UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C. 20549




FORM
10-Q








(Mark
One)


þ
              QUARTERLY REPORT PURSUANT TO
      SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE
      QUARTERLY PERIOD ENDED September 30,
2008
 
 o
              TRANSITION REPORT PURSUANT TO
      SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
      1934


Commission
file number 000-25141




METROCORP
BANCSHARES, INC.


(Exact
name of registrant as specified in its charter)





Texas
                76-0579161(State
      or other jurisdiction of
                (I.R.S.
      Employer Identification No.)incorporation
      or organization)





9600
Bellaire Boulevard, Suite 252


Houston,
Texas 77036


(Address
of principal executive offices including zip code)





(713) 776-3876


(Registrant’s
telephone number, including area code)





Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days.  Yes R     No
£




Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
definitions of “accelerated filer,” “large accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.





Large
      Accelerated Filer £
                  Accelerated
      Filer RNon-accelerated
      Filer £  (Do
      not check if a smaller reporting company)
                  Smaller
      Reporting Company £





Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act). Yes £    No
R




As of
November 03, 2008, the number of outstanding shares of Common Stock, par value
$1.00 per share, was 10,885,081.












PART
I





FINANCIAL
INFORMATION





Item 1.Condensed Consolidated Financial
Statements.





METROCORP
BANCSHARES, INC.


CONDENSED
CONSOLIDATED BALANCE SHEETS


(In
thousands, except share amounts)


(Unaudited)





September 30,
                      
                      
                      December 31,2008
                      
                      
                      2007ASSETSCash
      and due from banks
                      
                      $
                      27,528
                      
                      
                      $
                      28,889Federal
      funds sold and other short-term investments
                      
                      
                      23,127
                      
                      
                      
                      17,381Total
      cash and cash equivalents
                      
                      
                      50,655
                      
                      
                      
                      46,270Securities
      available-for-sale, at fair value
                      
                      
                      105,607
                      
                      
                      
                      137,749Other
      investments
                      
                      
                      29,550
                      
                      
                      
                      6,886Loans,
      net of allowance for loan losses of $15,723 and $13,125,
      respectively
                      
                      
                      1,325,924
                      
                      
                      
                      1,188,786Accrued
      interest receivable
                      
                      
                      5,724
                      
                      
                      
                      6,462Premises
      and equipment, net
                      
                      
                      7,841
                      
                      
                      
                      8,795Goodwill
                      
                      
                      21,827
                      
                      
                      
                      21,827Core
      deposit intangibles
                      
                      
                      568
                      
                      
                      
                      756Customers'
      liability on acceptances
                      
                      
                      6,134
                      
                      
                      
                      5,967Foreclosed
      assets, net
                      
                      
                      3,315
                      
                      
                      
                      1,474Other
      assets
                      
                      
                      37,344
                      
                      
                      
                      34,734Total
      assets
                      
                      $
                      1,594,489
                      
                      
                      $
                      1,459,706LIABILITIES
      AND SHAREHOLDERS' EQUITYDeposits:Noninterest-bearing
                      
                      $
                      207,769
                      
                      
                      $
                      209,223Interest-bearing
                      
                      
                      1,057,469
                      
                      
                      
                      981,820Total
      deposits
                      
                      
                      1,265,238
                      
                      
                      
                      1,191,043Junior
      subordinated debentures
                      
                      
                      36,083
                      
                      
                      
                      36,083Other
      borrowings
                      
                      
                      154,187
                      
                      
                      
                      99,796Accrued
      interest payable
                      
                      
                      1,355
                      
                      
                      
                      1,727Acceptances
      outstanding
                      
                      
                      6,134
                      
                      
                      
                      5,967Other
      liabilities
                      
                      
                      8,070
                      
                      
                      
                      7,680Total
      liabilities
                      
                      
                      1,471,067
                      
                      
                      
                      1,342,296Commitments
      and contingencies
                      
                      
                      –
                      
                      
                      
                      –Shareholders'
      equity:Common
      stock, $1.00 par value, 50,000,000 shares authorized; 10,994,965 shares
      issued and 10,878,287 shares and 10,825,837 shares outstanding at
      September 30, 2008 and December 31, 2007, respectively
                      
                      
                      10,995
                      
                      
                      
                      10,995Additional
      paid-in-capital
                      
                      
                      27,918
                      
                      
                      
                      27,386Retained
      earnings
                      
                      
                      87,489
                      
                      
                      
                      82,211Accumulated
      other comprehensive loss
                      
                      
                      (1,433
                      )
                      
                      
                      (786
                      )Treasury
      stock, at cost, 116,678 and 169,128 shares at September 30, 2008 and
      December 31, 2007, respectively
                      
                      
                      (1,547
                      )
                      
                      
                      (2,396
                      )Total
      shareholders' equity
                      
                      
                      123,422
                      
                      
                      
                      117,410Total
      liabilities and shareholders' equity
                      
                      $
                      1,594,489
                      
                      
                      $
                      1,459,706





See
accompanying notes to condensed consolidated financial
statements


2




METROCORP
BANCSHARES, INC.


CONDENSED
CONSOLIDATED STATEMENTS OF INCOME


(In
thousands, except per share amounts)


(Unaudited)




For
      the Three Months
                    
                    
                    For
      the Nine MonthsEnded
      September 30,
                    
                    
                    Ended
      September 30,2008
                    
                    
                    2007
                    
                    
                    2008
                    
                    
                    2007Interest
      income:Loans
                    
                    $
                    22,295
                    
                    
                    $
                    24,583
                    
                    
                    $
                    68,715
                    
                    
                    $
                    68,112Securities:Taxable
                    
                    
                    1,207
                    
                    
                    
                    1,708
                    
                    
                    
                    3,855
                    
                    
                    
                    5,340Tax-exempt
                    
                    
                    47
                    
                    
                    
                    73
                    
                    
                    
                    184
                    
                    
                    
                    234Other
      investments
                    
                    
                    235
                    
                    
                    
                    70
                    
                    
                    
                    417
                    
                    
                    
                    208Federal
      funds sold and other short-term investments
                    
                    
                    110
                    
                    
                    
                    252
                    
                    
                    
                    393
                    
                    
                    
                    2,070Total
      interest income
                    
                    
                    23,894
                    
                    
                    
                    26,686
                    
                    
                    
                    73,564
                    
                    
                    
                    75,964Interest
      expense:Time
      deposits
                    
                    
                    6,240
                    
                    
                    
                    8,335
                    
                    
                    
                    20,671
                    
                    
                    
                    24,098Demand
      and savings deposits
                    
                    
                    2,341
                    
                    
                    
                    3,054
                    
                    
                    
                    6,308
                    
                    
                    
                    7,082Junior
      subordinated debentures
                    
                    
                    519
                    
                    
                    
                    474
                    
                    
                    
                    1,559
                    
                    
                    
                    1,519Subordinated
      debentures and other borrowings
                    
                    
                    974
                    
                    
                    
                    164
                    
                    
                    
                    2,742
                    
                    
                    
                    753Total
      interest expense
                    
                    
                    10,074
                    
                    
                    
                    12,027
                    
                    
                    
                    31,280
                    
                    
                    
                    33,452Net
      interest income
                    
                    
                    13,820
                    
                    
                    
                    14,659
                    
                    
                    
                    42,284
                    
                    
                    
                    42,512Provision
      for loan losses
                    
                    
                    1,754
                    
                    
                    
                    1,168
                    
                    
                    
                    4,803
                    
                    
                    
                    1,773Net
      interest income after provision for loan losses
                    
                    
                    12,066
                    
                    
                    
                    13,491
                    
                    
                    
                    37,481
                    
                    
                    
                    40,739Noninterest
      income:Service
      fees
                    
                    
                    1,241
                    
                    
                    
                    1,379
                    
                    
                    
                    3,690
                    
                    
                    
                    3,857Loan-related
      fees
                    
                    
                    174
                    
                    
                    
                    183
                    
                    
                    
                    538
                    
                    
                    
                    511Letters
      of credit commissions and fees
                    
                    
                    264
                    
                    
                    
                    230
                    
                    
                    
                    826
                    
                    
                    
                    637(Loss)
      gain on securities transactions, net
                    
                    
                    (57
                    )
                    
                    
                    21
                    
                    
                    
                    91
                    
                    
                    
                    272Gain
      on sale of loans
                    
                    
                    43
                    
                    
                    
                    330
                    
                    
                    
                    288
                    
                    
                    
                    407Other
      noninterest income
                    
                    
                    367
                    
                    
                    
                    55
                    
                    
                    
                    1,106
                    
                    
                    
                    179Total
      noninterest income
                    
                    
                    2,032
                    
                    
                    
                    2,198
                    
                    
                    
                    6,539
                    
                    
                    
                    5,863Noninterest
      expenses:Salaries
      and employee benefits
                    
                    
                    6,236
                    
                    
                    
                    6,594
                    
                    
                    
                    18,653
                    
                    
                    
                    18,591Occupancy
      and equipment
                    
                    
                    2,091
                    
                    
                    
                    2,090
                    
                    
                    
                    6,032
                    
                    
                    
                    6,102Foreclosed
      assets, net
                    
                    
                    120
                    
                    
                    
                    39
                    
                    
                    
                    (212
                    )
                    
                    
                    (51
                    )Impairment
      on securities
                    
                    
                    119
                    
                    
                    
                    –
                    
                    
                    
                    1,659
                    
                    
                    
                    –Other
      noninterest expense
                    
                    
                    2,151
                    
                    
                    
                    2,007
                    
                    
                    
                    7,346
                    
                    
                    
                    7,199Total
      noninterest expenses
                    
                    
                    10,717
                    
                    
                    
                    10,730
                    
                    
                    
                    33,478
                    
                    
                    
                    31,841Income
      before provision for income taxes
                    
                    
                    3,381
                    
                    
                    
                    4,959
                    
                    
                    
                    10,542
                    
                    
                    
                    14,761Provision
      for income taxes
                    
                    
                    1,305
                    
                    
                    
                    1,751
                    
                    
                    
                    3,963
                    
                    
                    
                    5,390Net
      income
                    
                    $
                    2,076
                    
                    
                    $
                    3,208
                    
                    
                    $
                    6,579
                    
                    
                    $
                    9,371Earnings
      per common share:Basic
                    
                    $
                    0.19
                    
                    
                    $
                    0.29
                    
                    
                    $
                    0.61
                    
                    
                    $
                    0.86Diluted
                    
                    $
                    0.19
                    
                    
                    $
                    0.29
                    
                    
                    $
                    0.60
                    
                    
                    $
                    0.84Weighted
      average shares outstanding:Basic
                    
                    
                    10,842
                    
                    
                    
                    10,962
                    
                    
                    
                    10,824
                    
                    
                    
                    10,959Diluted
                    
                    
                    10,911
                    
                    
                    
                    11,132
                    
                    
                    
                    10,899
                    
                    
                    
                    11,161Dividends
      per common share
                    
                    $
                    0.04
                    
                    
                    $
                    0.04
                    
                    
                    $
                    0.12
                    
                    
                    $
                    0.12






3




METROCORP
BANCSHARES, INC.


CONDENSED
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME


(In
thousands)


(Unaudited)





For
      the Three Months
                
                
                For
      the Nine MonthsEnded
      September 30,
                
                
                Ended
      September 30,2008
                
                
                2007
                
                
                2008
                
                
                2007Net
      income
                
                $
                2,076
                
                
                $
                3,208
                
                
                $
                6,579
                
                
                $
                9,371Other
      comprehensive (loss) gain, net of tax:Unrealized
      (loss) gain on investment securities, net:Unrealized
      holding (loss) gain arising during the period
                
                
                (520
                )
                
                
                884
                
                
                
                (589
                )
                
                
                648Less:
      reclassification adjustment for (loss) gain included in net
      income
                
                
                (36
                )
                
                
                –
                
                
                
                58
                
                
                
                –Other
      comprehensive (loss) gain
                
                
                (484
                )
                
                
                884
                
                
                
                (647
                )
                
                
                648Total
      comprehensive income
                
                $
                1,592
                
                
                $
                4,092
                
                
                $
                5,932
                
                
                $
                10,019







METROCORP
BANCSHARES, INC.


CONDENSED
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS’ EQUITY


For
the Nine Months Ended September 30, 2008


(In
thousands)


(Unaudited)





Additional
                  
                  
                  
                  
                  
                  Accumulated
      Other
                  
                  
                  TreasuryCommon
      Stock
                  
                  
                  Paid-In
                  
                  
                  Retained
                  
                  
                  Comprehensive
                  
                  
                  StockShares
                  
                  
                  At
      Par
                  
                  
                  Capital
                  
                  
                  Earnings
                  
                  
                  Income
      (Loss)
                  
                  
                  At
      Cost
                  
                  
                  TotalBalance
      at December 31, 2007
                  
                  
                  10,826
                  
                  
                  $
                  10,995
                  
                  
                  $
                  27,386
                  
                  
                  $
                  82,211
                  
                  
                  $
                  (786
                  )
                  
                  $
                  (2,396
                  )
                  
                  $
                  117,410Re-issuance
      of treasury stock
                  
                  
                  52
                  
                  
                  
                  –
                  
                  
                  
                  (288
                  )
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  849
                  
                  
                  
                  561Stock-based
      compensation expense recognized in earnings
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  820
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  820Net
      income
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  
                  
                  
                  
                  6,579
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  6,579Other
      comprehensive income (loss)
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  (647
                  )
                  
                  
                  –
                  
                  
                  
                  (647
                  )Cash
      dividends ($0.12 per share)
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  (1,301
                  )
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  (1,301
                  )Balance
      at September 30, 2008
                  
                  
                  10,878
                  
                  
                  $
                  10,995
                  
                  
                  $
                  27,918
                  
                  
                  $
                  87,489
                  
                  
                  $
                  (1,433
                  )
                  
                  $
                  (1,547
                  )
                  
                  $
                  123,422





See
accompanying notes to condensed consolidated financial statements


4




METROCORP
BANCSHARES, INC


CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS


(In
thousands)


(Unaudited)





For
      the Nine Months Ended
                            September 30,2008
                          
                          
                          2007Cash
      flows from operating activities:Net
      income
                          
                          $
                          6,579
                          
                          
                          $
                          9,371Adjustments
      to reconcile net income to net cash provided by operating
      activities:Depreciation
                          
                          
                          1,605
                          
                          
                          
                          1,418Provision
      for loan losses
                          
                          
                          4,803
                          
                          
                          
                          1,773Impairment
      on securities
                          
                          
                          1,659
                          
                          
                          
                          –Gain
      on sale or call of securities, net
                          
                          
                          (91
                          )
                          
                          
                          –Gain
      on foreclosed assets
                          
                          
                          (447
                          )
                          
                          
                          (268
                          )Loss
      on sale and disposal of premises and equipment
                          
                          
                          10
                          
                          
                          
                          –Gain
      on sale of loans
                          
                          
                          288
                          
                          
                          
                          (272
                          )Amortization
      of premiums and discounts on securities
                          
                          
                          2
                          
                          
                          
                          47Amortization
      of deferred loan fees and discounts
                          
                          
                          (1,785
                          )
                          
                          
                          (1,999
                          )Amortization
      of core deposit intangibles
                          
                          
                          188
                          
                          
                          
                          261Stock-based
      compensation
                          
                          
                          820
                          
                          
                          
                          677Changes
      in:Accrued
      interest receivable
                          
                          
                          738
                          
                          
                          
                          (775
                          )Other
      assets
                          
                          
                          (2,319
                          )
                          
                          
                          (1,836
                          )Accrued
      interest payable
                          
                          
                          (372
                          )
                          
                          
                          54Other
      liabilities
                          
                          
                          387
                          
                          
                          
                          (360
                          )Net
      cash provided by operating activities
                          
                          
                          12,065
                          
                          
                          
                          8,091Cash
      flows from investing activities:Purchases
      of securities available-for-sale
                          
                          
                          (48,858
                          )
                          
                          
                          (2,079
                          )Purchase
      of bank owned life insurance
                          
                          
                          –
                          
                          
                          
                          (25,000
                          )Proceeds
      from sales of securities available-for-sale
                          
                          
                          4,849
                          
                          
                          
                          –Proceeds
      from maturities, principal paydowns and calls of securities
      available-for-sale
                          
                          
                          50,908
                          
                          
                          
                          25,492Net
      change in loans
                          
                          
                          (143,759
                          )
                          
                          
                          (245,104
                          )Proceeds
      from sale of foreclosed assets
                          
                          
                          1,921
                          
                          
                          
                          749Proceeds
      from sale of premises and equipment
                          
                          
                          8
                          
                          
                          
                          –Purchases
      of premises and equipment
                          
                          
                          (669
                          )
                          
                          
                          (2,949
                          )Net
      cash used in investing activities
                          
                          
                          (135,600
                          )
                          
                          
                          (248,891
                          )Cash
      flows from financing activities:Net
      change in:Deposits
                          
                          
                          74,195
                          
                          
                          
                          127,904Other
      borrowings
                          
                          
                          54,391
                          
                          
                          
                          9,713Proceeds
      from stock option exercises
                          
                          
                          228
                          
                          
                          
                          108Re-issuance
      of treasury stock
                          
                          
                          404
                          
                          
                          
                          616Repurchase
      of common stock
                          
                          
                          –
                          
                          
                          
                          (602
                          )Dividends
      paid
                          
                          
                          (1,298
                          )
                          
                          
                          (1,314
                          )Net
      cash provided by financing activities
                          
                          
                          127,920
                          
                          
                          
                          136,425Net
      increase (decrease) in cash and cash equivalents
                          
                          
                          4,385
                          
                          
                          
                          (104,375
                          )Cash
      and cash equivalents at beginning of period
                          
                          
                          46,270
                          
                          
                          
                          151,358Cash
      and cash equivalents at end of period
                          
                          $
                          50,655
                          
                          
                          $
                          46,983




See
accompanying notes to condensed consolidated financial
statements


5




METROCORP
BANCSHARES, INC.





NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS





1.
BASIS OF PRESENTATION





The
unaudited condensed consolidated financial statements include the accounts of
MetroCorp Bancshares, Inc. (the “Company”) and wholly-owned subsidiaries,
MetroBank, National Association (“MetroBank”) and Metro United Bank (“Metro
United”), in Texas and California, respectively (collectively, the
“Banks”).  MetroBank is engaged in commercial banking activities
through its thirteen branches in the greater Houston and Dallas, Texas
metropolitan areas, and Metro United is engaged in commercial banking activities
through its six branches in the San Diego, Los Angeles and San Francisco,
California metropolitan areas. All significant intercompany accounts and
transactions have been eliminated in consolidation. Certain principles which
significantly affect the determination of financial position, results of
operations and cash flows are summarized below.





The
Company determines whether it has a controlling financial interest in an entity
by first evaluating whether the entity is a voting interest entity or a variable
interest entity under accounting principles generally accepted in the United
States of America.  Voting interest entities are entities in which the
total equity investment at risk is sufficient to enable the entity to finance
itself independently and provides the equity holders with the obligation to
absorb losses, the right to receive residual returns and the right to make
decisions about the entity’s activities.  The Company consolidates
voting interest entities in which it has all, or at least a majority of, the
voting interest.  As defined in applicable accounting standards,
variable interest entities, (“VIEs”) are entities that lack one or more of the
characteristics of a voting interest entity.  A controlling financial
interest is present when an enterprise has a variable interest, or a combination
of variable interests, that will absorb a majority of the entity’s expected
losses, receive a majority of the entity’s expected residual returns, or
both.  The enterprise with a controlling financial interest, known as
the primary beneficiary, consolidates the VIE.  The Company’s wholly
owned subsidiary, MCBI Statutory Trust I, is a VIE for which the Company is not
the primary beneficiary.  Accordingly, the accounts of this entity are
not consolidated in the Company’s financial statements.





The
accompanying unaudited condensed consolidated financial statements were prepared
in accordance with accounting principles generally accepted in the United States
of America for interim financial information and with the instructions for Form
10-Q. In the opinion of management, the unaudited condensed consolidated
financial statements reflect all adjustments, consisting only of normal and
recurring adjustments, necessary for a fair statement of the Company’s financial
position at September 30, 2008, results of operations for the three and nine
months ended September 30, 2008 and 2007, and cash flows for the nine months
ended September 30, 2008 and 2007. Interim period results are not necessarily
indicative of results for a full-year or any other period.  The
year-end condensed consolidated balance sheet data was derived from audited
financial statements, but does not include all disclosures required by
accounting principles generally accepted in the United States of
America.





These
financial statements and the notes thereto should be read in conjunction with
the Company’s Annual Report on Form 10-K for the year ended December 31,
2007.


6




METROCORP
BANCSHARES, INC.





NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS





2.
SECURITIES





The
amortized cost and approximate fair value of securities is as
follows:





As
      of September 30, 2008
                                        
                                        
                                        As
      of December 31, 2007Amortized
      Cost
                                        
                                        
                                        Gross
      Unrealized Gains
                                        
                                        
                                        Gross
      Unrealized Losses
                                        
                                        
                                        Fair Value
                                        
                                        
                                        Amortized
      Cost
                                        
                                        
                                        Gross
      Unrealized Gains
                                        
                                        
                                        Gross
      Unrealized Losses
                                        
                                        
                                        Fair Value(In
      thousands)Securities
      available for saleU.S.
      Government agencies
                                        
                                        $
                                        10
                                        
                                        
                                        $
                                        ─
                                        
                                        
                                        $
                                        (1
                                        )
                                        
                                        $
                                        9
                                        
                                        
                                        $
                                        24
                                        
                                        
                                        $
                                        2
                                        
                                        
                                        $
                                        (1
                                        )
                                        
                                        $
                                        25U.S.
      Government sponsored enterprises
                                        
                                        
                                        14,898
                                        
                                        
                                        ─
                                        
                                        
                                        
                                        (731
                                        )
                                        
                                        
                                        14,167
                                        
                                        
                                        
                                        20,473
                                        
                                        
                                        
                                        10
                                        
                                        
                                        
                                        (10
                                        )
                                        
                                        
                                        20,473Obligations
      of state and political subdivisions
                                        
                                        
                                        3,852
                                        
                                        
                                        
                                        35
                                        
                                        
                                        ─
                                        
                                        
                                        
                                        3,887
                                        
                                        
                                        
                                        5,936
                                        
                                        
                                        
                                        162
                                        
                                        
                                        
                                        (7
                                        )
                                        
                                        
                                        6,091Mortgage-backed
      securities and collateralized mortgage obligations
                                        
                                        
                                        82,645
                                        
                                        
                                        
                                        299
                                        
                                        
                                        
                                        (1,855
                                        )
                                        
                                        
                                        81,089
                                        
                                        
                                        
                                        92,673
                                        
                                        
                                        
                                        173
                                        
                                        
                                        
                                        (1,123
                                        )
                                        
                                        
                                        91,723Asset
      backed securities
                                        
                                        
                                        702
                                        
                                        
                                        
                                        18
                                        
                                        
                                        ─
                                        
                                        
                                        
                                        720
                                        
                                        
                                        ─
                                        
                                        
                                        ─
                                        
                                        
                                        ─
                                        
                                        
                                        ─Other
      debt securities
                                        
                                        ─
                                        
                                        
                                        ─
                                        
                                        
                                        ─
                                        
                                        
                                        ─
                                        
                                        
                                        
                                        33
                                        
                                        
                                        ─
                                        
                                        
                                        ─
                                        
                                        
                                        
                                        33Investment
      in ARM and CRA funds
                                        
                                        
                                        5,758
                                        
                                        
                                        
                                        2
                                        
                                        
                                        
                                        (25
                                        )
                                        
                                        
                                        5,735
                                        
                                        
                                        
                                        19,858
                                        
                                        
                                        
                                        39
                                        
                                        
                                        
                                        (493
                                        )
                                        
                                        
                                        19,404Total
      available for sale securities
                                        
                                        $
                                        107,865
                                        
                                        
                                        $
                                        354
                                        
                                        
                                        $
                                        (2,612
                                        )
                                        
                                        $
                                        105,607
                                        
                                        
                                        $
                                        138,997
                                        
                                        
                                        $
                                        386
                                        
                                        
                                        $
                                        (1,634
                                        )
                                        
                                        $
                                        137,749Other
      investmentsInvestment
      in CDARS
                                        
                                        $
                                        20,137
                                        
                                        
                                        $
                                        ─
                                        
                                        
                                        $
                                        ─
                                        
                                        
                                        $
                                        20,137
                                        
                                        
                                        $
                                        ─
                                        
                                        
                                        $
                                        ─
                                        
                                        
                                        $
                                        ─
                                        
                                        
                                        $
                                        ─FHLB/Federal
      Reserve Bank stock.
                                        
                                        
                                        8,330
                                        
                                        
                                        ─
                                        
                                        
                                        ─
                                        
                                        
                                        
                                        8,330
                                        
                                        
                                        
                                        5,803
                                        
                                        
                                        ─
                                        
                                        
                                        ─
                                        
                                        
                                        
                                        5,803Investment
      in subsidiary trust
                                        
                                        
                                        1,083
                                        
                                        
                                        ─
                                        
                                        
                                        ─
                                        
                                        
                                        
                                        1,083
                                        
                                        
                                        
                                        1,083
                                        
                                        
                                        ─
                                        
                                        
                                        ─
                                        
                                        
                                        
                                        1,083Total
      other investments
                                        
                                        $
                                        29,550
                                        
                                        
                                        $
                                        ─
                                        
                                        
                                        $
                                        ─
                                        
                                        
                                        $
                                        29,550
                                        
                                        
                                        $
                                        6,886
                                        
                                        
                                        $
                                        ─
                                        
                                        
                                        $
                                        ─
                                        
                                        
                                        $
                                        6,886





The Banks
are members of the Promontory Interfinancial Network LLC’s Certificate of
Deposit Account Registry Service (“CDARS”).  The CDARS program is a
deposit-placement service designed to allow FDIC-insured depository institutions
to accept deposits of more than the FDIC insured amount and obtain full coverage
for the depositor by spreading the funds among as many separate FDIC insured
institutions as necessary so that no institution holds more than the FDIC
insured limit.  Under the CDARS One-Way Sell Institutional Investment
Program, financial institutions may invest their own funds and obtain full FDIC
coverage.





In July
2008, $20.1 million was invested in the CDARS One-Way Sellprogram,
earning interest at rates ranging from 2.80% to 3.65%, with original maturities
ranging from thirteen weeks to one year.  Maturities of any
investments since September 30, 2008 have been renewed with similar
terms.


7




METROCORP
BANCSHARES, INC.





NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS





The
following table displays the gross unrealized losses and fair value of
investments as of September 30, 2008 that were in a continuous unrealized loss
position for the periods indicated:





Less
      Than 12 Months
                          
                          
                          Greater
      Than 12 Months
                          
                          
                          TotalFair
      Value
                          
                          
                          Gross
      Unrealized Losses
                          
                          
                          Fair
      Value
                          
                          
                          Gross
      Unrealized Losses
                          
                          
                          Fair
      Value
                          
                          
                          Gross
      Unrealized LossesSecurities
      available for sale
                          
                          (In
      thousands)U.S.
      Government agencies
                          
                          $
                          ─
                          
                          
                          $
                          ─
                          
                          
                          $
                          9
                          
                          
                          $
                          (1
                          )
                          
                          $
                          9
                          
                          
                          $
                          (1
                          )U.
      S. Government sponsored enterprises
                          
                          
                          14,167
                          
                          
                          
                          (731
                          )
                          
                          ─
                          
                          
                          ─
                          
                          
                          
                          14,167
                          
                          
                          
                          (731
                          )Mortgage-backed
      securities and collateralized mortgage obligations
                          
                          
                          46,652
                          
                          
                          
                          (1,032
                          )
                          
                          
                          18,489
                          
                          
                          
                          (823
                          )
                          
                          
                          65,141
                          
                          
                          
                          (1,855
                          )Investment
      in CRA funds
                          
                          
                          4,808
                          
                          
                          
                          (25
                          )
                          
                          ─
                          
                          
                          ─
                          
                          
                          
                          4,808
                          
                          
                          
                          (25
                          )Total
      securities
                          
                          $
                          65,627
                          
                          
                          $
                          (1,788
                          )
                          
                          $
                          18,498
                          
                          
                          $
                          (824
                          )
                          
                          $
                          84,125
                          
                          
                          $
                          (2,612
                          )





Declines
in the fair value of individual securities below their cost that are
other-than-temporary would result in write-downs, as a realized loss, of the
individual securities to their fair value. Management believes that based upon
the credit quality of the debt securities and the Company’s intent and ability
to hold the securities until their recovery, none of the unrealized losses on
the securities as of September 30, 2008 should be considered
other-than-temporary.





In the
second quarter of 2008, the Company recognized an other-than-temporary
impairment charge of approximately $1.5 million pre-tax on its $14.2 million
investment in the AMF Ultra Short Mortgage Fund (the
“Fund”).   The Fund was a mutual fund investing primarily in
adjustable rate agency, private label mortgage-backed securities, and
collateralized mortgage obligations.  The Company reclassified the
unrealized mark-to-market loss on these investment grade securities to an
other-than-temporary impairment charge because of the significant decline in the
net asset value of the Fund, and because the Fund manager activated the
redemption-in-kind provision on May 6, 2008 to protect shareholders against
forced liquidation of Fund holdings to satisfy cash redemptions. The decline was
not attributable to credit losses of the underlying securities of the Fund, but
was instead a reflection of downgrades of the securities in the Fund's portfolio
by one or more of the three major rating agencies, and general market conditions
for private label mortgage-backed securities.




In the
second quarter of 2008, the Company also reviewed the impairment related to two
other mutual funds with a total book value of approximately $5.7 million as of
June 30, 2008 and determined that the impairment on one fund was
other-than-temporary. Accordingly, the Company recorded a non-cash impairment
charge of $74,000 pre-tax. The unrealized loss on the remaining fund was
approximately $34,000 at June 30, 2008 and such impairment was determined to not
be other-than-temporary.




In July
2008, the Company redeemed its shares in the Fund for approximately $2.2 million
in cash, with the remaining value of approximately $10.5 million, net of a
$57,000 loss, distributed in the form of securities held by the Fund that
approximated the Company's respective interest in each of the underlying
securities.





In
September 2008, as part of its quarterly impairment review, the Company
evaluated the securities received in the Fund redemption in kind transaction and
determined that certain securities had declines in fair value below their cost
that were considered other-than-temporary due to downgrades by one or more of
the three major rating agencies.  As a result, the Company recorded a
non-cash impairment charge of $119,000 pre-tax to reduce the individual
securities to their fair value.


8




METROCORP
BANCSHARES, INC.





NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS





3.
ALLOWANCE FOR LOAN LOSSES





Changes
in the allowance for loan losses are as follows:





As
      of and for the Three Months
                
                
                As
      of and for the Nine MonthsEnded
      September 30,
                
                
                Ended
      September 30,2008
                
                
                2007
                
                
                2008
                
                
                2007(In
      thousands)Allowance
      for loan losses at beginning of period
                
                $
                15,520
                
                
                $
                12,661
                
                
                $
                13,125
                
                
                $
                11,436Provision
      for loan losses
                
                
                1,754
                
                
                
                1,168
                
                
                
                4,803
                
                
                
                1,773Charge-offs
                
                
                (1,692
                )
                
                
                (1,046
                )
                
                
                (2,451
                )
                
                
                (1,573
                )Recoveries
                
                
                141
                
                
                
                82
                
                
                
                246
                
                
                
                1,229Allowance
      for loan losses at end of period
                
                $
                15,723
                
                
                $
                12,865
                
                
                $
                15,723
                
                
                $
                12,865








4.  INCOME TAXES




The
Company had no unrecognized income taxes as of September 30, 2008, and as a
result there is no impact on the Company's effective tax rate. Additionally, the
Company does not anticipate a significant change in the balance of unrecognized
income taxes within the next 12 months. As of September 30, 2008, the Company
has not accrued any interest and penalties related to unrecognized income
taxes.




The
Company is subject to taxation in the United States as well as Texas and
California.  State income tax returns are generally subject to
examination for a period of three to five years after filing.  The
state impact of any changes made to the federal return remains subject to
examination by various states for a period up to one year after formal
notification to the state.  The Company is open to federal tax
authority examinations for the tax years ended December 31, 2004 through
December 31, 2007.








5.
EARNINGS PER COMMON SHARE





Basic
earnings per share (“EPS”) is computed by dividing net income available to
common shareholders by the weighted-average number of common shares outstanding
during the period. Diluted EPS is computed by dividing net income available to
common shareholders by the weighted-average number of common shares and
potentially dilutive common shares outstanding during the period. Stock options
and restricted common shares can be dilutive common shares and are therefore
considered in the earnings per share calculation, if dilutive.  Stock
options and restricted common shares that are antidilutive are excluded from
earnings per share calculation.  Stock options are antidilutive when
the exercise price is higher than the current market price of the Company’s
common stock.  Restricted common shares are antidilutive when the
value at grant date is greater than the current market price of the Company’s
common stock.  As of September 30, 2008 and 2007, there were 275,968
and 34,930 antidilutive common shares, respectively.  The number of
potentially dilutive common shares is determined using the treasury stock
method.





As
      of and for the Three Months
                
                
                As
      of and for the Nine MonthsEnded
      September 30,
                
                
                Ended
      September 30,2008
                
                
                2007
                
                
                2008
                
                
                2007(In
      thousands, except per share amounts)Net
      income available to common shareholders
                
                $
                2,076
                
                
                $
                3,208
                
                
                $
                6,579
                
                
                $
                9,371Weighted
      average common shares in basic EPS
                
                
                10,842
                
                
                
                10,962
                
                
                
                10,824
                
                
                
                10,959Effect
      of dilutive securities
                
                
                69
                
                
                
                170
                
                
                
                75
                
                
                
                202Weighted
      average common and potentially dilutivecommon
      shares used in diluted EPS
                
                
                10,911
                
                
                
                11,132
                
                
                
                10,899
                
                
                
                11,161Earnings
      per common share:Basic
                
                $
                0.19
                
                
                $
                0.29
                
                
                $
                0.61
                
                
                $
                0.86Diluted
                
                $
                0.19
                
                
                $
                0.29
                
                
                $
                0.60
                
                
                $
                0.84


9




METROCORP
BANCSHARES, INC.





NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS





6.  COMMITMENTS
AND CONTINGENCIES





The
Company is involved in various litigation that arises from time to time in the
normal course of business. In the opinion of
management, after consultations with its legal counsel, such litigation is not
expected to have a material adverse effect on the Company’s consolidated
financial position, result of operations or cash flows.








7. OFF-BALANCE SHEET
ACTIVITIES





The
Company is party to financial instruments with off-balance sheet risk in the
normal course of business to meet the financing needs of its customers. These
financial instruments include various guarantees, commitments to extend credit
and standby letters of credit. Additionally, these instruments may involve, to
varying degrees, credit risk in excess of the amount recognized in the statement
of financial condition. The Company’s maximum exposure to credit loss under such
arrangements is represented by the contractual amount of those instruments. The
Company applies the same credit policies and collateralization guidelines in
making commitments and conditional obligations as it does for on-balance sheet
instruments. Off-balance sheet financial instruments include commitments to
extend credit and guarantees under standby and other letters of
credit.





The
contractual amount of the Company’s financial instruments with off-balance sheet
risk as of September 30, 2008 and December 31, 2007 is presented
below:





As
      of
                      September 30,
      2008
                    
                    
                    As
      of
                      December 31,
      2007(In
      thousands)Unfunded
      loan commitments including unfunded lines of credit
                    
                    $
                    271,567
                    
                    
                    $
                    315,370Standby
      letters of credit
                    
                    
                    9,797
                    
                    
                    
                    9,290Commercial
      letters of credit
                    
                    
                    12,195
                    
                    
                    
                    12,853Operating
      leases
                    
                    
                    8,569
                    
                    
                    
                    9,754Total
      financial instruments with off-balance sheet risk
                    
                    $
                    302,128
                    
                    
                    $
                    347,267








8.  OPERATING SEGMENT
INFORMATION





The
Company operates two community banks in distinct geographical areas, and manages
its operations and prepares management reports and other information with a
primary focus on these geographical areas.  Performance assessment and
resource allocation are based upon this geographical structure.  The
operating segment identified as “Other” includes the parent company and
eliminations of transactions between segments. The accounting policies of the
individual operating segments are the same as those of the Company as described
in Note 1. Transactions between operating segments are primarily conducted at
fair value, resulting in profits that are eliminated for reporting consolidated
results of operations.  Operating segments pay for centrally provided
services based upon estimated or actual usage of those
services.


10




METROCORP
BANCSHARES, INC.





NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS





The
following is a summary of selected operating segment information as of and for
the three and nine months ended September 30, 2008 and 2007:





For
      the three months ended September 30, 2008
                  
                  
                  For
      the three months ended September 30, 2007MetroBank
                  
                  
                  Metro
      United
                  
                  
                  Other
                  
                  
                  Consolidated
      Company
                  
                  
                  MetroBank
                  
                  
                  Metro
      United
                  
                  
                  Other
                  
                  
                  Consolidated
      Company(In
      thousands)Total
      interest income
                  
                  $
                  17,564
                  
                  
                  $
                  6,314
                  
                  
                  $
                  16
                  
                  
                  $
                  23,894
                  
                  
                  $
                  19,976
                  
                  
                  $
                  6,695
                  
                  
                  $
                  15
                  
                  
                  $
                  26,686Total
      interest expense
                  
                  
                  6,656
                  
                  
                  
                  2,848
                  
                  
                  
                  570
                  
                  
                  
                  10,074
                  
                  
                  
                  8,100
                  
                  
                  
                  3,453
                  
                  
                  
                  474
                  
                  
                  
                  12,027Net
      interest income
                  
                  
                  10,908
                  
                  
                  
                  3,466
                  
                  
                  
                  (554
                  )
                  
                  
                  13,820
                  
                  
                  
                  11,876
                  
                  
                  
                  3,242
                  
                  
                  
                  (459
                  )
                  
                  
                  14,659Provision
      for loan losses
                  
                  
                  1,474
                  
                  
                  
                  280
                  
                  
                  ─
                  
                  
                  
                  1,754
                  
                  
                  
                  760
                  
                  
                  
                  408
                  
                  
                  ─
                  
                  
                  
                  1,168Net
      interest income after provision for loan losses
                  
                  
                  9,434
                  
                  
                  
                  3,186
                  
                  
                  
                  (554
                  )
                  
                  
                  12,066
                  
                  
                  
                  11,116
                  
                  
                  
                  2,834
                  
                  
                  
                  (459
                  )
                  
                  
                  13,491Noninterest
      income
                  
                  
                  2,178
                  
                  
                  
                  117
                  
                  
                  
                  (263
                  )
                  
                  
                  2,032
                  
                  
                  
                  2,658
                  
                  
                  
                  128
                  
                  
                  
                  (588
                  )
                  
                  
                  2,198Noninterest
      expenses
                  
                  
                  8,025
                  
                  
                  
                  2,526
                  
                  
                  
                  166
                  
                  
                  
                  10,717
                  
                  
                  
                  7,993
                  
                  
                  
                  2,583
                  
                  
                  
                  154
                  
                  
                  
                  10,730Income
      before income tax provision
                  
                  
                  3,587
                  
                  
                  
                  777
                  
                  
                  
                  (983
                  )
                  
                  
                  3,381
                  
                  
                  
                  5,781
                  
                  
                  
                  379
                  
                  
                  
                  (1,201
                  )
                  
                  
                  4,959Provision
      for income taxes
                  
                  
                  1,126
                  
                  
                  
                  331
                  
                  
                  
                  (152
                  )
                  
                  
                  1,305
                  
                  
                  
                  1,980
                  
                  
                  
                  174
                  
                  
                  
                  (403
                  )
                  
                  
                  1,751Net
      income
                  
                  $
                  2,461
                  
                  
                  $
                  446
                  
                  
                  $
                  (831
                  )
                  
                  $
                  2,076
                  
                  
                  $
                  3,801
                  
                  
                  $
                  205
                  
                  
                  $
                  (798
                  )
                  
                  $
                  3,208


11




METROCORP
BANCSHARES, INC.





NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS





For
      the nine months ended September 30, 2008
                      
                      
                      For
      the nine months ended September 30, 2007MetroBank
                      
                      
                      Metro
      United
                      
                      
                      Other
                      
                      
                      Consolidated
      Company
                      
                      
                      MetroBank
                      
                      
                      Metro
      United
                      
                      
                      Other
                      
                      
                      Consolidated
      Company(In
      thousands)Total
      interest income
                      
                      $
                      54,307
                      
                      
                      $
                      19,208
                      
                      
                      $
                      49
                      
                      
                      $
                      73,564
                      
                      
                      $
                      58,116
                      
                      
                      $
                      17,799
                      
                      
                      $
                      49
                      
                      
                      $
                      75,964Total
      interest expense
                      
                      
                      20,541
                      
                      
                      
                      9,127
                      
                      
                      
                      1
      612
                      
                      
                      
                      31,280
                      
                      
                      
                      22,752
                      
                      
                      
                      9,181
                      
                      
                      
                      1,519
                      
                      
                      
                      33,452Net
      interest income
                      
                      
                      33,766
                      
                      
                      
                      10,081
                      
                      
                      
                      (1,563
                      )
                      
                      
                      42,284
                      
                      
                      
                      35,364
                      
                      
                      
                      8,618
                      
                      
                      
                      (1,470
                      )
                      
                      
                      42,512Provision
      for loan losses
                      
                      
                      3,078
                      
                      
                      
                      1,725
                      
                      
                      ─
                      
                      
                      
                      4,803
                      
                      
                      
                      779
                      
                      
                      
                      994
                      
                      
                      ─
                      
                      
                      
                      1,773Net
      interest income after provision for loan losses
                      
                      
                      30,688
                      
                      
                      
                      8,356
                      
                      
                      
                      (1,563
                      )
                      
                      
                      37,481
                      
                      
                      
                      34,585
                      
                      
                      
                      7,624
                      
                      
                      
                      (1,470
                      )
                      
                      
                      40,739Noninterest
      income
                      
                      
                      7,106
                      
                      
                      
                      372
                      
                      
                      
                      (939
                      )
                      
                      
                      6,539
                      
                      
                      
                      6,341
                      
                      
                      
                      338
                      
                      
                      
                      (816
                      )
                      
                      
                      5,863Noninterest
      expenses
                      
                      
                      25,094
                      
                      
                      
                      7,683
                      
                      
                      
                      701
                      
                      
                      
                      33,478
                      
                      
                      
                      24,067
                      
                      
                      
                      7,085
                      
                      
                      
                      689
                      
                      
                      
                      31,841Income
      before income tax provision
                      
                      
                      12,700
                      
                      
                      
                      1,045
                      
                      
                      
                      (3,203
                      )
                      
                      
                      10,542
                      
                      
                      
                      16,859
                      
                      
                      
                      877
                      
                      
                      
                      (2,975
                      )
                      
                      
                      14,761Provision
      for income taxes
                      
                      
                      4,295
                      
                      
                      
                      469
                      
                      
                      
                      (801
                      )
                      
                      
                      3,963
                      
                      
                      
                      5,878
                      
                      
                      
                      419
                      
                      
                      
                      (907
                      )
                      
                      
                      5,390Net
      income
                      
                      $
                      8,405
                      
                      
                      $
                      576
                      
                      
                      $
                      (2,402
                      )
                      
                      $
                      6,579
                      
                      
                      $
                      10,981
                      
                      
                      $
                      458
                      
                      
                      $
                      (2,068
                      )
                      
                      $
                      9,371As
      of September 30, 2008
                      
                      
                      As
      of September 30, 2007MetroBank
                      
                      
                      Metro
      United
                      
                      
                      Other
                      
                      
                      Consolidated
      Company
                      
                      
                      MetroBank
                      
                      
                      Metro
      United
                      
                      
                      Other
                      
                      
                      Consolidated
      Company(In
      thousands)Net
      loans
                      
                      $
                      964,950
                      
                      
                      $
                      360,974
                      
                      
                      $
                      -
                      
                      
                      $
                      1,325,924
                      
                      
                      $
                      816,003
                      
                      
                      $
                      304,719
                      
                      
                      $
                      –
                      
                      
                      $
                      1,120,722Total
      assets
                      
                      
                      1,173,748
                      
                      
                      
                      422,220
                      
                      
                      
                      (1,479
                      )
                      
                      
                      1,594,489
                      
                      
                      
                      1,064,043
                      
                      
                      
                      348,951
                      
                      
                      
                      773
                      
                      
                      
                      1,413,767Deposits
                      
                      
                      962,760
                      
                      
                      
                      306,604
                      
                      
                      
                      (4,126
                      )
                      
                      
                      1,265,238
                      
                      
                      
                      921,317
                      
                      
                      
                      295,056
                      
                      
                      
                      (6,805
                      )
                      
                      
                      1,209,568








9. FAIR
VALUE





Effective
January 1, 2008, the Company adopted FASB Statement No. 157, “Fair Value
Measurements” (“SFAS 157”), which defines fair value, establishes a framework
for measuring fair value, and expands disclosures about fair value
measurements.  In accordance with FASB Staff Position (FSP) No. 157-2,
“Effective Date of FASB Statement No. 157,” the Company will delay application
of SFAS 157 for non-financial assets and non-financial liabilities until January
1, 2009.





SFAS 157
defines fair value as the exchange price that would be received for an asset or
paid to transfer a liability (an exit price) in the principal or most
advantageous market for the asset or liability in an orderly transaction between
market participants on the measurement date.  SFAS 157 also
establishes a fair value hierarchy which requires an entity to maximize the use
of observable inputs and minimize the use of unobservable inputs when measuring
fair value.  The standard describes three levels of inputs that may be
used to measure fair value:





·
            Level
      1 – Quoted prices in active markets for identical assets or
      liabilities.





·
            Level
      2 – Observable inputs other than Level 1 prices such as quoted prices for
      similar assets or liabilities; quoted prices in markets that are not
      active; or other inputs that are observable or can be corroborated by
      observable market data for substantially the full term of the assets or
      liabilities.


12




METROCORP
BANCSHARES, INC.





NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS





·
            Level
      3 – Unobservable inputs that are supported by little or no market activity
      and that are significant to the fair value of the assets or
      liabilities.  Level 3 assets and liabilities include financial
      instruments whose value is determined using pricing models, discounted
      cash flow methodologies, or similar techniques, as well as instruments for
      which the determination of fair value requires significant management
      judgment or estimation.





Following
is a description of the valuation methodologies used for instruments measured at
fair value, as well as the general classification of such instruments pursuant
to the valuation hierarchy.





Securities.  Where
quoted prices are available in an active market, securities are reported at fair
value utilizing Level 1 inputs.  Level 1 securities are comprised of
bond funds.  If quoted market prices are not available, the Company
obtains fair values from an independent pricing service.  The fair
value measurements consider data that may include proprietary pricing models,
quoted prices of securities with similar characteristics or discounted cash
flows.   Level 2 securities are comprised of highly liquid
government bonds, and collateralized mortgage and debt
obligations.  Market values provided by the pricing service are
compared to prices from other sources for reasonableness. The Company has not
adjusted the values from the pricing service.





Impaired
Loans.  Certain impaired loans are reported at the fair value
of the underlying collateral if repayment is expected solely from the
collateral.  Collateral values are estimated using Level 2 inputs
based on the fair value of the underlying collateral determined by independent
appraisals or Level 3 inputs based on customized criteria.





The
following table presents the financial instruments carried at fair value on a
recurring basis as of September 30, 2008, by caption on the consolidated balance
sheets and by SFAS 157 valuation hierarchy (as described above):





Fair
      Value Measurements at September 30, 2008, Using(In
      thousands)Quoted
      Prices in Active Markets for Identical Assets (Level 1)
                
                
                Significant
      Other Observable Inputs (Level 2)
                
                
                Significant
      Unobservable Inputs (Level 3)
                
                
                Fair
      Value Measurements September 30, 2008Securities
      available-for-sale
                
                $
                5,735
                
                
                $
                99,872
                
                
                $
                –
                
                
                $
                105,607





Certain
non-financial assets measured at fair value on a recurring basis include
reporting units measured at fair value in the first step of a goodwill
impairment test. Certain non-financial assets measured at fair value on a
non-recurring basis include non-financial assets and non-financial liabilities
measured at fair value in the second step of a goodwill impairment test, as well
as intangible assets measured at fair value for impairment assessment. As stated
above, SFAS 157 will be applicable to these fair value measurements beginning
January 1, 2009.





Certain
financial assets are measured at fair value on a non-recurring basis; that is,
the instruments are not measured at fair value on an ongoing basis but are
subject to fair value adjustments in certain circumstances (for example, when
there is evidence of impairment). During the nine months ended September 30,
2008, certain impaired loans were remeasured and reported at fair value through
a specific valuation allowance allocation of the allowance for loan losses based
upon the fair value of the underlying collateral. Impaired loans with a carrying
value of $1.3 million were reduced by specific valuation allowance allocations
of $326,000 to a fair value of $966,000 based on collateral valuations utilizing
Level 2 valuation inputs.   Impaired loans with a carrying value
of $2.2 million were reduced by specific valuation allowance allocations of
$445,000 to a fair value of $1.8 million based on collateral valuations
utilizing Level 3 valuation inputs.





Effective
January 1, 2008, the Company adopted the provisions of SFAS No. 159, “The Fair
Value Option for Financial Assets and Financial Liabilities - Including an
amendment of FASB Statement No. 115” (“SFAS 159”).  SFAS 159 permits
an entity to choose to measure eligible items at fair value at specified
election dates. Unrealized gains and losses on items for which the fair value
measurement option has been elected are reported in earnings at each subsequent
reporting date. The fair value option (i) may be applied instrument by
instrument, with certain exceptions, (ii) is irrevocable (unless a new election
date occurs) and (iii) is applied only to entire instruments and not to portions
of instruments. The Company did not elect to measure any instruments at fair
value and as a result, adoption of SFAS 159 on January 1, 2008 did not have a
significant impact on the Company’s financial statements.








10.  RELATED
PARTY TRANSACTIONS





In June
2008, the Company issued an aggregate of $4.0 million of its 2008 Subordinated
Debentures through a private placement, with $2.0 million sold to the Company’s
Chairman of the Board and $2.0 million sold to an affiliate of a Company Director.  The
debentures accrue interest at a fixed rate of 5% payable quarterly commencing on
September 30, 2008, and mature in December 2008. The proceeds from issuance of
the 2008 Subordinated Debentures were used to contribute capital to the
Banks.


13




METROCORP
BANCSHARES, INC.





NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS





11.  NEW ACCOUNTING
PRONOUNCEMENTS





Statements
of Financial Accounting Standards





In May
2008, the FASB issued Statement No. 162, “The Hierarchy of Generally Accepted
Accounting Principles”.  Statement No. 162 identifies the sources of
accounting principles and the framework for selecting the principles used in the
preparation of financial statements of nongovernmental entities that are
presented in conformity with generally accepted accounting principles (GAAP) in
the United States (the GAAP hierarchy).  Statement No. 162 iseffective 60 days following the SEC’s approval of the Public Company Accounting
Oversight Board amendments to AU Section 411,The
Meaning ofPresent
Fairly in Conformity With Generally Accepted Accounting Principles.The adoption of Statement No. 162 is not expected to have a material
impact on the financial condition, results of operations, or cash flows of the
Company.





In March
2008, the FASB issued Statement No. 161, “Disclosures About Derivative
Instruments and Hedging Activities, an Amendment of FASB Statement No. 133”.
Statement No. 161 amends Statement No. 133, “Accounting for Derivative
Instruments and Hedging Activities,” to amend and expand the disclosure
requirements of Statement No. 133 to provide greater transparency about (i) how
and why an entity uses derivative instruments, (ii) how derivative instruments
and related hedge items are accounted for under Statement No. 133 and its
related interpretations, and (iii) how derivative instruments and related hedged
items affect an entity's financial position, results of operations and cash
flows. To meet those objectives, Statement No. 161 requires qualitative
disclosures about objectives and strategies for using derivatives, quantitative
disclosures about fair value amounts of gains and losses on derivative
instruments and disclosures about credit-risk-related contingent features in
derivative agreements. Statement No. 161 is effective for the Company beginning
January 1, 2009.  The adoption of Statement No. 161 is not expected to
have a material impact on the financial condition, results of operations, or
cash flows of the Company.





In
December 2007, the FASB issued Statement No. 160, “Noncontrolling
Interests in Consolidated Financial Statements an amendment of ARB No. 51”,
which establishes accounting and reporting standards for the noncontrolling
interest in a subsidiary and for the deconsolidation of a subsidiary, and
clarifies that a noncontrolling interest in a subsidiary is an ownership
interest in the consolidated entity that should be reported as equity in the
consolidated financial statements.  The statement will affect only
those entities that have an outstanding noncontrolling interest in one or more
subsidiaries or that deconsolidate a subsidiary.  Statement No. 160 is
effective for the Company beginning January 1, 2009. The adoption of Statement
No. 160 is not expected to have a material impact on the financial condition,
results of operations, or cash flows of the Company.





In
December 2007, the FASB issued Statement No. 141(R), “Business
Combinations”, which replaces FASB Statement No. 141, “Business Combinations”,
and retains the fundamental requirements in Statement 141 that the acquisition
method of accounting (which Statement 141 called the purchase method) be used
for all business combinations and for an acquirer to be identified for each
business combination. By applying the same method of accounting—the acquisition
method—to all transactions and other events in which one entity obtains control
over one or more other businesses, the Statement is intended to improve the
comparability of the information about business combinations provided in
financial reports.  Statement No. 141(R) is effective for the Company
beginning January 1, 2009. The adoption of Statement No. 141(R) is not expected
to have a material impact on the financial condition, results of operations, or
cash flows of the Company.







Financial
Accounting Standards Board Staff Positions





FASB
Staff Position (FSP) No. SFAS 157-3, “Determining the Fair Value
of a Financial Asset When the Market for That Asset Is Not Active,” was issued
in October 2008, and clarified the application of SFAS 157 in
situations where the market for a financial asset is not active. FSP
No. SFAS 157-3 became effective for the Company’s interim financial
statements as of September 30, 2008 and did not significantly impact the
methods by which the Company determines the fair values of its financial
assets.




FSP
No. EITF 03-6-1, “Determining Whether Instruments Granted in
Share-Based Payment Transactions Are Participating
Securities.”  FSP EITF 03-6-1 provides that unvested
share-based payment awards that contain nonforfeitable rights to dividends or
dividend equivalents (whether paid or unpaid) are participating securities and
shall be included in the computation of earnings per share pursuant to the
two-class method. FSP EITF 03-6-1 will be effective on January 1,
2009. All previously reported earnings per share data will be retrospectively
adjusted to conform with the provisions of FSP EITF 03-6-1.
FSP EITF 03-6-1 is not expected to have a significant impact on the
Company’s financial statements.


14




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





Special
Cautionary Notice Regarding Forward-looking Statements





Statements
and financial discussion and analysis contained in this Quarterly Report on Form
10-Q that are not historical facts are forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933 and Section 21E
of the Securities Exchange Act of 1934. The Company intends such forward-looking
statements to be covered by the safe harbor provisions for forward-looking
statements contained in the Private Securities Litigation Reform Act of 1995 and
is including this statement for purposes of invoking these safe harbor
provisions. These forward-looking statements include information about possible
or assumed future results of the Company’s operations or performance. Words such
as “believe”, “expect”, “anticipate”, “estimate”, “continue”, “intend”, “may”,
“will”, “should”, or similar expressions, identifies these forward-looking
statements. Many possible factors or events could affect the future financial
results and performance of the Company and could cause those financial results
or performance to differ materially from those expressed in the forward-looking
statement. These possible events or factors include, without
limitation:





•
            changes
      in the strength of the United States economy in general and the strength
      of the local economies in which the Company conducts operations resulting
      in, among other things, a deterioration in credit quality or a reduced
      demand for credit, including the resultant effect on the Company's loan
      portfolio and allowance for loan
losses;





•
            changes
      in interest rates and market prices, which could reduce the Company’s net
      interest margins, asset valuations and expense
    expectations;





•
            changes
      in the levels of loan prepayments and the resulting effects on the value
      of the Company’s loan portfolio;





•
            changes
      in local economic and business conditions which adversely affect the
      ability of the Company’s customers to transact profitable business with
      the Company, including the ability of borrowers to repay their loans
      according to their terms or a change in the value of the related
      collateral;





•
            increased
      competition for deposits and loans adversely affecting rates and
      terms;





•
            the
      Company’s ability to identify suitable acquisition
    candidates;





•
            the
      timing, impact and other uncertainties of the Company’s ability to enter
      new markets successfully and capitalize on growth
      opportunities;





•
            increased
      credit risk in the Company’s assets and increased operating risk caused by
      a material change in commercial, consumer and/or real estate loans as a
      percentage of the total loan
portfolio;





•
            the
      failure of assumptions underlying the establishment of and provisions made
      to the allowance for loan losses;





•
            changes
      in the availability of funds resulting in increased costs or reduced
      liquidity;





•
            a
      deterioration or downgrade in the credit quality and credit agency ratings
      of the securities in the Company’s securities
  portfolio;





•
            increased
      asset levels and changes in the composition of assets and the resulting
      impact on our capital levels and regulatory capital
  ratios;





•
            the
      Company’s ability to acquire, operate and maintain cost effective and
      efficient systems without incurring unexpectedly difficult or expensive
      but necessary technological
changes;





•
            the
      loss of senior management or operating personnel and the potential
      inability to hire qualified personnel at reasonable compensation
      levels;





•
            government
      intervention in the U.S. financial system;
and





•
            changes
      in statutes and government regulations or their interpretations applicable
      to bank holding companies and our present and future banking and other
      subsidiaries, including changes in tax requirements and tax
      rates.





All
written or oral forward-looking statements attributable to the Company are
expressly qualified in their entirety by these cautionary statements. The
Company undertakes no obligation to publicly update or otherwise revise any
forward-looking statements, whether as a result of new information, future
events or otherwise.


15




Management’s
Discussion and Analysis of Financial Condition and Results of Operations of the
Company analyzes the major elements of the Company’s balance sheets and
statements of income. This section should be read in conjunction with the
Company’s Condensed Consolidated Financial Statements and accompanying notes and
other detailed information appearing elsewhere in this document.





Overview





The
Company recorded net income of $2.1 million for the three months ended
September 30, 2008, down approximately $1.1 million compared with net income of
$3.2 million for the same quarter in 2007. The Company’s diluted earnings
per share (“EPS”) for the three months ended September 30, 2008 was $0.19, a
decrease of $0.10 per diluted share compared with diluted EPS of $0.29 for the
same quarter in 2007. Net income for the nine months ended September 30, 2008
was $6.6 million, a decrease of approximately $2.8 million compared with $9.4
million for the same period in 2007. The Company’s diluted EPS for the nine
months ended September 30, 2008 was $0.60, a decrease of $0.24 compared with
$0.84 for the same period in 2007.  Details of the changes in the
various components of net income are further discussed below.





Total
assets were $1.59 billion at September 30, 2008, up approximately
$134.8 million or 9.2% compared with $1.46 billion at December 31,
2007. Investment securities at September 30, 2008 were $105.6 million, down
approximately $32.1 million or 23.3% compared with $137.7 million at
December 31, 2007.  Net loans at September 30, 2008 were
$1.33 billion, up approximately $137.1 million or 11.5% compared with
$1.19 billion at December 31, 2007. Total deposits at September 30,
2008 were $1.27 billion, up approximately $74.2 million or 6.2% compared
with $1.19 billion at December 31, 2007. The Company’s return on
average assets (“ROAA”) for the three months ended September 30, 2008 and 2007
was 0.52% and 0.91%, respectively.  The Company’s ROAA for the nine
months ended September 30, 2008 and 2007 was 0.57% and 0.94%,
respectively.





Shareholders’
equity at September 30, 2008 was $123.4 million compared with
$117.4 million at December 31, 2007, an increase of approximately $6.0
million or 5.1%.  The Company’s return on average equity (“ROAE”) for
the three months ended September 30, 2008 and 2007 was 6.67% and 11.11%,
respectively.  The Company’s ROAE for the nine months ended September
30, 2008 and 2007 was 7.21% and 11.24%, respectively.





Recent
Developments





In
September, 2008, the Banks received notice that a commercial borrower in the
health care industry (the "Borrower") filed a voluntary petition under Chapter
11 for bankruptcy reorganization.  The amount owed to MetroBank by the
Borrower is approximately $13.0 million, $3.0 million of which is secured by
accounts receivable and $10.0 million of which is secured by a medical real
property located in Grand Prairie, Texas.  The amount owed to Metro
United by the Borrower is approximately $3.0 million, which is secured by the
same medical real property located in Grand Prairie, Texas. Management currently
believes the collateral value is sufficient to cover the outstanding principal
and interest receivable balances on the loans and there will be no impairment
loss related to these loans based on recent appraisals of the medical real
property, review of accounts receivable and discussions with
management.  However, it is difficult to predict at this time what
impact, if any, the bankruptcy proceedings will have on the ability of MetroBank
and Metro United to obtain repayment under the loans or realize on the
collateral securing the loans.  Management intends to aggressively
pursue repayment of these loans and recovery and liquidation of the collateral
securing the loans if necessary.





In
October 2008, the Company filed a “shelf” registration statement on Form S-3
with the Securities and Exchange Commission to provide future flexibility in
raising capital in order to take advantage of opportunities that become
available should the need arise.  After the shelf registration becomes
effective, the Company may offer and sell from time to time, in one or more
offerings, up to $100 million of senior or subordinated debt securities (in one
or more series), preferred stock, depositary shares, common stock, warrants
representing rights to purchase these securities and units comprised of two or
more of these securities in any combination. The terms of any offering under the
shelf registration statement will be established at the time of any such
offering.





On
October 3, 2008, the Troubled Asset Relief Program (“TARP”) was signed into
law.  TARP gave the U.S. Department of the Treasury ("Treasury")
authority to deploy up to $700 billion into the financial system with an
objective of improving liquidity in capital markets.  On October 14,
2008, the Treasury announced the Capital Purchase Program ("CPP"), which
provides for direct equity investment of perpetual preferred stock by the
Treasury in qualified financial institutions.  The program is
voluntary and requires an institution to comply with a number of restrictions
and provisions, including limits on executive compensation, stock redemptions
and declaration of dividends.  Applications of publicly traded
institutions must be submitted by November 14, 2008 and are subject to approval
by the Treasury.  The CPP provides for the purchase by the Treasury of
perpetual senior preferred stock in an aggregate amount ranging from 1% to 3% of
a company's risk-weighted assets. The senior preferred stock will pay cumulative
dividends at a rate of 5% per year, until the fifth anniversary of the Treasury
investment, and at a rate of 9% per year thereafter. The CPP also requires a
participant to issue to the Treasury warrants to purchase common stock equal to
15% of the capital invested by the Treasury.





The terms
of the CPP could reduce investment returns to the Company's shareholders by
restricting increases in dividends paid on the Company's common stock without
Treasury consent, diluting existing shareholders’ interests and restricting
capital management practices.  Although the Company and the Banks meet
all applicable regulatory capital requirements and the Banks remain well
capitalized, the Company has applied for participation in the
CPP.  Participation in the program is not automatic and is subject to
approval by the Treasury.


16




Also on
October 14, 2008, the systemic risk exception to the FDIC Act was enacted,
enabling the FDIC to temporarily provide a 100% guarantee of the unsecured
senior debt of all FDIC-insured institutions and their holding companies, as
well as deposits in non-interest bearing transaction deposit accounts under a
Temporary Liquidity Guarantee Program.  Coverage under the Temporary
Liquidity Guarantee Program is available for 30 days without charge and
thereafter at a cost of 75 basis points per annum for unsecured senior debt and
10 basis points per annum for non-interest bearing transaction deposits on
balances above $250,000, unless the institution opts out before December 5,
2008.  The Company plans to participate in the Temporary Liquidity
Guarantee Program.





Results
of Operations





Net Interest Income and Net Interest
Margin. For the three months ended September 30, 2008, net interest
income, before the provision for loan losses, was $13.8 million, down
approximately $839,000 or 5.7% compared with $14.7 million for the same
quarter in 2007. The decrease was due primarily to lower yields on average
earning assets because of interest rate cuts by the Federal Reserve, partially
offset by increased loan volume.  The decrease in net interest income
reflects a $2.8 million decrease in interest income that was offset by a $2.0
million decrease in interest expense. Average interest-earning assets for the
three months ended September 30, 2008 were $1.49 billion, up approximately
$183.4 million or 14.1% compared with $1.30 billion for the same quarter in
2007. The weighted average yield on interest-earning assets for the three months
ended September 30, 2008 was 6.39%, down 173 basis points compared with 8.12%
for the same quarter in 2007. Average interest-bearing liabilities for the three
months ended September 30, 2008 were $1.22 billion, up approximately
$164.5 million or 15.6% compared with $1.06 billion for the same quarter in
2007. The weighted average rate paid on interest-bearing liabilities for the
three months ended September 30, 2008 was 3.28%, down 123 basis points compared
with 4.51% for the same quarter in 2007.  Interest rate cuts by the
Federal Reserve resulted in a decrease in yields and costs for the three and
nine months ended September 30, 2008, compared with the same period in
2007.





For the
nine months ended September 30, 2008, net interest income, before the provision
for loan losses, was $42.3 million, down approximately $228,000 or 0.5%
compared with $42.5 million for the same period in 2007. The decrease was
due primarily to lower yields on average earning assets partially offset by
increased loan volume.  The decrease reflects a $2.4 million decrease
in interest income partially offset by a $2.2 million decrease in interest
expense.  Average interest-earning assets for the nine months ended
September 30, 2008 were $1.44 billion, up approximately $180.4 million
or 14.3% compared with $1.26 billion for the same period in 2007. The
weighted average yield on interest-earning assets for the nine months ended
September 30, 2008 was 6.83%, down 124 basis points compared with 8.07% for the
same period in 2007.  Average interest-bearing liabilities for the
nine months ended September 30, 2008 were $1.18 billion, up approximately
$176.3 million or 17.6% compared with $1.00 billion for the same period in
2007. The weighted average rate paid on interest-bearing liabilities for the
nine months ended September 30, 2008 was 3.54%, down 91 basis points compared
with 4.45% for the same period in 2007.





The net
interest margin for the three months ended September 30, 2008 was 3.70%, down 76
basis points compared with 4.46% for the same quarter in 2007.  The
yield on average earning assets decreased 173 basis points, which was partially
offset by a decrease in the cost of average earning assets of 97 basis
points.





The net
interest margin for the nine months ended September 30, 2008 was 3.92%, down 59
basis points compared with 4.51% for the same period in 2007.  For the
nine months ended September 30, 2008, the yield on average earning assets
decreased 124 basis points, which was partially offset by a decrease in the cost
of average earning assets of 65 basis points.





Total Interest Income. Total
interest income for the three months ended September 30, 2008 was $23.9 million,
down approximately $2.8 million or 10.5% compared with $26.7 million for the
same period in 2007. Although total interest earning assets increased, the
impact of interest rate cuts during the third quarter 2008 offset the effect of
volume increases.  Total interest income for the nine months ended
September 30, 2008 was $73.6 million, down approximately $2.4 million or
3.2% compared with $76.0 million for the same period in 2007, primarily due
to decreases in average yield, partially offset by loan growth.





Interest Income from Loans.
Interest income from loans for the three months ended September 30, 2008 was
$22.3 million, down approximately $2.3 million or 9.3% compared with
$24.6 million for the same quarter in 2007. The decrease was the result of
declines in average yield partially offset by increased loan
volume.   Average total loans for the three months ended
September 30, 2008 were $1.33 billion compared with average total loans for
the same quarter in 2007 of $1.11 billion, an increase of approximately
$211.8 million or 19.0%. For the three months ended September 30, 2008, the
yield on average total loans was 6.69%, down 207 basis points compared with
8.76% for the same quarter in 2007.





Interest
income from loans for the nine months ended September 30, 2008 was
$68.7 million, up approximately $603,000 or 0.9% compared with
$68.1 million for the same period in 2007. The increase was the result of a
higher volume of loans, partially offset by a lower yield on
loans.   Average total loans for the nine months ended September
30, 2008 were $1.28 billion compared with average total loans for the same
period in 2007 of $1.03 billion, an increase of approximately
$250.6 million or 24.4%. For the nine months ended September 30, 2008, the
yield on average total loans was 7.18%, down 169 basis points compared with
8.87% for the same period in 2007.


17




Approximately
$942.0 million or 70.0% of the total loan portfolio at September 30, 2008 were
variable rate loans that periodically reprice and are sensitive to changes in
market interest rates.  For the three months ended September 30, 2008,
the yield on average total loans was approximately 169 basis points above the
average prime rate over the same period.  To lessen interest rate
sensitivity in the event of a falling interest rate environment, the Company
originates variable rate loans with interest rate floors.  At
September 30, 2008, approximately $684.5 million in loans or 50.9% of the total
loan portfolio were variable rate loans with interest rate floors that carried a
weighted average interest rate of 6.76%.  At September 30, 2007,
variable rate loans with interest rate floors carried a weighted average
interest rate of 8.51% and comprised 45.7% of the total loan
portfolio.





Interest Income from
Investments. Interest income from investments (which includes investment
securities, Federal Funds sold, and other investments) for the three months
ended September 30, 2008 was $1.6 million, a decrease of approximately
$504,000 or 24.0% compared with $2.1 million for the same quarter in
2007.  Average total investments for the three months ended September
30, 2008 were $161.1 million compared with average total investments for
the same quarter in 2007 of $189.6 million, a decrease of approximately
$28.5 million or 15.0%. The decreases in interest income from investments and
average total investments were primarily the result of declining interest rates,
in addition to maturities, sales and paydowns on the investment
portfolio.  For the three months ended September 30, 2008, the average
yield on investments was 3.95% compared with 4.40% for the same quarter in 2007,
a decrease of 45 basis points.





Interest
income from investments for the nine months ended September 30, 2008 was $4.8
million, down approximately $3.1 million or 38.2% compared with
$7.9 million for the same period in 2007.  Average total
investments for the nine months ended September 30, 2008 were
$161.6 million compared with average total investments for the same quarter
in 2007 of $231.8 million, a decrease of approximately $70.2 million or
30.3%. The decreases in interest income from investments and in average total
investments were primarily the result of declining interest rates, and
maturities, sales and paydowns on the investment portfolio.   For
the nine months ended September 30, 2008, the average yield on investments was
4.01% compared with 4.53% for the same quarter in 2008, a decrease of 52 basis
points.





Total Interest Expense. Total
interest expense for the three months ended September 30, 2008 was
$10.1 million, down approximately $1.9 million or 16.2% compared with
$12.0 million for the same quarter in 2007. Total interest expense for the
nine months ended September 30, 2008 was $31.3 million, down approximately
$2.2 million or 6.5% compared with $33.5 million for the same period in
2007. Interest expense decreased for both the three and nine months ended
September 30, 2008 primarily due to decreases in interest rates paid on
deposits, partially offset by growth in deposits and other
borrowings.





Interest Expense on Deposits.
Interest expense on interest-bearing deposits for the three months ended
September 30, 2008 was $8.6 million, down approximately $2.8 million or 24.7%
compared with $11.4 million for the same period in 2007. Interest expense
on interest-bearing deposits for the nine months ended September 30, 2008 was
$27.0 million, down approximately $4.2 million or 13.5% compared with
$31.2 million for the same period in 2007.  The decrease for the
three and nine months ended September 30, 2008 was primarily due to lower
interest rates incurred for interest-bearing deposits partially offset by growth
in money market deposits.  Average interest-bearing deposits for the
three months ended September 30, 2008 were $1.03 billion compared with average
interest-bearing deposits for the same quarter in 2007 of $1.01 billion, an
increase of $23.3 million or 2.3%. The average interest rate incurred on
interest-bearing deposits for the three months ended September 30, 2008 was
3.31% compared with 4.48% for the same quarter in 2007, a decrease of 117 basis
points. Average interest-bearing deposits for the nine months ended September
30, 2008 were $1.00 billion compared with average interest-bearing deposits for
the same period in 2007 of $947.5 million, an increase of $57.4 million or
6.1%. The average interest rate incurred on interest-bearing deposits for the
nine months ended September 30, 2008 was 3.59% compared with 4.40% for the same
period in 2007, a decrease of 81 basis points.  The decrease in
interest rates for the three and nine months ended September 30, 2008 primarily
reflected lower market rates.





Interest Expense on Junior
Subordinated Debentures.  Interest expense on junior
subordinated debentures for the three months ended September 30, 2008 and 2007
was $519,000, and $474,000, respectively. Interest expense on junior
subordinated debentures for the nine months ended September 30, 2008 and 2007
was $1.6 million and 1.5 million, respectively. Average junior subordinated
debentures for the three and nine months ended September 30, 2008 and 2007 were
$36.1 million. The average interest rate incurred on junior subordinated
debentures for the three months ended September 30, 2008 and 2007 was 5.75% and
5.14%, respectively. The average interest rate incurred on junior subordinated
debentures for the nine months ended September 30, 2008 and 2007 was 5.76% and
5.55%, respectively.  The junior subordinated debentures accrue
interest at a fixed rate of 5.7625% until December 15, 2010, at which time the
debentures will accrue interest at a floating rate equal to the 3-month LIBOR
plus 1.55%.





Interest Expense on Other
Borrowings. Interest expense on other borrowed funds for the three months
ended September 30, 2008 was $974,000, up approximately $810,000 compared with
$164,000 for the same period in 2007.   Interest expense on other
borrowed funds for the nine months ended September 30, 2008 was $2.7 million, up
approximately $1.9 million compared with $753,000 for the same period in
2007.   The increase in interest expense for both the three and
nine months ended September 30, 2008 was primarily due to increases in Federal
Home Loan Bank (“FHLB”) advances and security repurchases agreements, which were
partially offset by lower interest rates paid. As part of its strategy to
control interest expense, the Company took advantage of lower cost wholesale
funding in lieu of higher cost deposits.  Average other borrowed funds
for the three months ended September 30, 2008 were $154.7 million compared
with average other borrowed funds for the same quarter in 2007 of
$13.5 million, an increase of $141.2 million.  The average
interest rate incurred on borrowed funds for the three months ended September
30, 2008 was 2.50%, compared with 4.82% for the same quarter in 2007, a decrease
of 232 basis points.  Average other borrowed funds for the nine months
ended September 30, 2008 were $139.5 million compared with average other
borrowed funds for the same period in 2007 of $20.6 million, an increase of
$118.9 million.  The average interest rate incurred on borrowed
funds for the nine months ended September 30, 2008 was 2.63%, compared with
4.89% for the same period in 2007, a decrease of 226 basis points.


18




The
following tables present for the periods indicated the total dollar amount of
interest income from average interest-earning assets and the resultant yields,
as well as the interest expense on average interest-bearing liabilities,
expressed both in dollars and rates for the periods indicated. No tax-equivalent
adjustments were made and all average balances are daily average balances.
Nonaccruing loans have been included in the tables as loans having a zero yield
with income, if any, recognized at the end of the loan term.





For
      The Three Months Ended September 30,2008
                                    
                                    
                                    2007Average
                                    
                                    
                                    Interest
                                    
                                    
                                    Average
                                    
                                    
                                    Average
                                    
                                    
                                    Interest
                                    
                                    
                                    AverageOutstanding
                                    
                                    
                                    Earned/
                                    
                                    
                                    Yield/
                                    
                                    
                                    Outstanding
                                    
                                    
                                    Earned/
                                    
                                    
                                    Yield/Balance
                                    
                                    
                                    Paid
                                    
                                    
                                    Rate(1)
                                    
                                    
                                    Balance
                                    
                                    
                                    Paid
                                    
                                    
                                    Rate(1)(Dollars
      in thousands)AssetsInterest-earning
      assets:Total
      loans
                                    
                                    $
                                    1,325,350
                                    
                                    
                                    $
                                    22,295
                                    
                                    
                                    
                                    6.69
                                    %
                                    
                                    $
                                    1,113,551
                                    
                                    
                                    $
                                    24,583
                                    
                                    
                                    
                                    8.76
                                    %Taxable
      securities
                                    
                                    
                                    108,075
                                    
                                    
                                    
                                    1,207
                                    
                                    
                                    
                                    4.44
                                    
                                    
                                    
                                    159,253
                                    
                                    
                                    
                                    1,708
                                    
                                    
                                    
                                    4.26Tax-exempt
      securities
                                    
                                    
                                    3,852
                                    
                                    
                                    
                                    47
                                    
                                    
                                    
                                    4.85
                                    
                                    
                                    
                                    5,934
                                    
                                    
                                    
                                    73
                                    
                                    
                                    
                                    4.88Other
      investments (2)
                                    
                                    
                                    25,813
                                    
                                    
                                    
                                    235
                                    
                                    
                                    
                                    3.62
                                    
                                    
                                    
                                    4,600
                                    
                                    
                                    
                                    70
                                    
                                    
                                    
                                    6.04Federal
      funds sold and other short-term investments
                                    
                                    
                                    23,400
                                    
                                    
                                    
                                    110
                                    
                                    
                                    
                                    1.87
                                    
                                    
                                    
                                    19,799
                                    
                                    
                                    
                                    252
                                    
                                    
                                    
                                    5.05Total
      interest-earning assets
                                    
                                    
                                    1,486,490
                                    
                                    
                                    
                                    23,894
                                    
                                    
                                    
                                    6.39
                                    
                                    
                                    
                                    1,303,137
                                    
                                    
                                    
                                    26,686
                                    
                                    
                                    
                                    8.12Allowance
      for loan losses
                                    
                                    
                                    (16,083
                                    )
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    (12,949
                                    )Total
      interest-earning assets, net of allowance for loan losses
                                    
                                    
                                    1,470,407
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    1,290,188Noninterest-earning
      assets
                                    
                                    
                                    107,457
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    107,268Total
      assets
                                    
                                    $
                                    1,577,864
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    $
                                    1,397,456Liabilities and shareholders'
      equityInterest-bearing
      liabilities:Interest-bearing
      demand deposits
                                    
                                    $
                                    59,209
                                    
                                    
                                    
                                    114
                                    
                                    
                                    
                                    0.77
                                    %
                                    
                                    $
                                    63,529
                                    
                                    
                                    
                                    191
                                    
                                    
                                    
                                    1.19
                                    %Savings
      and money market accounts
                                    
                                    
                                    319,953
                                    
                                    
                                    
                                    2,227
                                    
                                    
                                    
                                    2.77
                                    
                                    
                                    
                                    283,115
                                    
                                    
                                    
                                    2,863
                                    
                                    
                                    
                                    4.01Time
      deposits
                                    
                                    
                                    652,404
                                    
                                    
                                    
                                    6,240
                                    
                                    
                                    
                                    3.81
                                    
                                    
                                    
                                    661,591
                                    
                                    
                                    
                                    8,335
                                    
                                    
                                    
                                    5.00Junior
      subordinated debentures
                                    
                                    
                                    36,083
                                    
                                    
                                    
                                    519
                                    
                                    
                                    
                                    5.75
                                    
                                    
                                    
                                    36,083
                                    
                                    
                                    
                                    474
                                    
                                    
                                    
                                    5.14Other
      borrowings (3)
                                    
                                    
                                    154,689
                                    
                                    
                                    
                                    974
                                    
                                    
                                    
                                    2.50
                                    
                                    
                                    
                                    13,505
                                    
                                    
                                    
                                    164
                                    
                                    
                                    
                                    4.82Total
      interest-bearing liabilities
                                    
                                    
                                    1,222,338
                                    
                                    
                                    
                                    10,074
                                    
                                    
                                    
                                    3.28
                                    
                                    
                                    
                                    1,057,823
                                    
                                    
                                    
                                    12,027
                                    
                                    
                                    
                                    4.51Noninterest-bearing
      liabilities:Noninterest-bearing
      demand deposits
                                    
                                    
                                    213,735
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    205,816Other
      liabilities
                                    
                                    
                                    18,032
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    19,245Total
      liabilities
                                    
                                    
                                    1,454,105
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    1,282,884Shareholders'
      equity
                                    
                                    
                                    123,759
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    114,572Total
      liabilities and shareholders' equity
                                    
                                    $
                                    1,577,864
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    $
                                    1,397,456Net
      interest income
                                    
                                    
                                    
                                    
                                    
                                    $
                                    13,820
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    $
                                    14,659Net
      interest spread
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    3.11
                                    %
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    3.61
                                    %Net
      interest margin
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    3.70
                                    %
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    4.46
                                    %


_________________________________





(1)
            Annualized.


(2)
            Other
      investments include Federal Reserve Bank stock, FHLB stock and investment
      in subsidiary trust.


(3)
              Other
      borrowings include FHLB notes, security repurchase agreements, the 2008
      Subordinated Debentures, and Federal Reserve
  TT&L.


19





For
      The Nine Months Ended September 30,2008
                                    
                                    
                                    2007Average
                                    
                                    
                                    Interest
                                    
                                    
                                    Average
                                    
                                    
                                    Average
                                    
                                    
                                    Interest
                                    
                                    
                                    AverageOutstanding
                                    
                                    
                                    Earned/
                                    
                                    
                                    Yield/
                                    
                                    
                                    Outstanding
                                    
                                    
                                    Earned/
                                    
                                    
                                    Yield/Balance
                                    
                                    
                                    Paid
                                    
                                    
                                    Rate(1)
                                    
                                    
                                    Balance
                                    
                                    
                                    Paid
                                    
                                    
                                    Rate(1)(Dollars
      in thousands)AssetsInterest-earning
      assets:Total
      loans
                                    
                                    $
                                    1,277,701
                                    
                                    
                                    $
                                    68,715
                                    
                                    
                                    
                                    7.18
                                    %
                                    
                                    $
                                    1,027,092
                                    
                                    
                                    $
                                    68,112
                                    
                                    
                                    
                                    8.87
                                    %Taxable
      securities
                                    
                                    
                                    118,684
                                    
                                    
                                    
                                    3,855
                                    
                                    
                                    
                                    4.34
                                    
                                    
                                    
                                    167,198
                                    
                                    
                                    
                                    5,340
                                    
                                    
                                    
                                    4.27Tax-exempt
      securities
                                    
                                    
                                    4,993
                                    
                                    
                                    
                                    184
                                    
                                    
                                    
                                    4.92
                                    
                                    
                                    
                                    6,341
                                    
                                    
                                    
                                    234
                                    
                                    
                                    
                                    4.93Other
      investments (2)
                                    
                                    
                                    14,102
                                    
                                    
                                    
                                    417
                                    
                                    
                                    
                                    3.95
                                    
                                    
                                    
                                    4,797
                                    
                                    
                                    
                                    208
                                    
                                    
                                    
                                    5.80Federal
      funds sold and other short-term investments
                                    
                                    
                                    23,859
                                    
                                    
                                    
                                    393
                                    
                                    
                                    
                                    2.20
                                    
                                    
                                    
                                    53,479
                                    
                                    
                                    
                                    2,070
                                    
                                    
                                    
                                    5.18Total
      interest-earning assets
                                    
                                    
                                    1,439,339
                                    
                                    
                                    
                                    73,564
                                    
                                    
                                    
                                    6.83
                                    
                                    
                                    
                                    1,258,907
                                    
                                    
                                    
                                    75,964
                                    
                                    
                                    
                                    8.07Allowance
      for loan losses
                                    
                                    
                                    (15,031
                                    )
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    (12,365
                                    )Total
      interest-earning assets, net of allowance for loan losses
                                    
                                    
                                    1,424,308
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    1,246,542Noninterest-earning
      assets
                                    
                                    
                                    108,479
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    90,460Total
      assets
                                    
                                    $
                                    1,532,787
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    $
                                    1,337,002Liabilities and shareholders'
      equityInterest-bearing
      liabilities:Interest-bearing
      demand deposits
                                    
                                    $
                                    59,033
                                    
                                    
                                    
                                    371
                                    
                                    
                                    
                                    0.84
                                    %
                                    
                                    $
                                    65,294
                                    
                                    
                                    
                                    583
                                    
                                    
                                    
                                    1.19
                                    %Savings
      and money market accounts
                                    
                                    
                                    291,354
                                    
                                    
                                    
                                    5,937
                                    
                                    
                                    
                                    2.72
                                    
                                    
                                    
                                    231,031
                                    
                                    
                                    
                                    6,499
                                    
                                    
                                    
                                    3.76Time
      deposits
                                    
                                    
                                    654,496
                                    
                                    
                                    
                                    20,671
                                    
                                    
                                    
                                    4.22
                                    
                                    
                                    
                                    651,203
                                    
                                    
                                    
                                    24,098
                                    
                                    
                                    
                                    4.95Junior
      subordinated debentures
                                    
                                    
                                    36,083
                                    
                                    
                                    
                                    1,559
                                    
                                    
                                    
                                    5.76
                                    
                                    
                                    
                                    36,083
                                    
                                    
                                    
                                    1,519
                                    
                                    
                                    
                                    5.55Other
      borrowings (3)
                                    
                                    
                                    139,530
                                    
                                    
                                    
                                    2,742
                                    
                                    
                                    
                                    2.63
                                    
                                    
                                    
                                    20,601
                                    
                                    
                                    
                                    753
                                    
                                    
                                    
                                    4.89Total
      interest-bearing liabilities
                                    
                                    
                                    1,180,496
                                    
                                    
                                    
                                    31,280
                                    
                                    
                                    
                                    3.54
                                    
                                    
                                    
                                    1,004,212
                                    
                                    
                                    
                                    33,452
                                    
                                    
                                    
                                    4.45Noninterest-bearing
      liabilities:Noninterest-bearing
      demand deposits
                                    
                                    
                                    210,966
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    203,729Other
      liabilities
                                    
                                    
                                    19,442
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    17,574Total
      liabilities
                                    
                                    
                                    1,410,904
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    1,225,515Shareholders'
      equity
                                    
                                    
                                    121,883
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    111,487Total
      liabilities and shareholders' equity
                                    
                                    $
                                    1,532,787
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    $
                                    1,337,002Net
      interest income
                                    
                                    
                                    
                                    
                                    
                                    $
                                    42,284
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    $
                                    42,512Net
      interest spread
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    3.29
                                    %
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    3.61
                                    %Net
      interest margin
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    3.92
                                    %
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    4.51
                                    %


__________________________________





(1)
            Annualized.


(2)
            Other
      investments include Federal Reserve Bank stock, FHLB stock and investment
      in subsidiary trust.


(3)
            Other
      borrowings include FHLB notes, security repurchase agreements, the 2008
      Subordinated Debentures, and Federal Reserve
  TT&L.


20




The
following table presents the dollar amount of changes in interest income and
interest expense for the major components of interest-earning assets and
interest-bearing liabilities and distinguishes between changes in outstanding
balances and changes in interest rates for the three and nine months ended
September 30, 2008 compared with the three and nine months ended September 30,
2007. For purposes of this table, changes attributable to both rate and volume
have been allocated to each accordingly.





Three
      Months Ended September 30,
                        
                        
                        Nine
      Months Ended September 30,2008
      vs 2007
                        
                        
                        2008
      vs 2007Increase
      (Decrease)
                        
                        
                        
                        
                        
                        Increase
      (Decrease)Due
      to
                        
                        
                        
                        
                        
                        Due
      toVolume
                        
                        
                        Rate
                        
                        
                        Total
                        
                        
                        Volume
                        
                        
                        Rate
                        
                        
                        Total(Dollars
      in thousands)Interest-earning
      assets:Loans
                        
                        $
                        4,615
                        
                        
                        $
                        (6,903
                        )
                        
                        $
                        (2,288
                        )
                        
                        $
                        16,682
                        
                        
                        $
                        (16,079
                        )
                        
                        $
                        603Taxable
      securities.
                        
                        
                        (552
                        )
                        
                        
                        51
                        
                        
                        
                        (501
                        )
                        
                        
                        (1,546
                        )
                        
                        
                        61
                        
                        
                        
                        (1,485
                        )Tax-exempt
      securities
                        
                        
                        (26
                        )
                        
                        
                        -
                        
                        
                        
                        (26
                        )
                        
                        
                        (50
                        )
                        
                        
                        -
                        
                        
                        
                        (50
                        )Other
      investments
                        
                        
                        322
                        
                        
                        
                        (157
                        )
                        
                        
                        165
                        
                        
                        
                        404
                        
                        
                        
                        (195
                        )
                        
                        
                        209Federal
      funds sold and other short-term investments
                        
                        
                        46
                        
                        
                        
                        (188
                        )
                        
                        
                        (142
                        )
                        
                        
                        (1,146
                        )
                        
                        
                        (531
                        )
                        
                        
                        (1,677
                        )Total
      increase (decrease) in interest income
                        
                        
                        4,405
                        
                        
                        
                        (7,197
                        )
                        
                        
                        (2,792
                        )
                        
                        
                        14,344
                        
                        
                        
                        (16,744
                        )
                        
                        
                        (2,400
                        )Interest-bearing
      liabilities:Interest-bearing
      demand deposits
                        
                        
                        (13
                        )
                        
                        
                        (64
                        )
                        
                        
                        (77
                        )
                        
                        
                        (56
                        )
                        
                        
                        (156
                        )
                        
                        
                        (212
                        )Savings
      and money market accounts
                        
                        
                        366
                        
                        
                        
                        (1,002
                        )
                        
                        
                        (636
                        )
                        
                        
                        1,702
                        
                        
                        
                        (2,264
                        )
                        
                        
                        (562
                        )Time
      deposits
                        
                        
                        (133
                        )
                        
                        
                        (1,962
                        )
                        
                        
                        (2,095
                        )
                        
                        
                        141
                        
                        
                        
                        (3,568
                        )
                        
                        
                        (3,427
                        )Junior
      subordinated debentures
                        
                        
                        45
                        
                        
                        
                        -
                        
                        
                        
                        45
                        
                        
                        
                        40
                        
                        
                        
                        -
                        
                        
                        
                        40Other
      borrowings
                        
                        
                        1,712
                        
                        
                        
                        (902
                        )
                        
                        
                        810
                        
                        
                        
                        4,350
                        
                        
                        
                        (2,361
                        )
                        
                        
                        1,989Total
      increase (decrease) in interest expense
                        
                        
                        1,977
                        
                        
                        
                        (3,930
                        )
                        
                        
                        (1,953
                        )
                        
                        
                        6,177
                        
                        
                        
                        (8,349
                        )
                        
                        
                        (2,172
                        )Increase
      (decrease) in net interest income
                        
                        $
                        2,428
                        
                        
                        $
                        (3,267
                        )
                        
                        $
                        (839
                        )
                        
                        $
                        8,167
                        
                        
                        $
                        (8,395
                        )
                        
                        $
                        (228
                        )





Provision for Loan Losses.
Provisions for loan losses are charged to income to bring the Company’s
allowance for loan losses to a level which management considers adequate to
absorb probable losses inherent in the loan portfolio. The provision for loan
losses for the three months ended September 30, 2008 was $1.8 million, up
approximately $586,000, compared with $1.2 million for the same period in
2007.  The provision for loan losses for the nine months ended
September 30, 2008 was $4.8 million, up approximately $3.0 million, compared
with $1.8 million for the same period in 2007.  The increase for the
three and nine months ended September 30, 2008 was primarily due to loan growth,
net charge-offs and general concerns regarding the downturn in the
economy.  The allowance for loan losses as a percent of total loans
(net of unearned discounts, interest and deferred fees) at September 30, 2008
and 2007 was 1.17% and 1.13%, respectively, compared with 1.09% at December 31,
2007.




Noninterest Income.
Noninterest income for the three months ended September 30, 2008 was $2.0
million, down approximately $166,000 or 7.6% compared with the same three months
in 2007. The decrease for the three months ended September 30, 2008 was
primarily due to a decrease in service fees and a net loss on securities
transactions as a result of the Fund redemption in kind transaction that
occurred in July 2008.  Noninterest income for the nine months ended
September 30, 2008 was $6.5 million, up approximately $676,000 or 11.5% compared
with the same period in 2007. The increase for the nine months ended September
30, 2008 was primarily due to an increase in the cash value of bank owned life
insurance, which is a component of other noninterest income, and an increase in
letter of credit commissions and fees, partially offset by a decrease in service
fees.





Noninterest Expenses.
Noninterest expenses for the three months ended September 30, 2008 and 2007 were
unchanged at $10.7 million.  Noninterest expenses for the nine months
ended September 30, 2008 were $33.5 million, up $1.7 million or 5.1% compared
with $31.8 million for the same period in 2007.  Changes in the
components of noninterest expenses are discussed below.





Salaries
and benefits expense for the three months ended September 30, 2008 was $6.2
million, a decrease of $358,000 compared with $6.6 million for the same period
in 2007.  The decrease was primarily due to a decrease in the number
of employees and bonus accrual, partially offset by an increase in severance
expenses and employee health care benefits.





Salaries
and benefits expense for the nine months ended September 30, 2008 was $18.7
million, an increase of $62,000 compared with $18.6 million for the same period
in 2007, primarily due to an increase in severance expenses and stock-based
compensation expense, partially offset by a decrease in the number of employees
and bonus accrual.


21




Occupancy
and equipment expense for the three months ended September 30, 2008 and 2007 was
$2.1 million.  Occupancy and equipment expense for the nine months
ended September 30, 2008 was $6.0 million, down $70,000 or 1.1% compared with
$6.1 million for the same period in 2007.





Impairment
on securities for the three months ended September 30, 2008 was $119,000
pre-tax.  Impairment on securities for the nine months ended September
30, 2008 was $1.7 million pre-tax.  There was no impairment on
securities during 2007.  See Note 2 – Securities in the accompanying
notes to condensed consolidated financial statements included elsewhere in this
report.





Other
noninterest expense for the three months ended September 30, 2008 was $2.2
million, an increase of $144,000 compared with $2.0 million for the same period
in 2007. The increase was primarily due to the effect of the prior year
elimination of the Texas franchise tax liability and an increase in the FDIC
assessment during the third quarter of 2008, offset by a decrease in the
provision for unfunded loan commitments.  Other noninterest expense
for the nine months ended September 30, 2008 was $7.3 million, an increase of
$147,000 compared with $7.2 million for the same period in 2007.  The
increase for the nine months ended September 30, 2008 was primarily due to the
effect of the prior year elimination of the Texas franchise tax liability, an
increase in legal fees during 2008, FDIC assessment and online banking expenses,
which was offset by decreases in the provision for unfunded loan commitments and
business development expenses.





The
Company’s efficiency ratio is calculated by dividing total noninterest expense,
excluding loan loss provisions and impairment on securities, by net interest
income plus noninterest income.  The Company’s efficiency ratio for
the three months ended September 30, 2008 was 66.86% compared with 63.65% for
the same quarter in 2007, and was primarily due to the decrease in net interest
income and noninterest income, previously discussed above.  The
Company’s efficiency ratio for the nine months ended September 30, 2008 was
65.17%, compared with 65.82% for the same period in 2007.





Income Taxes. Income tax
expense for the three months ended September 30, 2008 and 2007 was
$1.3 million and $1.8 million, respectively. The Company’s effective tax
rate was 38.60% and 35.31% for the three months ended September 30, 2008 and
2007, respectively.  The increase in the effective tax rate for the
three months ended September 30, 2008 was primarily due to an increase in the
provision for loan losses offset by an increase in net
charge-offs.   Income tax expense for the nine months ended
September 30, 2008 and 2007 was $4.0 million and $5.4 million,
respectively. The Company’s effective tax rate was 37.59% and 36.52% for the
nine months ended September 30, 2008 and 2007,
respectively.





Financial
Condition





Loan Portfolio. Total loans
at September 30, 2008 were $1.34 billion, up $139.7 million or 11.6% compared
with $1.20 billion at December 31, 2007. Compared with the loan level at
December 31, 2007, commercial and industrial loans increased $15.4 million
and real estate loans increased $124.8 million during the nine months ended
September 30, 2008.  At September 30, 2008 and December 31, 2007,
the ratio of total loans to total deposits was 106.04% and 100.91% respectively.
At the same dates, total loans represented 84.1% and 82.3% of total assets,
respectively.


22




The
following table summarizes the loan portfolio of the Company by type of
loan:





As
      of September 30, 2008
                          
                          
                          As
      of December31, 2007Amount
                          
                          
                          Percent
                          
                          
                          Amount
                          
                          
                          Percent(Dollars
      in thousands)Commercial
      and industrial
                          
                          $
                          473,536
                          
                          
                          
                          35.21
                          %
                          
                          $
                          458,117
                          
                          
                          
                          38.01
                          %Real
      estate mortgageResidential
                          
                          
                          11,768
                          
                          
                          
                          0.87
                          
                          
                          
                          5,306
                          
                          
                          
                          0.44Commercial
                          
                          
                          704,194
                          
                          
                          
                          52.36
                          
                          
                          
                          596,618
                          
                          
                          
                          49.50715,962
                          
                          
                          
                          53.23
                          
                          
                          
                          601,924
                          
                          
                          
                          49.94Real
      estate constructionResidential
                          
                          
                          51,898
                          
                          
                          
                          3.86
                          
                          
                          
                          58,971
                          
                          
                          
                          4.89Commercial
                          
                          
                          98,033
                          
                          
                          
                          7.29
                          
                          
                          
                          80,208
                          
                          
                          
                          6.65149,931
                          
                          
                          
                          11.15
                          
                          
                          
                          139,179
                          
                          
                          
                          11.54Consumer
      and other
                          
                          
                          5,492
                          
                          
                          
                          0.41
                          
                          
                          
                          6,132
                          
                          
                          
                          0.51Gross
      loans
                          
                          
                          1,344,921
                          
                          
                          
                          100.00
                          %
                          
                          
                          1,205,352
                          
                          
                          
                          100.00
                          %Unearned
      discounts, interest and deferred fees
                          
                          
                          (3,274
                          )
                          
                          
                          
                          
                          
                          
                          (3,441
                          )Total
      loans
                          
                          
                          1,341,647
                          
                          
                          
                          
                          
                          
                          
                          1,201,911Allowance
      for loan losses
                          
                          
                          (15,723
                          )
                          
                          
                          
                          
                          
                          
                          (13,125
                          )Loans,
      net
                          
                          $
                          1,325,924
                          
                          
                          
                          
                          
                          
                          $
                          1,188,786







Nonperforming Assets. Total
nonperforming assets, which include nonaccrual loans, loans 90 days or more past
due and still accruing interest and other real estate, at September 30, 2008,
were $28.7 million, an increase of $19.6 million or 215.4% compared with $9.1
million at December 31, 2007.  The increase was primarily due to the
$16.0 million loan associated with the previously  disclosed
bankruptcy filing of a commercial borrower in Texas, and the addition of $3.4
million in loans secured with residential real estate in Texas.  At
September 30, 2008, nonaccrual loans were $24.1 million  consisting of
the above mentioned $19.4 million, $2.9 million in loans secured with commercial
real estate in Texas, and $1.9 million in commercial loans secured with other
assets in Texas.  Also comprising nonperforming assets were $1.2
million in accruing loans that were 90 days or more past due, and $3.3 million
in other real estate. Approximately $19.3 million of the nonaccrual loans
are collateralized by real estate, which represented 78.5% of total nonaccrual
loans at September 30, 2008.  Other real estate totaling $3.3 million
consists of one $1.0 million residential lot development in California, and a
$1.2 million residential lot development, a $700,000 commercial property and
$385,000 in four single-family homes in Texas.  Net nonperforming
assets at September 30, 2008 were $27.4 million compared with
$6.8 million at December 31, 2007, an increase of $20.6 million
or 304.3%.





The
ratios for net nonperforming assets to total loans and other real estate at
September 30, 2008 and December 31, 2007 were 2.01% and 0.56%,
respectively. The ratios for net nonperforming assets to total assets were 1.69%
and 0.46% for the same periods, respectively. These ratios take into
consideration guarantees from the United States Department of Commerce’s Small
Business Administration (the “SBA”), the Export Import Bank of the United States
(the “Ex-Im Bank”), an independent agency of the United States Government, and
the Overseas Chinese Community Guaranty Fund (“OCCGF”), an agency sponsored by
the government of Taiwan, which were $1.7 million at September 30, 2008 and $2.3
million at December 31, 2007.





The
Company is occasionally involved in the sale of certain federally guaranteed
loans into the secondary market with servicing rights retained. Under the terms
of the SBA program, the Company may repurchase any loan that may become
classified as nonperforming. The Company’s nonperforming loans may increase
during the period of time in which any loan is repurchased until the loan is
either restored to an accrual status or the Company files a claim with the SBA
for the guaranteed portion of the loan.


23


The
following table presents information regarding nonperforming assets as of the
dates indicated:





As
      of
                        
                        
                        As
      ofSeptember 30,
      2008
                        
                        
                        December 31,
      2007(Dollars
      in thousands)Nonaccrual
      loans
                        
                        $
                        24,119
                        
                        
                        $
                        6,336Accruing
      loans 90 days or more past due
                        
                        
                        1,248
                        
                        
                        
                        1,284Other
      real estate (“ORE”)
                        
                        
                        3,315
                        
                        
                        
                        1,474Total
      nonperforming assets
                        
                        
                        28,682
                        
                        
                        
                        9,094Nonperforming
      loans guaranteed by the SBA, Ex-Im Bank and OCCGF
                        
                        
                        (1,665
                        )
                        
                        
                        (2,309
                        )Net
      nonperforming assets
                        
                        $
                        27,017
                        
                        
                        $
                        6,785Total
      nonperforming assets to total assets
                        
                        
                        1.80
                        %
                        
                        
                        0.62
                        %Total
      nonperforming assets to total loans and ORE
                        
                        
                        2.13
                        %
                        
                        
                        0.76
                        %Net
      nonperforming assets to total assets (1)
                        
                        
                        1.69
                        %
                        
                        
                        0.46
                        %Net
      nonperforming assets to total loans and ORE (1)
                        
                        
                        2.01
                        %
                        
                        
                        0.56
                        %


_____________________________________________________________





(1)
            Net
      nonperforming assets are net of the loan portions guaranteed by the SBA,
      Ex-Im Bank and OCCGF.





A loan is
considered impaired, based on current information and events, if management
believes that the Company will be unable to collect all amounts due according to
the contractual terms of the loan agreement. All amounts due according to the
contractual terms means that both the contractual interest payments and the
contractual principal payments of a loan will be collected as scheduled in the
loan agreement. An insignificant delay or insignificant shortfall in the amount
of payment does not require a loan to be considered impaired. If the measure of
the impaired loan is less than the recorded investment in the loan, a specific
reserve is established for the shortfall as a component of the Company’s
allowance for loan loss methodology. The Company considers all nonaccrual loans
to be impaired.





The
following is a summary of loans considered to be impaired as of the dates
indicated:




As
      of
                    September 30,
      2008
                  
                  
                  As
      of
                    December 31,
      2007(Dollars
      in thousands)Impaired
      loans with no SFAS No. 114 valuation reserve
                  
                  $
                  20,762
                  
                  
                  $
                  3,721Impaired
      loans with a SFAS No. 114 valuation reserve
                  
                  
                  3,357
                  
                  
                  
                  2,615Total
      recorded investment in impaired loans
                  
                  $
                  24,119
                  
                  
                  $
                  6,336Valuation
      allowance related to impaired loans
                  
                  $
                  897
                  
                  
                  $
                  1,131








The
average recorded investment in impaired loans during the nine months ended
September 30, 2008 and the year ended December 31, 2007 was $11.9 million
and $6.7 million, respectively.  No interest income on impaired loans
was recognized for cash payments received during the three and nine months ended
September 30, 2008.





Allowance for Loan Losses and
Reserve for Unfunded Lending Commitments.At September 30, 2008 and 2007,
the allowance for loan losses was $15.7 million and $12.9 million,
respectively, or 1.17% and 1.13% of total loans, respectively.  At
December 31, 2007, the allowance for loan losses was $13.1 million, or
1.09% of total loans.  Net charge-offs for the three months ended
September 30, 2008 were $1.6 million compared with $964,000 for the same period
in 2007.  Net charge-offs for the three months ended September 30,
2008 primarily consisted of $1.0 million in loans from Texas and $707,000 in
loans from California.  The largest charge-off was approximately
$826,000 related to a wholesale food business loan in Texas.  Net
charge-offs for the nine months ended September 30, 2008 were $2.2 million
compared with $344,000 for the same period in 2007.





The
Company maintains a reserve for unfunded commitments to provide for the risk of
loss inherent in its unfunded lending related commitments. The process used in
determining the reserve is consistent with the process used for the allowance
for loan losses discussed below.





The
allowance for loan losses provides for the risk of losses inherent in the
lending process. The allowance for loan losses is increased by provisions
charged against current earnings and is reduced by net charge-offs. Loans are
charged off when they are deemed to be uncollectible in whole or in part.
Recoveries are recorded when cash payments are received. In developing the
assessment, the Company relies on estimates and exercises judgment regarding
matters where the ultimate outcome is uncertain. Circumstances may change and
future assessments of credit risk may yield materially different results,
resulting in an increase or decrease in the allowance for credit
losses.


24




The
allowance for credit losses consists of the allowance for loan losses and the
reserve for unfunded lending commitments and is maintained at levels that the
Company believes are adequate to absorb probable losses inherent in the loan
portfolio and unfunded lending commitments as of the date of the financial
statements. The Company employs a systematic methodology for determining the
allowance for credit losses that consists of four components: (1) a component
for individual loan impairment recognized and measured pursuant to FASB
Statement No. 114, (2) one or more components of collective loan impairment
recognized pursuant to FASB Statement No. 5 – Accounting for Contingencies, (3)
a component that assesses the impact of current conditions and determines how
estimated future credit losses might be expected to deviate from historical
trends, and (4) a reserve for unfunded lending commitments. Policies and
procedures have been developed to assess the adequacy of the allowance for loan
losses and the reserve for unfunded lending commitments that include the
monitoring of qualitative and quantitative trends including changes in past due
levels, criticized and nonperforming loans, and charge-offs.





In
setting the general reserve portion of the allowance for loan losses, the
factors the Company may consider include, but are not limited to, changes in the
quality of the loan portfolio as determined by loan quality grades assigned to
each loan, an assessment of known problem loans, potential problem loans, and
other loans that exhibit weaknesses or deterioration, the general economic
environment in the Company’s markets as well as the national economy,
particularly the real estate markets, value of the collateral securing loans,
payment history, cash flow analysis of borrowers and other historical
information. After the aforementioned assessment of the loan portfolio, the
general economic environment and other relevant factors, changes are implemented
in the allowance for loan losses.  While this methodology is
consistently followed, future changes in circumstances, economic conditions or
other factors could cause management to reevaluate the level of the allowance
for loan losses.


25




The
following tables present, for the periods indicated, an analysis of the
allowance for credit losses and other related data for the periods
indicated:





As
      of and for the
                      Three Months Ended
      September 30,2008
                    
                    
                    2007(Dollars
      in thousands)Average
      total loans outstanding for the period
                    
                    $
                    1,325,350
                    
                    
                    $
                    1,113,551Total
      loans outstanding at end of period
                    
                    $
                    1,341,647
                    
                    
                    $
                    1,133,587Allowance
      for loan losses at beginning of period
                    
                    $
                    15,520
                    
                    
                    $
                    12,661Provision
      for loan losses
                    
                    
                    1,754
                    
                    
                    
                    1,168Charge-offs:Commercial
      and industrial
                    
                    
                    (1,224
                    )
                    
                    
                    (1,031
                    )Real
      estate mortgage
                    
                    
                    (415
                    )
                    
                    
                    –Real
      estate construction
                    
                    
                    (26
                    )
                    
                    
                    –Consumer
      and other
                    
                    
                    (27
                    )
                    
                    
                    (15
                    )Total
      charge-offs
                    
                    
                    (1,692
                    )
                    
                    
                    (1,046
                    )Recoveries:Commercial
      and industrial
                    
                    
                    137
                    
                    
                    
                    42Real
      estate mortgage
                    
                    
                    –
                    
                    
                    
                    –Real
      estate construction
                    
                    
                    –
                    
                    
                    
                    –Consumer
      and other
                    
                    
                    4
                    
                    
                    
                    40Total
      recoveries
                    
                    
                    141
                    
                    
                    
                    82Net
      (charge-offs)/recoveries
                    
                    
                    (1,551
                    )
                    
                    
                    (964
                    )Allowance
      for loan losses at end of period
                    
                    
                    15,723
                    
                    
                    
                    12,865Reserve
      for unfunded lending commitments at beginning of period
                    
                    
                    917
                    
                    
                    
                    1,026Provision
      for unfunded lending commitments
                    
                    
                    (179
                    )
                    
                    
                    (8
                    )Reserve
      for unfunded lending commitments at end of period
                    
                    
                    738
                    
                    
                    
                    1,018Allowance
      for credit losses at end of period
                    
                    $
                    16,461
                    
                    
                    $
                    13,883Ratio
      of net (charge-offs)/recoveries to end of period total
    loans
                    
                    
                    (0.12
                    )
      %
                    
                    
                    (0.09
                    )
      %


26




As
      of and for the
                        Nine Months Ended
      September 30,2008
                      
                      
                      2007(Dollars
      in thousands)Average
      total loans outstanding for the period
                      
                      $
                      1,277,701
                      
                      
                      $
                      1,027,092Total
      loans outstanding at end of period
                      
                      $
                      1,341,647
                      
                      
                      $
                      1,133,587Allowance
      for loan losses at beginning of period
                      
                      $
                      13,125
                      
                      
                      $
                      11,436Provision
      for loan losses
                      
                      
                      4,803
                      
                      
                      
                      1,773Charge-offs:Commercial
      and industrial
                      
                      
                      (1,641
                      )
                      
                      
                      (1,551
                      )Real
      estate mortgage
                      
                      
                      (505
                      )
                      
                      
                      –Real
      estate construction
                      
                      
                      (236
                      )
                      
                      
                      –Consumer
      and other
                      
                      
                      (69
                      )
                      
                      
                      (22
                      )Total
      charge-offs
                      
                      
                      (2,451
                      )
                      
                      
                      (1,573
                      )Recoveries:Commercial
      and industrial
                      
                      
                      238
                      
                      
                      
                      1,086Real
      estate mortgage
                      
                      
                      –
                      
                      
                      
                      99Real
      estate construction
                      
                      
                      –
                      
                      
                      
                      –Consumer
      and other
                      
                      
                      8
                      
                      
                      
                      44Total
      recoveries
                      
                      
                      246
                      
                      
                      
                      1,229Net
      (charge-offs)/recoveries
                      
                      
                      (2,205
                      )
                      
                      
                      (344
                      )Allowance
      for loan losses at end of period
                      
                      
                      15,723
                      
                      
                      
                      12,865Reserve
      for unfunded lending commitments at beginning of period
                      
                      
                      816
                      
                      
                      
                      793Provision
      for unfunded lending commitments
                      
                      
                      (78
                      )
                      
                      
                      225Reserve
      for unfunded lending commitments at end of period
                      
                      
                      738
                      
                      
                      
                      1,018Allowance
      for credit losses at end of period
                      
                      $
                      16,461
                      
                      
                      $
                      13,883Ratio
      of allowance for loan losses to end of period total loans
                      
                      
                      1.17
                      %
                      
                      
                      1.13
                      %Ratio
      of net (charge-offs)/recoveries to end of period total
    loans
                      
                      
                      (0.16
                      )
      %
                      
                      
                      (0.03
                      )
      %Ratio
      of allowance for loan losses to end of period total nonperforming loans
      (1)
                      
                      
                      61.98
                      %
                      
                      
                      180.81
                      %Ratio
      of allowance for loan losses to end of period net nonperforming loans
      (2)
                      
                      
                      66.34
                      %
                      
                      
                      289.23
                      %


_________________________________________________________





(1)
            Total
      nonperforming loans are nonaccrual loans plus loans 90 days or more
      past due.


(2)
            Net
      nonperforming loans are nonaccrual loans plus loans 90 days or more
      past due, less loan portions guaranteed by the SBA, Ex-Im Bank and
      OCCGF.





Securities. At September 30,
2008, the available-for-sale securities portfolio was $105.7 million, a decrease
of $32.1 million or 23.3% compared with $137.8 million at December 31,
2007. The decrease was primarily due to principal payments, sales and maturities
on mortgage-backed securities and collateralized mortgage obligations (“CMOs”),
U.S. Government sponsored enterprises securities and tax-free municipal bonds
(“municipals”).  The securities portfolio is primarily comprised of
mortgage-backed securities, CMOs and obligations of U.S. government sponsored
enterprises. Other investments, which include CDARS One-Way Sell investments,
Federal Reserve Bank (“FRB”) and FHLB stock, and the investment in subsidiary
trust, were $29.6 million at September 30, 2008 and $6.9 million at December 31,
2007, with the increase primarily due to the $20.1 million investment in the
CDARS program.





In June
2008, a non-cash impairment charge of $1.5 million pre-tax was recognized as a
result of an other-than-temporary impairment in the value of the $14.2 million
investment in the AMF Ultra Short Mortgage Fund (the “Fund”), and a $74,000
pre-tax non-cash impairment charge was recognized on another mutual fund. In
July 2008, the Company redeemed its shares in the Fund for approximately $2.2
million in cash, with the remaining value of approximately $10.5 million, net of
a $57,000 loss, distributed in the form of securities held by the Fund that
approximated the Company's respective interest in each of the underlying
securities.  In September 2008, as part of its quarterly impairment
review, the Company evaluated the securities received in the Fund redemption in
kind transaction and determined that certain securities had declines in fair
value below their cost that were considered other-than-temporary due to
downgrades by one or more of the three major rating agencies.  As a
result, the Company recorded a non-cash impairment charge of $119,000 pre-tax to
reduce the individual securities to their fair value.


27




Deposits. At September 30,
2008, total deposits were $1.27 billion, up $74.2 million or 6.2% compared
with $1.19 billion at December 31, 2007, primarily due to growth in
money market accounts. Noninterest-bearing demand deposits at September 30, 2008
decreased $1.4 million or 0.7% to $207.8 million compared with
$209.2 million at December 31, 2007. Interest-bearing deposits at
September 30, 2008 increased $75.6 million or 7.7% to $1.06 billion compared
with $981.8 million at December 31, 2007. The Company’s ratios of
noninterest-bearing demand deposits to total deposits at September 30, 2008 and
December 31, 2007 were 16.4% and 17.6%, respectively.





Junior Subordinated
Debentures.Junior subordinated debentures were
$36.1 million at September 30, 2008 and December 31, 2007. The junior
subordinated debentures accrue interest at a fixed rate of 5.7625% until
December 15, 2010, at which time the debentures will accrue interest at a
floating rate equal to the 3-month LIBOR plus 1.55%. The debentures mature on
December 15, 2035, but are redeemable at the Company’s option at par plus
accrued and unpaid interest on or after December 15, 2010. The net proceeds
to the Company from the sale of the debentures to the Company’s subsidiary
trust, MCBI Statutory Trust I, were used to fund the Company’s acquisition
of Metro United.





Other Borrowings. Other
borrowings are comprised of FHLB notes, security repurchase agreements, the 2008
Subordinated Debentures, and Federal Reserve TT&L.   Other
borrowings at September 30, 2008 were $154.2 million, an increase of $54.4
million compared with $99.8 million at December 31, 2007.  The
increase in other borrowings is primarily due to $30.0 million of additional
short-term borrowings from the FHLB of Dallas, $20.0 million of additional
short-term borrowings from FHLB of San Francisco, and the issuance of $4.0
million in 2008 Subordinated Debentures.





In June
2008, the Company issued an aggregate of $4.0 million in its 2008 Subordinated
Debentures to related parties.  The debentures accrue interest at a
fixed rate of 5.0%, payable quarterly commencing on September 30, 2008 and
mature in December 2008.  The proceeds from issuance of the 2008
Subordinated Debentures were used to contribute capital to the
Banks.





The notes
from the FHLB of Dallas bear interest at an average rate of 2.17% and have
maturities ranging from one to six weeks. The notes from the FHLB of San
Francisco bear interest at 2.33% and are callable daily at the discretion of the
FHLB, and can be repaid at any time with a one-day notice. Maturities of any
advances from the FHLBs since September 30, 2008 have been renewed with similar
terms.  The security repurchase agreements bear interest at an average
rate of 2.87% and mature on December 31, 2014.  The securities
collateralizing the repurchase agreements are transferred to the applicable
counterparty.  The counterparty, in certain instances, is
contractually entitled to sell or repledge securities accepted as
collateral.


28




The
following table provides, for the periods indicated, an analysis of the
Company’s other borrowings:




As
      of and for the Nine Months Ended September 30, 2008
                      
                      
                      As
      of and for the Year Ended December 31, 2007(Dollars
      in thousands)Federal
      Funds Purchased:at
      end of period
                      
                      $
                      –
                      
                      
                      $
                      –average
      during the period
                      
                      
                      26
                      
                      
                      
                      –maximum
      month-end balance during the period
                      
                      
                      2,000
                      
                      
                      
                      –Interest
      rate at end of period
                      
                      
                      –
                      
                      
                      
                      –Interest
      rate during the period
                      
                      
                      2.44
                      %
                      
                      
                      –FHLB
      Notes:at
      end of period
                      
                      $
                      124,000
                      
                      
                      $
                      74,000Average
      during the period
                      
                      
                      112,414
                      
                      
                      
                      25,516maximum
      month-end balance during the period
                      
                      
                      133,000
                      
                      
                      
                      74,000Interest
      rate at end of period
                      
                      
                      2.24
                      %
                      
                      
                      4.07
                      %Interest
      rate during the period
                      
                      
                      2.55
                      
                      
                      
                      4.89Security
      Repurchase Agreements:at
      end of period
                      
                      $
                      25,000
                      
                      
                      $
                      25,000average
      during the period
                      
                      
                      25,000
                      
                      
                      
                      68maximum
      month-end balance during the period
                      
                      
                      25,000
                      
                      
                      
                      25,000Interest
      rate at end of period
                      
                      
                      2.87
                      %
                      
                      
                      2.87
                      %Interest
      rate during the period
                      
                      
                      
                      
                      
                      
                      2.87Subordinated
      Debentures:at
      end of period
                      
                      $
                      4,000
                      
                      
                      $
                      –average
      during the period
                      
                      
                      1,409
                      
                      
                      
                      –maximum
      month-end balance during the period
                      
                      
                      4,000
                      
                      
                      
                      –Interest
      rate at end of period
                      
                      
                      5.00
                      %
                      
                      
                      –Interest
      rate during the period
                      
                      
                      5.00
                      
                      
                      
                      –Federal
      Reserve TT&L:at
      end of period
                      
                      $
                      1,187
                      
                      
                      $
                      796Average
      during the period
                      
                      
                      681
                      
                      
                      
                      819maximum
      month-end balance during the period
                      
                      
                      1,187
                      
                      
                      
                      1,067





Liquidity and Recent Market
Conditions. The Company believes it has sufficient liquidity for
operations and other needs despite recent economic developments. Sources of
liquidity are loan and investment securities repayments, deposit inflows, and
lines of credit from the FHLB of Dallas and San Francisco (“FHLBs”) as well as
the FRB discount window. With its current level of collateral, the Company has
the ability to borrow an additional $293.2 million from the FHLBs, $9.2 million
from the FRB discount window, and $21.5 million from other correspondent banks.
With the recent temporary increase in FDIC deposit insurance coverage from
$100,000 to $250,000 and the temporary FDIC insurance extended to all
non-interest bearing deposit accounts regardless of size under the Temporary
Liquidity Guarantee Program, depositor concern has been lessened and deposit
inflows remain stable. The Company plans to participate in the Temporary
Liquidity Guarantee Program and may be subject to pay the 10 basis points
per annum charge for noninterest bearing transaction deposits above
$250,000.  The Company continues to attract core deposits and
certificates of deposit from retail and commercial customers. With capital
levels exceeding the levels required to be considered “well-capitalized”, the
Company is also able to access other wholesale funding sources without
restriction, including brokered deposits, the CDARS program and repurchase
agreements. These wholesale sources are being used to provide access to
lower-cost and longer-term funding than the current retail environment supports.
The Company has applied for participation in the CPP, which would provide
additional liquidity as well as capital to sustain future needs.





Uses of
liquidity are primarily for deposit and loan activity as well as operations of
the Company and the Banks. The Company’s loan to deposit ratio at September 30,
2008 was 106.04%. As of this same date, the Company had commitments to fund
loans in the amount of $271.6 million, and had stand-by letters of credit
of $9.8 million for which the Company has recorded a liability of $35,000
at September 30, 2008, representing the fair value of the Company’s probable
obligations.


29




Capital Resources.
Shareholders’ equity at September 30, 2008 was $123.4 million compared with
$117.4 million at December 31, 2007, an increase of $6.0 million. This
increase was primarily the combined result of $6.6 million in net income,
and a net increase in additional paid-in capital of $532,000 due to the effect
of stock-based compensation expense, net of the issuance of restricted stock and
dividend reinvestment, partially offset by dividend payments of $1.3 million,
and an increase in accumulated other comprehensive loss of
$647,000.





The
following table provides a comparison of the Company’s and the Banks’ leverage
and risk-based capital ratios as of September 30, 2008 to the minimum and
well-capitalized regulatory standards:





Minimum
      Required For Capital Adequacy Purposes
                  
                  To
      Be Categorized as Well Capitalized Under Prompt Corrective Action
      Provisions
                  
                  Actual
      Ratio At September 30, 2008The
      CompanyLeverage
      ratio
                  
                  
                  4.00
                  %(1)
                  
                  
                  N/A
                  %
                  
                  
                  8.77
                  %Tier
      1 risk-based capital ratio
                  
                  
                  4.00
                  
                  
                  
                  N/A
                  
                  
                  
                  9.09Risk-based
      capital ratio
                  
                  
                  8.00
                  
                  
                  
                  N/A
                  
                  
                  
                  10.24MetroBankLeverage
      ratio
                  
                  
                  4.00
                  %(2)
                  
                  
                  5.00
                  %
                  
                  
                  8.96
                  %Tier
      1 risk-based capital ratio
                  
                  
                  4.00
                  
                  
                  
                  6.00
                  
                  
                  
                  9.30Risk-based
      capital ratio
                  
                  
                  8.00
                  
                  
                  
                  10.00
                  
                  
                  
                  10.41Metro
      United BankLeverage
      ratio
                  
                  
                  4.00
                  %(3)
                  
                  
                  5.00
                  %
                  
                  
                  9.15
                  %Tier
      1 risk-based capital ratio
                  
                  
                  4.00
                  
                  
                  
                  6.00
                  
                  
                  
                  9.46Risk-based
      capital ratio
                  
                  
                  8.00
                  
                  
                  
                  10.00
                  
                  
                  
                  10.53


______________________________________





(1)
            The
      Federal Reserve Board may require the Company to maintain a leverage ratio
      above the required minimum.


(2)
            The
      OCC may require MetroBank to maintain a leverage ratio above the required
      minimum.


(3)
            The
      FDIC may require Metro United to maintain a leverage ratio above the
      required minimum.







Critical
Accounting Estimates





The
Company has established various accounting estimates which govern the
application of accounting principles generally accepted in the United States in
the preparation of the Company’s consolidated financial statements. Certain
accounting estimates involve significant judgments and assumptions by management
which have a material impact on the carrying value of certain assets and
liabilities; management considers such accounting estimates to be critical
accounting estimates. The judgments and assumptions used by management are based
on historical experience and other factors, which are believed to be reasonable
under the circumstances. Because of the nature of the judgments and assumptions
made by management, actual results could differ from these judgments and
estimates which could have a material impact on the carrying values of assets
and liabilities and the results of operations of the Company.





The
Company believes the allowance for loan losses is a critical accounting estimate
that requires the most significant judgments and estimates used in the
preparation of its consolidated financial statements. The Company’s allowance
for possible loan loss methodology is based on guidance provided in SEC Staff
Accounting Bulletin No. 102, “Selected Loan Loss Allowance Methodology
and Documentation Issues” and includes allowance allocations calculated in
accordance with Statement of Financial Accounting Standards (SFAS) No. 114,
“Accounting by Creditors for Impairment of a Loan,” as amended by SFAS 118,
and allowance allocations determined in accordance with SFAS No. 5,
“Accounting for Contingencies.” In estimating the allowance for loan losses,
management reviews the effect of changes in the local real estate market on
collateral values, the effect of current economic indicators on the loan
portfolio and their probable impact on borrowers and increases or decreases in
nonperforming and impaired loans. Changes in these factors may cause
management’s estimate of the allowance to increase or decrease and result in
adjustments to the Company’s provision for loan losses. See — “Financial
Condition — Allowance for Loan Losses and the Reserve for Unfunded Lending
Commitments”.





The
Company believes goodwill is a critical accounting estimate that requires
significant judgment and estimates used in the preparation of its consolidated
financial statements. Goodwill is recorded for the excess of the purchase price
over the fair value of identifiable net assets, including core deposit
intangibles, acquired through a merger transaction.  Goodwill is not
amortized, but instead will be tested for impairment at least annually using
both a discounted cash flow analysis and a review of the valuation of recent
bank acquisitions.  The discounted cash flow analysis utilizes a
risk-free interest rate, estimates of future cash flow and probabilities as to
the occurrence of the future cash flows. Other acquired intangible assets
determined to have finite lives, such as core deposit intangibles, are amortized
over their estimated useful lives in a manner that best reflects the economic
benefits of the intangible asset.  In addition, an impairment test is
performed periodically on these amortizing intangible assets.


30




The
Company believes stock-based compensation is a critical accounting estimate that
requires significant judgment and estimates used in the preparation of its
consolidated financial statements. The Company accounts for stock-based
compensation in accordance with the fair value recognition provisions of SFAS
No. 123R. The Company uses the Black-Scholes option-pricing model which requires
the input of highly subjective assumptions. These assumptions include estimating
the length of time employees will retain their vested stock options before
exercising them (“expected term”), the estimated volatility of the Company’s
common stock price over the expected term and the number of options that will
ultimately not complete their vesting requirements (“forfeitures”). Changes
inthe subjective
assumptions can materially affect the estimate of fair value of stock-based
compensation and consequently, the related amount recognized on the consolidated
statements of income.





The
Company believes estimates of fair value are a critical accounting estimate that
requires significant judgment and estimates used in the preparation of its
consolidated financial statements. Certain portions of the Company’s assets are
reported on a fair value basis. Fair value is used on a recurring basis for
certain assets in which fair value is the primary basis of accounting. The
extent to which fair value is used on a recurring basis was significantly
expanded upon the adoption of SFAS No. 159 and SFAS No. 157 effective
on January 1, 2008. An example of this recurring use of fair value includes
available for sale securities. Additionally, fair value is used on a
non-recurring basis to evaluate assets for impairment or for disclosure purposes
in accordance with SFAS No. 107. Examples of these non-recurring uses of
fair value include goodwill, intangible assets, and certain collateral dependent
impaired loans. Depending on the nature of the asset, various valuation
techniques and assumptions are used when estimating fair value. These valuation
techniques and assumptions are in accordance with SFAS
No. 157.





Fair
value is the price that could be received to sell an asset or paid to transfer a
liability in an orderly transaction between market participants. Fair value
determination in accordance with SFAS No. 157 requires that a number of
significant judgments are made. First, where prices for identical assets and
liabilities are not available, application of the three-level hierarchy
established by SFAS No. 157 would require that similar assets are
identified. If observable market prices are unavailable or impracticable to
obtain, then fair value is estimated using modeling techniques such as
discounted cash flow analyses. These modeling techniques incorporate the
Company’s assessments regarding assumptions that market participants would use
in pricing the asset or the liability, including assumptions about the risks
inherent in a particular valuation technique, the effect of a restriction on the
sale or use of an asset, and the risk of nonperformance. Assessments with
respect to assumptions that market participants would make are inherently
difficult to determine and use of different assumptions could result in material
changes to these fair value measurements. As required under SFAS No. 157,
any use of significant, unobservable inputs would be described in Note 9, “Fair
Value,” to the Condensed Consolidated Financial Statements.





In
estimating the fair values for investment securities the Company believes that
independent, third-party market prices are the best evidence of exit price and
where available, estimates are based on such prices. If such third-party market
prices are not available on the exact securities owned, fair values are based on
the market prices of similar instruments, independent pricing service estimates
or are estimated using industry-standard or proprietary models whose inputs may
be unobservable. When market observable data is not available, the valuation of
financial instruments becomes more subjective and involves substantial judgment.
The need to use unobservable inputs generally results from the lack of market
liquidity for certain types of loans and securities, which results in diminished
observability of both actual trades and assumptions that would otherwise be
available to value these instruments.





Item 3. Quantitative and
Qualitative Disclosures about Market Risk.





There
have been no material changes in the market risk information previously
disclosed in the Company’s Annual Report on Form 10-K for the year ended
December 31, 2007. See Form 10-K, Item 7 “Management’s Discussion and
Analysis of Financial Condition and Results of Operations — Financial Condition
— Interest Rate Sensitivity and Liquidity.”





Item 4. Controls and
Procedures





Evaluation of Disclosure Controls
and Procedures.  As of the end of the period covered by this
report, the Company carried out an evaluation, under the supervision and with
the participation of its management, including its Chief Executive Officer and
Chief Financial Officer, of the effectiveness of the design and operation of the
Company’s disclosure controls and procedures. Based on this evaluation, the
Company’s Chief Executive Officer and Chief Financial Officer concluded that the
Company’s disclosure controls and procedures (as defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act of 1934)  were effective
as of the end of the period covered by this report.





Changes in Internal Control over
Financial Reporting. There were no changes in the Company’s internal
control over financial reporting that occurred during the Company’s most recent
fiscal quarter that have materially affected, or are reasonably likely to
materially affect, the Company’s internal control over financial
reporting.


31




PART
II





OTHER
INFORMATION





Item 1.
Legal
Proceedings





The
Company is involved in various litigation that arises from time to time in the
normal course of business.  In the opinion of management, after
consultations with its legal counsel, such litigation is not expected to have a
material adverse effect of the Company’s consolidated financial position,
results of operations or cash flows.





Item 1A.
Risk
Factors





Except
for the addition of the risk factors described below, there have been no
material changes in the risk factors previously described under "Item 1A. Risk
Factors" of the Company's 2007 Annual Report on Form 10-K for the year ended
December 31, 2007 filed with the Securities and Exchange Commission on March 12,
2008.





The
current economic environment poses significant challenges for the Company and
could adversely affect the Company's financial condition and results of
operations.





The
Company is operating in a challenging and uncertain economic environment,
including generally uncertain conditions nationally and locally in the Company's
markets.  Financial institutions continue to be affected by declines
in the real estate market and constrained financial markets.  The
Company retains direct exposure to the residential and commercial real estate
markets, and is affected by these events.  Continued declines in real
estate values, home sales volumes and financial stress on borrowers as a result
of the uncertain economic environment, including job losses, could have an
adverse affect on the Company's borrowers or its customers, which could
adversely affect its financial conditions and results of
operations.  In addition, a possible national economic recession or
further deterioration in local economic conditions in the Company's markets
could drive losses beyond that which is provided for in its allowance for loan
losses and result in the following consequences:





·
            increases
      in loan delinquencies;


·
            increases
      in nonperforming assets and
foreclosures;


·
            decreases
      in demand for the Company's products and services, which could adversely
      affect its liquidity position; and


·
            decreases
      in the value of the collateral securing the Company's loans, especially
      real estate, which could reduce customers' borrowing
  power.





Treasury
and the FDIC have initiated programs to address economic stabilization, yet the
efficacy of these programs in stabilizing the economy and the banking system at
large are uncertain. Further, details as to the approval of the Company's
participation or access to such programs and their subsequent impact on the
Company's business, prospects, financial condition and results of operation
remain uncertain.





Current
levels of market volatility are unprecedented and could adversely impact the
Company's results of operation and access to capital.





The
capital and credit markets have been experiencing volatility and disruption for
more than 12 months.  In recent weeks, the volatility and disruption
has reached unprecedented levels.  In some cases, the markets have
produced downward pressure on stock prices and credit capacity for certain
issuers without regard to those issuers' underlying financial
strength.  If the current levels of market disruption and volatility
continue or worsen, there can be no assurance that the Company will not
experience further adverse effects, which may be material, on its ability to
access capital and on its results of operations.








Item 2. Unregistered
Sales of Equity Securities and Use of Proceeds





Not
applicable





Item 3. Defaults Upon
Senior Securities





Not
applicable




32




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




Not
applicable





Item 5.Other
Information





Not
applicable


33




Item 6.Exhibits





ExhibitNumber
                      
                      Identification
      of Exhibit3.1
                      
                      -
      Amended and Restated Articles of Incorporation of the Company
      (incorporated herein by reference to Exhibit 3.1 to the Company's
      Registration Statement on Form S-1 (Registration No. 333-62667) (the
      "Registration Statement")).3.2
                      
                      -
      Articles of Amendment to Amended and Restated Articles of Incorporation.
      (incorporated herein by reference to Exhibit 3.2 to the Company’s
      Quarterly Report on Form 10-Q for the quarter ended March 31,
      2007).3.3
                      
                      -
      Amended and Restated Bylaws of the Company (incorporated herein by
      reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K filed
      on November 19, 2007).4
                      
                      -
      Specimen form of certificate evidencing the Common Stock (incorporated
      herein by reference to Exhibit 4 to the Registration
      Statement).11
                      
                      -
      Computation of Earnings Per Common Share, included as Note (5) to the
      unaudited Condensed Consolidated Financial Statements of this
      Form 10-Q.31.1*
                      
                      -
      Certification of the Chief Executive Officer pursuant to
      Rule 13a-14(a) of the Securities Exchange Act of 1934, as
      amended.31.2*
                      
                      -
      Certification of the Chief Financial Officer pursuant to
      Rule 13a-14(a) of the Securities Exchange Act of 1934, as
      amended.32.1**
                      
                      -
      Certification of the Chief Executive Officer pursuant to 18 U.S.C.
      Section 1350, adopted pursuant to Section 906 of the
      Sarbanes-Oxley Act of 2002.32.2**
                      
                      -
      Certification of the Chief Financial Officer pursuant to 18 U.S.C.
      Section 1350, adopted pursuant to Section 906 of the
      Sarbanes-Oxley Act of
2002.


_________________


* Filed
herewith.


**
Furnished herewith.


34




SIGNATURES





Pursuant
to the requirements of the Securities Exchange Act of 1934, the Registrant has
duly caused this report to be signed on its behalf by the undersigned, thereunto
duly authorized.





METROCORP
      BANCSHARES, INC.By:
              /s/
      George M. LeeDate:
      November 7, 2008
              
              George
      M. LeeExecutive
      Vice Chairman, President and ChiefExecutive
      Officer (principal executive officer)Date:
      November 7, 2008
              By:
              /s/
      David C. ChoiDavid
      C. ChoiChief
      Financial Officer (principal financial officer/principal
      accounting officer)


35




EXHIBIT
INDEX




ExhibitNumber
                    
                    Identification
      of Exhibit3.1
                    -
                    Amended
      and Restated Articles of Incorporation of the Company (incorporated herein
      by reference to Exhibit 3.1 to the Company's Registration Statement on
      Form S-1 (Registration No. 333-62667) (the "Registration
      Statement")).3.2
                    
                    Articles
      of Amendment to Amended and Restated Articles of Incorporation.
      (incorporated herein by reference to Exhibit 3.2 to the Company’s
      Quarterly Report on Form 10-Q for the quarter ended March 31,
      2007).3.3
                    -
                    Amended
      and Restated Bylaws of the Company (incorporated herein by reference to
      Exhibit 3.1 to the Company’s Current Report on Form 8-K filed on November
      19, 2007).4
                    -
                    Specimen
      form of certificate evidencing the Common Stock (incorporated herein by
      reference to Exhibit 4 to the Registration Statement).11
                    -
                    Computation
      of Earnings Per Common Share, included as Note (5) to the unaudited
      Condensed Consolidated Financial Statements of this
      Form 10-Q.31.1*
                    -
                    Certification
      of the Chief Executive Officer pursuant to Rule 13a-14(a) of the
      Securities Exchange Act of 1934, as amended.31.2*
                    -
                    Certification
      of the Chief Financial Officer pursuant to Rule 13a-14(a) of the
      Securities Exchange Act of 1934, as amended.32.1**
                    -
                    Certification
      of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350,
      adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
      2002.32.2**
                    -
                    Certification
      of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350,
      adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
      2002.





____________________


* Filed
herewith.


**
Furnished herewith.