          FOR THE NINE MONTHS ENDED JUNE 30, 2001 AND 2000 (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, 1999                    $    32         49,216        (4,470)            --           2,373

Comprehensive income:
     Net income                                        --            --            --             --              --
     Other comprehensive income-unrealized
       loss on securities available-for-sale
       net of income taxes of $61                      --            --            --             --              --


Total comprehensive income

Shares issued for MRP                                  1          2,331            --         (2,332)             --
Release of ESOP shares                                 --           (11)          423             --              --
Deferred compensation                                  --            --            --             --             230
Treasury stock held for deferred
    compensation                                       --            --            --             --              --
Vesting of MRP shares                                  --            --            --            842              --
Cash dividend declared                                 --            --            --             --              --
Cash dividend on unallocated ESOP shares               --            --            --             --              --
                                                ---------    ----------   -----------   ------------    ------------
Balance at June 30, 2000                        $      33        51,536        (4,047)        (1,490)          2,603
                                                =========    ==========   ===========   =============   ============


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 $76                      --            --            --             --              --


Total comprehensive income
Release of ESOP shares                                 --            (6)          409             --              --
Deferred compensation                                  --            --            --             --           1,346
Treasury stock held for deferred
    compensation                                       --            --            --             --              --
MRP share amortization                                 --            --            --            583              --
Cash dividend declared                                 --            --            --             --              --
Cash dividend on unallocated ESOP shares               --            --            --             --              --
                                                ---------    ----------   -----------   ------------    ------------
Balance at June 30, 2001                        $      33        35,581        (4,541)          (713)          4,025
                                                =========    ==========   ===========   ============    ============
<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, 1999                             (2,373)          26,960             (123)       71,615

Comprehensive income:
     Net income                                               --            2,914               --         2,914
     Other comprehensive income-unrealized
       loss on securities available-for-sale
       net of income taxes of $61                             --               --             (100)         (100)
                                                                                                        --------

Total comprehensive income                                                                                 2,814

Shares issued for MRP                                         --               --               --            --
Release of ESOP shares                                        --               --               --           412
Deferred compensation                                         --               --               --           230
Treasury stock held for deferred
    compensation                                            (230)              --               --          (230)
Vesting of MRP shares                                         --               --               --           842
Cash dividend declared                                        --             (769)              --          (769)
Cash dividend on unallocated ESOP shares                      --               62               --            62
                                                    ------------   --------------    -------------      --------
Balance at June 30, 2000                                  (2,603)          29,167             (223)       74,976
                                                    ============   ==============    =============      ========


Balance at September 30, 2000                             (2,679)          29,999             (164)       59,209

Comprehensive income:
     Net income                                               --            2,569               --         2,569
     Other comprehensive income-unrealized
       gain on securities available-for-sale
       net of income taxes of $76                             --               --               122          122
                                                                                                        --------

Total comprehensive income                                                                                 2,691
Release of ESOP shares                                        --               --               --           403
Deferred compensation                                         --               --               --         1,346
Treasury stock held for deferred
    compensation                                          (1,346)              --               --        (1,346)
MRP share amortization                                        --               --               --           583
Cash dividend declared                                        --             (789)              --          (789)
Cash dividend on unallocated ESOP shares                      --               64               --            64
                                                    ------------   --------------     ------------      --------
Balance at June 30, 2001                                  (4,025)          31,843              (42)       62,161
                                                    ============   ==============     ============      ========
</TABLE>


See accompanying notes to the consolidated financial statements.



                                       4
<PAGE>

                     1ST STATE BANCORP, INC. AND SUBSIDIARY

                      CONSOLIDATED STATEMENTS OF CASH FLOWS

                FOR THE NINE MONTHS ENDED JUNE 30, 2001 AND 2000

                                   (UNAUDITED)

                                 (IN THOUSANDS)
<TABLE>
<CAPTION>
                                                                                  FOR THE NINE MONTHS ENDED
                                                                                          JUNE 30,
                                                                                    2001               2000
                                                                                  --------           -------
<S>                                                                               <C>                  <C>
Cash flows from operating activities:
   Net income                                                                     $  2,569             2,914
   Adjustment to reconcile net income to net cash provided by
       operating activities:
           Provision for loan losses                                                   180               180
           Depreciation                                                                469               360
           Deferred income tax                                                        (101)               84
           Gain on sale of real estate owned                                            --               149
           Amortization of premiums and discounts, net                                 (18)              (23)
           Release of  ESOP shares                                                     403               412
           Vesting of MRP shares                                                       583               842
           Loan origination fees and unearned discounts
               deferred, net of current amortization                                     6                56
           Net loss on sale of loans                                                   205               425
           Proceeds from loans held for sale                                        37,260            14,324
           Originations of loans held for sale                                     (35,183)          (13,364)
           Decrease (increase) in other assets                                         356              (787)
           Decrease in accrued interest receivable                                     422               215
           Increase (decrease) in other liabilities                                    297              (578)
                                                                                  --------           -------
           Net cash provided by operating activities                                 7,448             5,209
                                                                                  --------           -------

Cash flows provided by (used in) investing activities:
    Purchase of FHLB stock                                                              --              (681)
    Redemption of FHLB stock                                                            --               290
    Purchases of investment securities held to maturity                               (661)           (3,996)
    Purchase of investment securities available for sale                           (50,528)               --
    Proceeds from maturities of investment securities available for sale             6,148             2,081
    Proceeds from maturities of investment securities
        held to maturity                                                            42,251            19,113
    Proceeds from sale of real estate owned                                             --              (149)
    Net increase in loans receivable                                                (1,065)          (22,489)
    Purchases of premises and equipment                                               (568)             (265)
                                                                                  --------           -------
                   Net cash used in investing activities                            (4,423)           (6,096)
                                                                                  --------           -------

                                                                                                  (Continued)
</TABLE>

                                       5
<PAGE>


                     1ST STATE BANCORP, INC. AND SUBSIDIARY

               CONSOLIDATED STATEMENTS OF CASH FLOWS - CONTINUED

                FOR THE NINE MONTHS ENDED JUNE 30, 2001 AND 2000

                                  (UNAUDITED)

                                 (IN THOUSANDS)

<TABLE>
<CAPTION>
                                                                                  FOR THE NINE MONTHS ENDED
                                                                                          JUNE 30,
                                                                                  ----------------------------
                                                                                    2001               2000
                                                                                  --------           -------
<S>                                                                               <C>                <C>
Cash flows from financing activities:
   Net increase in deposits                                                       $  4,438            $  9,730
   Advances from the Federal Home Loan Bank                                          5,000              36,000
   Repayments of advances from Federal Home Loan Bank                               (5,000)            (28,000)
   Return of capital dividend payment                                              (17,007)                 --
   Dividends paid on common stock                                                     (725)               (707)
   Increase in advance payments by borrowers for
     property taxes and insurance                                                      533                 525
                                                                                  --------            --------
   Net cash (used in)  provided by  financing activities                           (12,761)             17,548
                                                                                  --------            --------

        Net (decrease) increase in cash and cash equivalents                        (9,736)             16,661

Cash and cash equivalents at beginning of period                                    33,107              15,657
                                                                                  --------            --------
Cash and cash equivalents at end of period                                        $ 23,371            $ 32,318
                                                                                  ========            ========
Payments are shown below for the following:
       Interest                                                                   $  9,446            $  8,404
                                                                                  ========            ========
       Income taxes                                                               $  1,100            $  2,112
                                                                                  ========            ========
Noncash investing and financing activities:
     Deferred compensation to be settled in Company's stock                       $  1,346            $    230
                                                                                  ========            ========
     Unrealized gains (losses) on investment securities
          available for sale                                                      $    198            $   (161)
                                                                                  ========            ========
     Cash dividends declared but not paid                                         $    244            $    238
                                                                                  ========            ========
     Cash dividends on unallocated ESOP shares, used to repay the
          Company's loan to ESOP, and on unallocated MRP shares                   $     64            $     62
                                                                                  ========            ========
     Transfer from loans held for sale to loans receivable                        $    686            $  5,099
                                                                                  ========            ========
     Transfer of land from other assets to premises and equipment                 $     --            $    545
                                                                                  ========            ========
     Transfer from loans to real estate acquired in settlement of loans           $  1,981            $     --
                                                                                  ========            ========
</TABLE>

See accompanying notes to consolidated financial statements.


                                       6
<PAGE>
                     1ST STATE BANCORP, INC. AND SUBSIDIARY

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                JUNE 30, 2001 (UNAUDITED) AND SEPTEMBER 30, 2000

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,  2000,  which is
derived from the September 30, 2000 audited consolidated  financial  statements)
have been prepared in accordance with generally accepted  accounting  principles
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 generally accepted  accounting  principles
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 nine month periods ended June
30, 2001 are not necessarily indicative of the results of operations that may be
expected for the year ended  September 30, 2001. The preparation of consolidated
financial statements in accordance with generally accepted accounting principles
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.

NOTE 3.  EARNINGS PER SHARE

     The Company's basic earnings per share were computed by dividing net income
by the weighted average shares outstanding,  excluding ESOP and MRP benefit plan
shares not  committed  to be  released or granted.  Diluted  earnings  per share
includes the  potentially  dilutive  effects of the Company's  benefit  plans. A
reconciliation  of the denominators of the basic and diluted EPS computations is
as follows:
<TABLE>
<CAPTION>
                                                                                    Three Months Ended
                                                                                         June 30,
                                                                                  2001             2000
                                                                               ----------       ----------
         <S>                                                                    <C>              <C>
         Average shares issued and outstanding                                  3,163,125        3,163,125
         Add: weighted average vested MRP shares issued                            53,620           11,458
         Less: weighted average unallocated ESOP shares                          (184,207)        (212,741)
                                                                               ----------       ----------

         Average shares for basic earnings per share                            3,032,538        2,961,842

         Add: weighted average unvested MRP shares                                 72,862           22,913

         Add: potential common stock pursuant to stock
               option plan  (See Note 7)                                           86,684           16,312
                                                                               ----------       ----------
         Average shares for diluted earnings per share                          3,192,084        3,001,067
                                                                               ==========       ==========
</TABLE>
                                       7
<PAGE>
<TABLE>
<CAPTION>
                                                                                    Nine Months Ended
                                                                                         June 30,
                                                                                  2001             2000
                                                                               ----------       ----------
         <S>                                                                    <C>              <C>
         Average shares issued and outstanding                                  3,163,125        3,163,125
         Add: weighted average vested MRP shares issued                            46,010            3,833
         Less: weighted average unallocated ESOP shares                          (191,252)        (220,007)
                                                                                ---------        ---------

         Average shares for basic earnings per share                            3,017,883        2,946,951

         Add:  weighted average unvested MRP shares                                80,472            7,665

         Add: potential common stock pursuant to stock
               option plan  (See Note 7)                                           72,147           16,312
                                                                                ---------        ---------
         Average shares for diluted earnings per share                          3,170,502        2,970,928
                                                                                =========        =========
</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.  During the three
and nine  months  ended June 30,  2001,  7,045 and  21,134  shares of stock were
committed to be released and approximately $143,000 and $403,000 of compensation
expense was recognized,  respectively.  Compensation expense related to the ESOP
for the three and nine months  ended June 30, 2000 was  $135,000  and  $411,000,
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.  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  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 as additional amounts are deferred.  Refer to the Company's
notes to  consolidated  financial  statements,  incorporated by reference in the
Company's  2000 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 nine months  ended June
30, 2001 was $68,000 and  $203,000,  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 and annually thereafter.  Compensation expense of $260,000 and
$787,000  associated  with the MRP was recorded during the three and nine months
ended June 30, 2001.  Compensation  expense of $842,000  associated with the MRP
was recorded in the three and nine months ended June 30, 2000.

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.

                                       8
<PAGE>

NOTE 8. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES

     In June  1998  the  Financial  Accounting  Standards  Board  (FASB)  issued
Statement of Financial  Accounting  Standards  (SFAS) No. 133,  "Accounting  for
Derivative  Instruments and Certain  Hedging  Activities." In June 1999 the FASB
issued SFAS No. 138, "Accounting for Certain Derivative  Instruments and Certain
Hedging  Activities,  an  Amendment  of SFAS 133." SFAS No. 133 and SFAS No. 138
require  that all  derivative  instruments  be recorded on the balance  sheet at
their  respective fair values.  Changes in the fair values of those  derivatives
will be reported in earnings or other comprehensive  income depending on the use
of the  derivative and whether the  derivative  qualifies for hedge  accounting.
SFAS No.  133 and SFAS No. 138 are  effective  for all  fiscal  quarters  of all
fiscal years beginning after June 30, 2000; the Company adopted SFAS No. 133, as
amended by SFAS No. 138, on October 1, 2000.

     On  October  1,  2000  and June  30,  2001,  the  Company  had no  embedded
derivative   instruments   requiring  separate  accounting   treatment  and  had
identified  fixed rate  conforming  loan  commitments  as its only  freestanding
derivative  instrument.  The  Company  does  not  currently  engage  in  hedging
activities.  The commitments to originate  fixed rate  conforming  loans totaled
$2,265,000  and  $1,114,000 at June 30, 2001 and October 1, 2000,  respectively.
The fair value of these  commitments was immaterial on these dates and therefore
the  adoption  of SFAS 133 on October 1, 2000 as well as the impact of  applying
SFAS  133 at June  30,  2001  was not  material  to the  Company's  consolidated
financial statements.



                                       9
<PAGE>

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.

COMPARISON OF FINANCIAL CONDITION AT JUNE 30, 2001 AND SEPTEMBER 30, 2000

     Total  assets  decreased  by $8.8  million or 2.5% from  $355.5  million at
September  30,  2000 to  $346.7  million  at June 30,  2001.  The  decrease  was
primarily the result of the $17.0 million  return of capital  dividend which was
paid to  stockholders  on October 2, 2000  which was  partially  offset by asset
growth of $8.2 million during the nine months ended June 30, 2001.

     Investment  securities available for sale increased $44.5 million from $9.8
million at  September  30, 2000 to $54.3  million at June 30,  2001.  Investment
securities  held to  maturity  decreased  $41.5  million  from $67.2  million at
September 30, 2000 to $25.7 million at June 30, 2001. As market  interest  rates
fell during the nine months ended June 30, 2001, many of the Company's  callable
investment  securities  were  called  by the  issuers.  The  majority  of  these
investments  had been  classified  as held to maturity at the time of  purchase.
Most of the  investments  purchased  during the nine months  ended June 30, 2001
have been classified as available for sale to give the Company more  flexibility
in the future.

     Loans  receivable,  net  decreased by $1.1  million,  or 0.5%,  from $223.6
million at September 30, 2000 to $222.5 million at June 30, 2001. Loans held for
sale also decreased $2.2 million from $5.5 million at September 30, 2000 to $3.3
million at June 30, 2001.  With the lower  interest  rate  environment,  we have
continued  to sell most of the long  term  fixed  rate  mortgage  loans  that we
originate.  We sold $37.5 million in fixed rate  mortgage  loans during the nine
months ended June 30, 2001  compared to $14.7  million for the nine months ended
June 30, 2000.  We continue to  emphasize  commercial,  commercial  real estate,
consumer loans and equity lines of credit that carry variable rates and/or short
term  maturities.  At June 30, 2001,  commercial loans totaled $53.5 million and
account  for  23.7% of  gross  loans  compared  to $42.9  million  and  18.9% at
September  30,  2000.  One to four  family  residential  loans at June 30,  2001
totaled $89.8 million or 39.7% of gross loans compared to $97.6 million or 43.0%
at September 30, 2000.

     Deposits  increased  $4.4 million from $254.4 million at September 30, 2000
to $258.8  million at June 30,  2001.  Certificates  of deposit at June 30, 2001
totaled  $166.5  million or 64.3% of total  deposits.  At  September  30,  2000,
certificates of deposit  totaled $168.3 million or 66.2% of total  deposits.  We
continue to emphasize  transaction  accounts,  which carry lower  interest rates
than certificates of deposit. Transaction accounts increased $6.1 million during
the nine months ended June 30, 2001 which were offset by  certificate of deposit
runoff of $1.7 million.

     Stockholders'  equity  increased  by $3.0  million  from  $59.2  million at
September  30, 2000 to $62.2  million at June 30, 2001 as a result of net income
of $2.6  million,  release of ESOP shares of $403,000,  vesting of MRP shares of
$583,000,  and an increase in unrealized  gains on available for sale securities
of $122,000. These increases were offset by dividends declared of $725,000.

COMPARISON  OF  OPERATING  RESULTS FOR THE THREE  MONTHS ENDED JUNE 30, 2001 AND
2000

     Net Income.  We recorded net income of $893,000 for the quarter  ended June
30,  2001,  as  compared  to  $707,000  for the  quarter  ended  June 30,  2000,
representing an increase of $186,000,  or 26.3%. For the three months ended June
30,  2001  basic  and  diluted   earnings   per  share  were  $0.29  and  $0.28,
respectively.  The Company reported basic and diluted earnings per share for the
quarter  ended June 30,  2000 of $0.24 per  share.  The  increase  in net income
resulted primarily from increased other income and decreased  operating expenses
that were offset partially by decreased net interest income and increased income
taxes.  The decline in net interest income resulted from the decrease in average
earning  assets that  resulted  from the special  return of capital  dividend of
$17.0  million,  which was paid on October 2, 2000 and  decreased  net  interest
margins.  The  return  of  capital  dividend  decreased  the  ratio  of  average
interest-earning assets to average interest-bearing  liabilities from 127.1% for
the three  months  ended June 30, 2000 to 121.2% for the three months ended June
30, 2001.

     Net Interest Income.  Net interest income,  the difference between interest
earned  on  loans  and  investments   and  interest  paid  on   interest-bearing
liabilities,  decreased  by $286,000 or 8.6% for the three months ended June 30,
2001,  compared to the same quarter in the prior year. This decrease  reflects a
$243,000  decrease in interest  income and  $43,000  increase in total  interest
expense.  The average


                                       10
<PAGE>

net  interest  margin  decreased 35 basis points from 4.11% for the three months
ended June 30, 2000 to 3.76% for the quarter ended June 30, 2001.

     Interest Income. The decrease in interest income for the three months ended
June 30,  2001 was due to a decrease  of  $805,000  in average  interest-earning
assets compared to the same quarter in the prior year and a decrease in yield on
interest-earning  assets of 0.28% from 7.76% for the three months ended June 30,
2000 to 7.48% for the three months ended June 30, 2001. The decreased  volume of
average  interest-earning  assets  decreased  interest  income by  approximately
$16,000 and the  decreased  yield  decreased  interest  income by  approximately
$227,000.  An increase in average loans outstanding of $5.6 million coupled with
an  increase  in  average  interest-bearing  overnight  funds  of  $9.6  million
increased  interest-earning  assets for the quarter  compared to the prior year.
These  increases  were  offset by a  decrease  in average  investments  of $15.9
million. Average investments decreased to provide cash to pay the special return
of capital dividend.

     Interest Expense. Interest expense increased in the three months ended June
30,  2001 due to an increase in average  interest-bearing  liabilities  of $11.7
million which was partially offset by a decrease in the cost of interest-bearing
liabilities  of 14 basis  points from 4.64% for the three  months ended June 30,
2000 to 4.50%  for the  three  months  ended  June 30,  2001.  Average  deposits
increased by $18.8 million while  average FHLB advances  decreased  $7.1 million
for the three  months  ended June 30, 2001  compared to the same  quarter in the
prior year.  The  increase  in average  interest-bearing  liabilities  increased
interest  expense by  approximately  $136,000  while the decrease in the average
cost of interest-bearing liabilities decreased interest expense by approximately
$94,000.

     The following table presents average balances and average rates earned/paid
by the Company for the quarter ended June 30, 2001 compared to the quarter ended
June 30, 2000.
<TABLE>
<CAPTION>
                                                      THREE MONTHS ENDED                       THREE MONTHS ENDED
                                                         JUNE 30, 2001                           JUNE 30, 2000
                                                                       DOLLARS IN THOUSANDS
                                                 AVERAGE               YIELD/             AVERAGE                YIELD/
                                                 BALANCE    INTEREST    COST              BALANCE     INTEREST   COST
                                                 -------    --------   ------             -------     --------   ------
<S>                                              <C>          <C>      <C>                 <C>          <C>      <C>
Assets:
Loans receivable (1)                             228,239      4,625    8.11%               222,675      4,722    8.48%
Investment securities (2)                         73,962      1,182    6.39                 89,891      1,380    6.14
Interest-bearing overnight deposits               20,710        230    4.45                 11,154        178    6.40
                                                --------     ------    ----               --------     ------    ----
  Total interest-earning assets                  322,911      6,037    7.48                323,720      6,280    7.76
Non interest-earning assets                       23,327                                    16,570
                                                --------                                  --------
  Total assets                                   346,238                                   340,290

Liabilities and stockholders' equity:
Deposits                                         246,447      2,725    4.42%               227,603      2,564    4.51%
FHLB advances                                     20,000        273    5.45                 27,121        391    5.77
                                                --------     ------    ----               --------     ------    ----
  Total interest-earning liabilities             266,447      2,998    4.50                254,724      2,955    4.64
Non interest-earning liabilities                  18,040                                    12,444
                                                --------                                  --------
  Total liabilities                              284,487                                   267,168
Stockholders' equity                              61,751                                    73,122
                                                --------                                  --------
  Total liabilities and stockholders'            346,238                                   340,290
     equity

Net interest income                                           3,039                                     3,325
Interest rate spread                                                   2.98%                                     3.12%
Net interest margin (3)                                                3.76%                                     4.11%
Ratio of average interest-earning assets
  to average interest-bearing liabilities                            121.19%                                   127.09%
<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)      Represents net interest income divided by the average balance of
         interest-earning assets.
</FN>
</TABLE>
                                       11
<PAGE>
     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 June 30, 2001 and 2000. See further discussion at "Asset Quality".

     Other Income. Other income increased $429,000,  or 99.5%, from $431,000 for
the quarter ended June 30, 2000 to $860,000 for the quarter ended June 30, 2001.
Mortgage banking income,  net,  increased  $258,000 from $80,000 for the quarter
ended June 30, 2000 to $338,000 for the quarter ended June 30, 2001.  During the
quarter ended June 30, 2001, we sold fixed-rate  mortgage loans held for sale of
$19.8  million.  Of this total $17.6  million  was sold on a servicing  released
basis and the Company  recognized income of $277,000 on these loans.  During the
quarter ended June 30, 2001 we sold fixed rate  mortgages  held for sale of $2.2
million for which we retained the  servicing  of these  loans.  These loan sales
generated  income of $61,000.  During the quarter  ended June 30, 2000,  we sold
fixed-rate  mortgage loans held for sale of $5.1 million on a servicing released
basis and  recognized  income of $61,000  from these  loans.  During the quarter
ended  June 30,  2000,  the  Company  was able to record a nominal  recovery  of
$20,000  on its lower of cost or fair  value on loans  held for  sale.  Customer
service fees  increased  $55,000,  or 36.9% from  $149,000 for the quarter ended
June 30, 2000 to $204,000  for the quarter  ended June 30, 2001.  This  increase
results  primarily  from  growth  in the  number  of  transaction  accounts  and
increases in the Bank's service charges.  In addition,  during the quarter ended
June 30, 2001,  commissions  from sales of annuities and mutual funds  increased
$112,000 or 87.5% from  $128,000 for the quarter ended June 30, 2000 to $240,000
for the quarter  ended June 30, 2001.  This  increase  resulted  primarily  from
increased sales volumes.  Sales of annuity and mutual funds totaled $4.9 million
for the  quarter  ended June 30,  2001 as  compared  with $2.4  million  for the
previous year.

     Operating  Expenses.  Total  operating  expenses  were $2.5 million for the
quarter  ended June 30,  2001,  a decrease of  $160,000,  or 6.13% over the $2.6
million  recorded for the three months  ended June 30,  2000.  Compensation  and
related benefits expense decreased $500,000,  or 23.8% from $2.1 million for the
quarter ended June 30, 2000 to $1.6 million for the quarter ended June 30, 2001.
This  decrease was  primarily  the result of the MRP expense of $842,000 for the
quarter ended June 30, 2000. This expense  included  $777,000 from the immediate
1/3 vest of the shares  granted  under the MRP that was  implemented  on June 6,
2000.  MRP expense for the quarter ended June 30, 2001 was  $260,000.  Occupancy
and equipment  expense  increased $73,000 or 27.8% from $263,000 for the quarter
ended June 30, 2000 to $336,000  for the quarter  ended June 30,  2001.  Most of
this increase was depreciation expense from the new branch and the check imaging
hardware and  software,  which were not present in the same quarter in the prior
year.  Expenses  incurred in  operating  real estate  owned were $30,000 for the
three months  ended June 30, 2001  compared to a net gain on sale of real estate
owned of $149,000 for the three months  ended June 30,  2000.  The  increases in
other categories of operating  expenses generally are attributable to the growth
of the Company  including  the  operating  expenses  associated  with the Bank's
seventh  branch,  which  opened on  September  27,  2000.  We expect  that other
operating  expenses will continue to increase in subsequent  periods as a result
of increased cost associated with operating a public company.

     Income Tax Expense.  Income tax expense increased $117,000 from tax expense
of  $380,000  for the quarter  ended June 30,  2000 to $497,000  for the quarter
ended June 30, 2001.  The increase  resulted from a $303,000  increase in income
before  income  taxes.  The  effective  tax rates  were  35.8% and 35.0% for the
quarters ended June 30, 2001 and 2000, respectively.

COMPARISON OF OPERATING RESULTS FOR THE NINE MONTHS ENDED JUNE 30, 2001 AND 2000

     Net  Income.  We  recorded  net income of $2.6  million for the nine months
ended June 30, 2001,  as compared to $2.9 million for the nine months ended June
30, 2000,  representing  a decrease of $300,000,  or 10.3%.  For the nine months
ended June 30, 2001 basic and diluted  earnings  per share were $0.85 and $0.81,
respectively.  The Company reported basic and diluted earnings per share for the
nine months ended June 30, 2000 of $0.99 and $0.98 per share, respectively.  The
decrease in net income resulted primarily from decreased net interest income and
increased  operating  expenses  that were offset  partially by  increased  other
income and decreased  income taxes.  The decline in net interest income resulted
from (i) the decrease in average  earning  assets that resulted from the special
return on capital  dividend of $17.0 million,  which was paid on October 2, 2000
and (ii)  decreased  net  interest  margins.  The  return  of  capital  dividend
decreased   the   ratio  of   average   interest-earning   assets   to   average
interest-bearing liabilities from 126.8% for the nine months ended June 30, 2000
to 120.4% for the nine months ended June 30, 2001.

     Net Interest Income.  Net interest income,  the difference between interest
earned  on  loans  and  investments   and  interest  paid  on   interest-bearing
liabilities,  decreased  by $558,000 or 5.7% for the nine months  ended June 30,
2001, compared to the same nine months in the prior year. This decrease reflects
a $564,000  increase  in  interest  income that was more than offset by the $1.1
million  increase in total  interest  expense.  The average net interest  margin
decreased  27 basis points from 4.08% for the nine months ended June 30, 2000 to
3.81% for the nine months ended June 30, 2001.

     Interest Income.  The increase in interest income for the nine months ended
June 30, 2001 was due to an increase of $2.9 million in average interest-earning
assets  compared  to the same nine  months in the prior year and an  increase in
yield on  interest-earning  assets of 16 basis  points  from  7.61% for the nine
months ended June 30, 2000 to 7.77% for the nine months ended June 30, 2001. The
increased volume of average interest-earning assets increased interest income by
approximately  $168,000 and the increased  yield  increased  interest  income by
approximately  $396,000.  An  increase  in average  loans  outstanding  of $13.7
million


                                       12
<PAGE>

coupled  with an increase in average  interest-bearing  overnight  funds of $7.1
million  increased  interest-earning  assets for the nine months compared to the
prior  year.  These  increases  were  offset in part by a  decrease  in  average
investments of $17.9 million.  Average investments  decreased to provide cash to
pay the special return of capital dividend.

     Interest Expense.  Interest expense increased in the nine months ended June
30,  2001 due to an increase in average  interest-bearing  liabilities  of $15.8
million and an increase in the cost of interest-bearing  liabilities of 29 basis
points from 4.47% for the nine months  ended June 30, 2000 to 4.76% for the nine
months ended June 30, 2001.  Average  deposits  increased by $21.4 million while
average FHLB advances  decreased $5.6 million for the nine months ended June 30,
2001 compared to the same nine months in the prior year. The increase in average
interest-bearing   liabilities   increased  interest  expense  by  approximately
$529,000 while the increase in the average cost of interest-bearing  liabilities
increased interest expense by approximately $593,000.

     The following table presents average balances and average rates earned/paid
by the  Company for the nine  months  ended June 30,  2001  compared to the nine
months ended June 30, 2000.
<TABLE>
<CAPTION>
                                                      NINE MONTHS ENDED                       NINE MONTHS ENDED
                                                         JUNE 30, 2001                           JUNE 30, 2000
                                                                       DOLLARS IN THOUSANDS
                                                 AVERAGE               YIELD/             AVERAGE                YIELD/
                                                 BALANCE    INTEREST    COST              BALANCE     INTEREST   COST
                                                 -------    --------   ------             -------     --------   ------
<S>                                              <C>          <C>      <C>                 <C>          <C>      <C>
Assets:
Loans receivable (1)                             230,603      14,642    8.47%               216,877     13,556    8.33%
Investment securities (2)                         76,001       3,517    6.17                 93,863      4,284    6.09
Interest-bearing overnight deposits               15,722         629    5.33                  8,646        384    5.92
                                                --------     -------    ----               --------    -------    ----
  Total interest-earning assets                  322,326      18,788    7.77                319,386     18,224    7.61
Non interest-earning assets                       23,755                                     20,904
                                                --------                                   --------
  Total assets                                   346,081                                    340,290

Liabilities and stockholders' equity:
Deposits                                         247,034       8,715    4.70%               225,621      7,334    4.33%
FHLB advances                                     20,699         853    5.49                 26,325      1,112    5.63
                                                --------     -------    ----               --------    -------    ----
  Total interest-earning liabilities             267,733       9,568    4.76                251,946      8,446    4.47
Non interest-earning liabilities                  17,675                                     15,222
                                                --------                                   --------
  Total liabilities                              285,408                                    267,168
Stockholders' equity                              60,673                                     73,122
                                                --------                                   --------
  Total liabilities and stockholders'            346,081                                    340,290
     equity

Net interest income                                            9,220                                     9,778
Interest rate spread                                                    3.01%                                     3.14%
Net interest margin (3)                                                 3.81%                                     4.08%
Ratio of average interest-earning assets
  to average interest-bearing liabilities                             120.39%                                   126.77%
<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)      Represents net interest income divided by the average balance of
         interest-earning assets.
</FN>
</TABLE>

                                       13
<PAGE>


     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  $180,000 for both the nine months
ended June 30,  2001 and 2000.  During the fiscal 2001 we  foreclosed  on a $2.1
million loan  resulting in an increase to real estate  owned.  The fair value of
the  collateral  for  the  loan,  less  costs  to  sell,  was  determined  to be
approximately  $125,000  less  than the  balance  of the loan,  thus we  charged
$125,000  to the  allowance  for loan losses  during the quarter  ended June 30,
2001. See further discussion at "Asset Quality".

     Other Income. Other income increased $800,000,  or 80.0%, from $1.0 million
for the nine  months  ended June 30,  2000 to $1.8  million  for the nine months
ended June 30, 2001.  Mortgage  banking  income,  net  increased  $636,000  from
$22,000  for the nine months  ended June 30, 2000 to income of $658,000  for the
nine months ended June 30, 2001.  During the nine months ended June 30, 2001, we
sold  fixed-rate  mortgage  loans held for sale of $37.5 million and  recognized
income of $638,000 on the sale as well as a recovery  of $20,000  from  previous
lower of cost or fair value  adjustments on loans held for sale. During the nine
months ended June 30, 2000, we sold  fixed-rate  mortgage loans held for sale of
$14.7  million and  recognized  income of $179,000 from the sale of these loans;
however,  the  increase in  interest  rates  during this nine months  required a
$157,000  charge to  earnings  to record the loans held for sale at the lower of
cost or fair value.  Customer  service  fees  increased  $91,000,  or 21.1% from
$431,000 for the nine months ended June 30, 2000 to $522,000 for the nine months
ended June 30, 2001. This increase  results  primarily from growth in the number
of transaction  accounts and increased service charges. In addition,  during the
nine months ended June 30, 2001,  commissions from sales of annuities and mutual
funds  increased  $136,000 or 42.1% from $323,000 for the nine months ended June
30,  2000 to $459,000  for the nine months  ended June 30,  2001.  The  increase
resulted  from an increase in sales  volume.  Sales of annuity and mutual  funds
were $8.0  million for the nine months  ended June 30, 2001  compared  with $5.6
million in the same period of the prior year.

     Operating Expenses. Total operating expenses were $6.9 million for the nine
months  ended June 30,  2001,  an increase of  $800,000,  or 13.1% over the $6.1
million  recorded  for the nine months  ended June 30,  2000.  Compensation  and
related benefits expense increased  $200,000,  or 4.5% from $4.4 million for the
nine months  ended June 30, 2000 to $4.6  million for the nine months ended June
30, 2001.  This  increase was  primarily the result of increases in salaries and
benefits  as well as  additional  employees.  Occupancy  and  equipment  expense
increased  $180,000 or 23.6% from  $764,000  for the nine months  ended June 30,
2000 to $944,000 for the nine months ended June 30, 2001.  Most of this increase
was depreciation  expense from the new branch and the check imaging hardware and
software,  which  were not  present in the same nine  months in the prior  year.
Expenses  incurred in operating  the real estate owned were $36,000 for the nine
months  ended June 30, 2001  compared to a net gain on sale of real estate owned
of $149,000  for the nine months  ended June 30,  2000.  The  increases in other
categories of operating expenses generally are attributable to the growth of the
Company  including the operating  expenses  associated  with the Bank's  seventh
branch,  which opened on  September  27,  2000.  We expect that other  operating
expenses  will  continue  to  increase  in  subsequent  periods  as a result  of
increased cost associated with operating a public company.

     Income Tax Expense.  Income tax expense decreased $200,000 from tax expense
of $1.6  million for the nine months ended June 30, 2000 to $1.4 million for the
nine months ended June 30, 2001. The decrease  resulted from a $494,000 decrease
in income before income taxes.  The effective tax rates were 35.5% and 34.9% for
the nine months ended June 30, 2001 and 2000, respectively. The higher effective
tax rate results from the losses at the holding company level for which no state
tax benefit is received.

ASSET QUALITY

     At June 30, 2001, the Company's non-performing assets (nonaccrual loans and
real estate owned) were $3.1 million or 0.89% of total assets.  At September 30,
2000,   non-performing   assets   consisted   entirely  of  loans,   which  were
approximately $2.9 million or 0.82% of total assets. At June 30, 2001,  impaired
loans  totaled $2.5  million as defined by  Statement  of  Financial  Accounting
Standards No. 114,  "Accounting by Creditors for Impairment of a Loan," compared
to $2.6 million at  September  30,  2000.  The  impaired  loans at June 30, 2001
result from two  borrowers  and are  collateralized  primarily by real estate in
Alamance  County.  Impaired loans totaling  $434,000 are on non-accrual  status.
Interest  income of $57,000 has been recorded on impaired loans in the three and
nine months  ended June 30, 2001.  The related  reserve for loan losses on these
loans totaled  $45,000.  The average  carrying  value of impaired loans was $1.0
million and $1.5  million  during the three and nine months ended June 30, 2001,
respectively.  All amounts  received  on  non-accrual  impaired  loans have been
recorded as a reduction of the  principal  balance of the loan. At June 30, 2001
real estate owned totaled $2.0 million,  compared to zero at September 30, 2000.
The increase is  attributable to foreclosing on two loans secured by real estate
during the current fiscal year.  Within real estate owned is a 53 unit apartment
complex in  Burlington,  N. C. with a carrying  value of $1.9  million.  We have
engaged a  management  company to rent and operate the complex  while we own it.
The Company is undertaking  steps to liquidate the real estate owned properties.
The Bank's net  chargeoffs for the nine months ended June 30, 2001 and 2000 were
$163,000 and  $160,000,  respectively.  The  allowance  for loan losses was $3.6
million or 1.57% of outstanding  loans at June 30, 2001.  This compares to 1.56%
at September 30, 2000 and 1.54% at June 30, 2000.


                                       14
<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 June 30, 2001, we had $ 3.9 million in
classified  assets  consisting  of $1.9  million in  substandard  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 June 30,  2001,  we have  identified  approximately  $3.1 million in
assets classified as special mention and $34.1 million as watch. Included in the
watch asset total are five loans with an aggregate  outstanding  balance of $4.4
million at June 30, 2001 to a company  affiliated with one of our directors.  In
addition,  the director has the ability to borrow an additional  $77,000 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 June 30,  2001,  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 July 2001,  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
future  periods.  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
June 30, 2001, 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 June 30, 2001, cash and cash equivalents
totaled $23.4 million. We have other sources of liquidity should we need
additional funds. During the nine months ended June 30, 2001 and 2000, we sold
loans totaling $37.5 million and $14.7 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
$57.6 million at June 30, 2001.

     We  anticipate  that we will have  sufficient  funds  available to meet our
current  commitments.  At June 30, 2001, we had $7.4 million in  commitments  to
originate  new loans,  $62.6  million in unfunded  commitments  to extend credit
under  existing  equity  lines and  commercial  lines of credit and  $256,000 in
standby letters of credit. At June 30, 2001,  certificates of deposit, which are
scheduled to mature within one year,  totaled $139.4 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 June 30, 2001 and is
deemed to be "well capitalized."

     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 June 30, 2001,  the Company
was in compliance with the capital requirements of the Federal Reserve.

ACCOUNTING ISSUES

     In June  1998  the  Financial  Accounting  Standards  Board  (FASB)  issued
Statement of Financial  Accounting  Standards  (SFAS) No. 133,  "Accounting  for
Derivative  Instruments and Certain  Hedging  Activities." In June 2000 the FASB
issued SFAS No. 138, "Accounting for Certain Derivative  Instruments and Certain
Hedging  Activities,  an  Amendment  of SFAS 133." SFAS No. 133 and SFAS No. 138
require  that all  derivative  instruments  be recorded on the balance  sheet at
their  respective fair values.  Changes in the fair values of those  derivatives
will be reported in earnings or other comprehensive  income depending on the use
of the  derivative and whether the  derivative  qualifies for hedge  accounting.
SFAS No.  133 and SFAS No. 138 are  effective  for all  fiscal  quarters  of all
fiscal years beginning after June 30, 2000; the Company adopted SFAS No. 133, as
amended by SFAS No. 138, on October 1, 2000.


                                       15
<PAGE>
     On  October  1,  2000  and June  30,  2001,  the  Company  had no  embedded
derivative   instruments   requiring  separate  accounting   treatment  and  had
identified  fixed rate  conforming  loan  commitments  as its only  freestanding
derivative  instrument.  The  Company  does  not  currently  engage  in  hedging
activities.  The commitments to originate  fixed rate  conforming  loans totaled
$2,265,000  and  $1,114,000 at June 30, 2001 and October 1, 2000,  respectively.
The fair value of these  commitments  was less than $ 10,000 on these  dates and
therefore  the  adoption of SFAS 133 on October 1, 2000 as well as the impact of
applying  SFAS  133  at  June  30,  2001  was  not  material  to  the  Company's
consolidated financial statements.

     The FASB has issued  Statement of Financial  Accounting  Standards No. 140,
"Accounting for Transfers and Servicing of Financial Assets and  Extinguishments
of Liabilities"  ("SFAS 140"). This statement replaces SFAS No. 125 ("Accounting
for  Transfers  and  Servicing  of  Financial  Assets  and   Extinguishments  of
Liabilities") and revises the standards for accounting for  securitizations  and
other  transfers  of  financial  assets  and  collateral  and  requires  certain
disclosures,  but it carries over most of the provisions of SFAS No. 125 without
consideration.  SFAS No. 140 provides  accounting  and  reporting  standards for
transfers and servicing of financial assets and  extinguishments of liabilities,
based on application of a financial components approach that focuses on control.
SFAS No. 140 is effective for  transfers  and servicing of financial  assets and
extinguishments of liabilities  occurring after March 2001. Adoption of SFAS No.
140 is not  expected  to have a material  impact on the  Company's  consolidated
financial statements.

     The FASB has issued Statements of Accounting  Standards No. 141,  "Business
Combinations"  ("SFAS 141") and No. 142,  "Goodwill and Other Intangible Assets"
("SFAS 142").

     SFAS 141 requires  that the purchase  method of  accounting be used for all
business  combinations  initiated  after June 30,  2001 as well as all  purchase
method  business  combinations  completed after June 30, 2001. SFAS 141 requires
that intangible  assets that meet certain criteria be recognized as assets apart
from  goodwill.  SFAS 142  addresses  financial  accounting  and  reporting  for
acquired goodwill and other intangible assets. SFAS 142 addresses how intangible
assets that are acquired  individually  or with a group of other assets (but not
those acquired in a business  combination)  should be accounted for in financial
statements  upon their  acquisition.  SFAS 142 also  addresses  how goodwill and
other  intangible  assets should be accounted for after they have been initially
recognized  in the  financial  statements.  SFAS 142 is  required  to be applied
starting  with  fiscal  years  beginning  after  December  15,  2001  and  early
application  is permitted for entities with fiscal years  beginning  after March
31,  2001,  under  certain  conditions.   Impairment  losses  for  goodwill  and
intangible  assets with  indefinite  useful  lives that arise due to the initial
application of SFAS 142 (resulting from a transitional  impairment  test) are to
be  reported  as the  cumulative  effect  of a change in  accounting  principle.
Adoption of SFAS 141 and SFAS 142 are 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, 2000. The Company does not believe that any material adverse
changes in market risk exposures occurred since September 30, 2000.



                                       16
<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

         None

         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 June 30,  2001,
                  -------------------
                  the registrant  did not file any current reports on Form 8-K.


                                       17
<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:  August 13, 2001              --------------------------------------------
                                    James C. McGill
                                    President and Chief Executive Officer
                                    (Principal Executive Officer)


                                    /s/ A. Christine Baker
Date:  August 13, 2001              --------------------------------------------
                                    A. Christine Baker
                                    Executive Vice President
                                    Treasurer and Secretary
                                    (Principal Financial and Accounting Officer)



                                       18