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,
2009





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
              (State
      or other jurisdiction ofincorporation
      or organization)
            76-0579161
              (I.R.S.
      EmployerIdentification
      No.)





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 has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files).   Yes
£     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 Exchange Act). Yes £    No
R





As of
November 3, 2009, the number of outstanding shares of Common Stock was
10,926,315.










PART
I


FINANCIAL
INFORMATION





Item 1.
Financial
Statements.


METROCORP
BANCSHARES, INC.


CONDENSED
CONSOLIDATED BALANCE SHEETS


(In
thousands, except share and per share amounts)


(Unaudited)




September
      30,
            
            
            December
      31,2009
            
            
            2008ASSETSCash
      and due from banks
            
            $
            41,178
            
            
            $
            26,383Federal
      funds sold and other short-term investments
            
            
            79,536
            
            
            
            11,718Total
      cash and cash equivalents
            
            
            120,714
            
            
            
            38,101Securities
      available-for-sale, at fair value
            
            
            90,225
            
            
            
            102,104Securities
      held-to-maturity (fair value $4,423 at September 30, 2009)
            
            
            4,044
            
            
            
            –Other
      investments
            
            
            25,351
            
            
            
            29,220Loans,
      net of allowance for loan losses of $25,603 and $24,235,
      respectively
            
            
            1,285,935
            
            
            
            1,321,813Accrued
      interest receivable
            
            
            4,952
            
            
            
            5,946Premises
      and equipment, net
            
            
            6,235
            
            
            
            7,368Goodwill
            
            
            21,827
            
            
            
            21,827Core
      deposit intangibles
            
            
            373
            
            
            
            506Customers'
      liability on acceptances
            
            
            3,219
            
            
            
            8,012Foreclosed
      assets, net
            
            
            23,012
            
            
            
            4,825Other
      assets
            
            
            43,845
            
            
            
            40,516Total
      assets
            
            $
            1,629,732
            
            
            $
            1,580,238LIABILITIES
      AND SHAREHOLDERS' EQUITYDeposits:Noninterest-bearing
            
            $
            211,189
            
            
            $
            204,107Interest-bearing
            
            
            1,180,637
            
            
            
            1,065,046Total
      deposits
            
            
            1,391,826
            
            
            
            1,269,153Junior
      subordinated debentures
            
            
            36,083
            
            
            
            36,083Other
      borrowings
            
            
            25,118
            
            
            
            139,046Accrued
      interest payable
            
            
            1,072
            
            
            
            1,279Acceptances
      outstanding
            
            
            3,219
            
            
            
            8,012Other
      liabilities
            
            
            8,647
            
            
            
            7,506Total
      liabilities
            
            
            1,465,965
            
            
            
            1,461,079Commitments
      and contingencies
            
            
            –
            
            
            
            –Shareholders'
      equity:Preferred
      stock, $1.00 par value, 2,000,000 shares authorized; 45,000 shares issued
      and outstanding at September 30, 2009 and none at December 31,
      2008
            
            
            44,683
            
            
            
            –Common
      stock, $1.00 par value, 50,000,000 shares authorized; 10,994,965 shares
      issued and 10,926,315 and 10,885,081 shares outstanding at September 30,
      2009 and December 31, 2008, respectively
            
            
            10,995
            
            
            
            10,995Additional
      paid-in-capital
            
            
            28,837
            
            
            
            28,222Retained
      earnings
            
            
            80,431
            
            
            
            82,311Accumulated
      other comprehensive loss
            
            
            (259
            )
            
            
            (910
            )Treasury
      stock, at cost, 68,650 and 109,884 shares at September 30, 2009 andDecember 31, 2008, respectively
            
            
            (920
            )
            
            
            (1,459
            )Total
      shareholders' equity
            
            
            163,767
            
            
            
            119,159Total
      liabilities and shareholders' equity
            
            $
            1,629,732
            
            
            $
            1,580,238





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 30,2009
            
            
            2008
            
            
            2009
            
            
            2008Interest
      income:Loans
            
            $
            20,654
            
            
            $
            22,295
            
            
            $
            61,791
            
            
            $
            68,715Securities:Taxable
            
            
            965
            
            
            
            1,207
            
            
            
            3,048
            
            
            
            3,855Tax-exempt
            
            
            85
            
            
            
            47
            
            
            
            210
            
            
            
            184Other
      investments
            
            
            89
            
            
            
            235
            
            
            
            386
            
            
            
            417Federal
      funds sold and other short-term investments
            
            
            29
            
            
            
            110
            
            
            
            150
            
            
            
            393Total
      interest income
            
            
            21,822
            
            
            
            23,894
            
            
            
            65,585
            
            
            
            73,564Interest
      expense:Time
      deposits
            
            
            4,687
            
            
            
            6,240
            
            
            
            15,991
            
            
            
            20,671Demand
      and savings deposits
            
            
            1,761
            
            
            
            2,341
            
            
            
            6,190
            
            
            
            6,308Junior
      subordinated debentures
            
            
            519
            
            
            
            519
            
            
            
            1,559
            
            
            
            1,559Subordinated
      debentures and other borrowings
            
            
            240
            
            
            
            974
            
            
            
            768
            
            
            
            2,742Total
      interest expense
            
            
            7,207
            
            
            
            10,074
            
            
            
            24,508
            
            
            
            31,280Net
      interest income
            
            
            14,615
            
            
            
            13,820
            
            
            
            41,077
            
            
            
            42,284Provision
      for loan losses
            
            
            3,596
            
            
            
            1,754
            
            
            
            12,710
            
            
            
            4,803Net
      interest income after provision for loan losses
            
            
            11,019
            
            
            
            12,066
            
            
            
            28,367
            
            
            
            37,481Noninterest
      income:Service
      fees
            
            
            1,134
            
            
            
            1,241
            
            
            
            3,309
            
            
            
            3,690Loan-related
      fees
            
            
            136
            
            
            
            174
            
            
            
            429
            
            
            
            538Letters
      of credit commissions and fees
            
            
            256
            
            
            
            264
            
            
            
            769
            
            
            
            826Gain
      (loss) on securities transactions, net
            
            
            335
            
            
            
            (57
            )
            
            
            344
            
            
            
            91Gain
      on sale of loans
            
            
            –
            
            
            
            43
            
            
            
            –
            
            
            
            288Other
      noninterest income
            
            
            442
            
            
            
            367
            
            
            
            1,320
            
            
            
            1,106Total
      noninterest income
            
            
            2,303
            
            
            
            2,032
            
            
            
            6,171
            
            
            
            6,539Noninterest
      expenses:Salaries
      and employee benefits
            
            
            4,864
            
            
            
            6,236
            
            
            
            15,495
            
            
            
            18,653Occupancy
      and equipment
            
            
            2,014
            
            
            
            2,091
            
            
            
            6,006
            
            
            
            6,032Foreclosed
      assets, net
            
            
            1,320
            
            
            
            120
            
            
            
            2,740
            
            
            
            (212
            )Total
      other-than-temporary impairments(“OTTI”)
      on securities
            
            
            791
            
            
            
            119
            
            
            
            1,971
            
            
            
            1,659Less:
      Noncredit portion of “OTTI”
            
            
            (453
            )
            
            
            –
            
            
            
            (1,334
            )
            
            
            –Net
      impairments on securities
            
            
            338
            
            
            
            119
            
            
            
            637
            
            
            
            1,659FDIC
      assessment
            
            
            1,027
            
            
            
            192
            
            
            
            2,712
            
            
            
            375Other
      noninterest expense
            
            
            2,061
            
            
            
            1,959
            
            
            
            6,738
            
            
            
            6,971Total
      noninterest expenses
            
            
            11,624
            
            
            
            10,717
            
            
            
            34,328
            
            
            
            33,478Income
      before provision for income taxes
            
            
            1,698
            
            
            
            3,381
            
            
            
            210
            
            
            
            10,542Provision
      (benefit) for income taxes
            
            
            560
            
            
            
            1,305
            
            
            
            (46
            )
            
            
            3,963Net
      income
            
            $
            1,138
            
            
            $
            2,076
            
            
            $
            256
            
            
            $
            6,579Dividends
      – preferred stock
            
            
            563
            
            
            
            –
            
            
            
            1,594
            
            
            
            –Net
      income (loss) available to common shareholders
            
            $
            575
            
            
            $
            2,076
            
            
            $
            (1,338
            )
            
            $
            6,579Earnings
      (loss) per common share:Basic
            
            $
            0.05
            
            
            $
            0.19
            
            
            $
            (0.12
            )
            
            $
            0.61Diluted
            
            $
            0.05
            
            
            $
            0.19
            
            
            $
            (0.12
            )
            
            $
            0.60Weighted
      average shares outstanding:Basic
            
            
            10,915
            
            
            
            10,842
            
            
            
            10,899
            
            
            
            10,824Diluted
            
            
            10,923
            
            
            
            10,911
            
            
            
            10,900
            
            
            
            10,899Dividends
      per common share
            
            $
            –
            
            
            $
            0.04
            
            
            $
            0.04
            
            
            $
            0.12





See
accompanying notes to condensed consolidated financial
statements


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 30,2009
            
            
            2008
            
            
            2009
            
            
            2008Net
      income
            
            $
            1,138
            
            
            $
            2,076
            
            
            $
            256
            
            
            $
            6,579Other
      comprehensive (loss) income, net of taxes:Change
      in accumulated loss on effective cash flow hedging
    derivatives
            
            
            (168
            )
            
            
            –
            
            
            
            (168
            )
            
            
            –Unrealized
      loss on investment securities, net:Securities
      with OTTI charges during the period
            
            
            (507
            )
            
            
            (119
            )
            
            
            (1,262
            )
            
            
            (1,659
            )Less:
      OTTI charges recognized in net income
            
            
            (217
            )
            
            
            (119
            )
            
            
            (408
            )
            
            
            (1,659
            )Net
      unrealized losses on investment securities with OTTI
            
            
            (290
            )
            
            
            –
            
            
            
            (854
            )
            
            
            –Unrealized
      holding (loss) gain arising during the period
            
            
            1,016
            
            
            
            (520
            )
            
            
            1,893
            
            
            
            (589
            )Less:
      reclassification adjustment for (loss) gain included in net
      income
            
            
            214
            
            
            
            (36
            )
            
            
            220
            
            
            
            58Net
      unrealized gains (losses) on investment securities
            
            
            802
            
            
            
            (484
            )
            
            
            1,673
            
            
            
            (531
            )Other
      comprehensive income (loss)
            
            
            344
            
            
            
            (484
            )
            
            
            651
            
            
            
            (531
            )Total
      comprehensive income loss
            
            $
            1,482
            
            
            $
            1,592
            
            
            $
            907
            
            
            $
            5,932





See
accompanying notes to condensed consolidated financial
statements


4


METROCORP
BANCSHARES, INC.


CONDENSED
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY


For
the Nine Months Ended September 30, 2009


(In
thousands)


(Unaudited)








Preferred Stock
            
            
            Common Stock
            
            
            Additional
            
            
            
            
            
            Accumulated other
            
            
            TreasuryShares
            
            
            Amount
            
            
            Shares
            
            
            Amount
            
            
            paid-in
              capital
            
            
            Retained earnings
            
            
            comprehensive
              income (loss)
            
            
            stock, at
      cost
            
            
            TotalBalance
      at December 31, 2008
            
            
            –
            
            
            $
            –
            
            
            
            10,885
            
            
            $
            10,995
            
            
            $
            28,222
            
            
            $
            82,311
            
            
            $
            (910
            )
            
            $
            (1,459
            )
            
            $
            119,159Issuance
      of preferred stock and warrant, at fair value
            
            
            45
            
            
            
            44,289
            
            
            
            –
            
            
            
            –
            
            
            
            711
            
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            45,000Re-issuance
      of treasury stock
            
            
            –
            
            
            
            –
            
            
            
            42
            
            
            
            –
            
            
            
            (373
            )
            
            
            –
            
            
            
            –
            
            
            
            542
            
            
            
            169Stock-based
      compensation expense recognized in earnings
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            277
            
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            277Net
      income
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            256
            
            
            
            –
            
            
            
            –
            
            
            
            256Amortization  of
      preferred stock discount
            
            
            –
            
            
            
            107
            
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            (107
            )
            
            
            –
            
            
            
            –
            
            
            
            –Forfeiture
      of restricted shares
            
            
            –
            
            
            
            –
            
            
            
            (1
            )
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            (3
            )
            
            
            (3
            )Other
      comprehensive income
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            651
            
            
            
            –
            
            
            
            651Dividends
      – preferred stock
            
            
            –
            
            
            
            287
            
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            (1,594
            )
            
            
            –
            
            
            
            –
            
            
            
            (1,307
            )Dividends
      – common stock ($0.04 per share)
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            –
            
            
            
            (435
            )
            
            
            –
            
            
            
            –
            
            
            
            (435
            )Balance
      at September 30, 2009
            
            
            45
            
            
            $
            44,683
            
            
            
            10,926
            
            
            $
            10,995
            
            
            $
            28,837
            
            
            $
            80,431
            
            
            $
            (259
            )
            
            $
            (920
            )
            
            $
            163,767





See
accompanying notes to condensed consolidated financial
statements


5


METROCORP
BANCSHARES, INC


CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS


(In
thousands)


(Unaudited)





For
      the Nine Months EndedSeptember 30,2009
            
            
            2008Cash
      flows from operating activities:Net
      income
            
            $
            256
            
            
            $
            6,579Adjustments
      to reconcile net income to net cash provided by operating
      activities:Depreciation
            
            
            1,455
            
            
            
            1,605Provision
      for loan losses
            
            
            12,710
            
            
            
            4,803Impairment
      on securities
            
            
            637
            
            
            
            1,659Gain
      on securities transactions, net
            
            
            (344
            )
            
            
            (91
            )Loss
      (gain) on sale of foreclosed assets
            
            
            1,029
            
            
            
            (447
            )(Gain)
      loss on sale of premises and equipment
            
            
            (20
            )
            
            
            10Gain
      on sale of loans, net
            
            
            –
            
            
            
            288Amortization
      of premiums and discounts on securities, net
            
            
            (8
            )
            
            
            2Amortization
      of deferred loan fees and discounts
            
            
            (1,563
            )
            
            
            (1,785
            )Amortization
      of core deposit intangibles
            
            
            133
            
            
            
            188Stock-based
      compensation
            
            
            277
            
            
            
            820Changes
      in:Accrued
      interest receivable
            
            
            994
            
            
            
            738Other
      assets
            
            
            (3,813
            )
            
            
            (2,319
            )Accrued
      interest payable
            
            
            (207
            )
            
            
            (372
            )Other
      liabilities
            
            
            1,408
            
            
            
            387Net
      cash provided by operating activities
            
            
            12,944
            
            
            
            12,065Cash
      flows from investing activities:Purchases
      of securities available-for-sale
            
            
            (46,171
            )
            
            
            (48,858
            )Purchases
      of securities held-to-maturity
            
            
            (4,044
            )
            
            
            –Purchases
      of other investments
            
            
            (19,207
            )
            
            
            –Proceeds
      from sales of securities available-for-sale
            
            
            31,848
            
            
            
            4,849Proceeds
      from maturities, calls, and principal paydowns of securities
      available-for-sale
            
            
            23,077
            
            
            
            50,908Proceeds
      from  sales and maturities of other investments
            
            
            27,215
            
            
            
            –Net
      change in loans
            
            
            (2,982
            )
            
            
            (143,759
            )Proceeds
      from sale of foreclosed assets
            
            
            8,497
            
            
            
            1,921Proceeds
      from sale of premises and equipment
            
            
            22
            
            
            
            8Purchases
      of premises and equipment
            
            
            (324
            )
            
            
            (669
            )Net
      cash provided by (used in) investing activities
            
            
            17,931
            
            
            
            (135,600
            )Cash
      flows from financing activities:Net
      change in:Deposits
            
            
            122,673
            
            
            
            74,195Other
      borrowings
            
            
            (113,928
            )
            
            
            54,391Proceeds
      from issuance of preferred stock with common stock warrant
            
            
            45,000
            
            
            
            228Re-issuance
      of treasury stock
            
            
            169
            
            
            
            404Cash
      dividends paid on preferred stock
            
            
            (1,307
            )
            
            
            –Cash
      dividends paid on common stock
            
            
            (869
            )
            
            
            (1,298
            )Net
      cash provided by financing activities
            
            
            51,738
            
            
            
            127,920Net
      increase in cash and cash equivalents
            
            
            82,613
            
            
            
            4,385Cash
      and cash equivalents at beginning of period
            
            
            38,101
            
            
            
            46,270Cash
      and cash equivalents at end of period
            
            $
            120,714
            
            
            $
            50,655





See
accompanying notes to condensed consolidated financial
statements


6


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 guidance,
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, 2009, results of operations for the three and nine
months ended September 30, 2009 and 2008, and cash flows for the nine months
ended September 30, 2009 and 2008. Interim period results are not necessarily
indicative of results for a full-year period. The Company has evaluated
subsequent events for potential recognition and/or disclosure through November
6, 2009, which is the date the financial statements included in this Quarterly
Report on Form 10-Q were issued.





The
year-end condensed 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,
2008.





2.
            SECURITIES





In April
2009, the Financial Accounting Standards Board (“FASB”) issued a change in
accounting guidance involving the recognition and presentation of
other-than-temporary impairments. The Company adopted this guidance on
April 1, 2009.  Under the new guidance Accounting Standards
Codification (“ASC”) Topic 320-10, when an other-than-temporary-impairment
(“OTTI”) of a debt security has occurred, the amount of the OTTI recognized in
earnings depends on whether the Company intends to sell the security or more
likely than not will be required to sell the security before recovery of its
amortized cost basis. If the debt security meets either of these two criteria,
the OTTI recognized in earnings is equal to the entire difference between the
security’s amortized cost basis and its fair value at the impairment measurement
date. For OTTIs of debt securities that do not meet these two criteria, the net
amount recognized in earnings is equal to the difference between the amortized
cost of the debt security and its net present value calculated. Any difference
between the fair value and the net present value of the debt security at the
impairment measurement date is recorded in other comprehensive income (loss)
(“OCI”). Unrealized gains or losses on securities for which an OTTI has been
recognized in earnings is tracked as a separate component of accumulated other
comprehensive income (loss) (“AOCI”).  Prior to the adoption of the
new guidance, an OTTI recognized in earnings for debt securities was equal to
the total difference between amortized cost and fair value at the time of
impairment.


7


For debt
securities, the split between the amount of an OTTI recognized in other
comprehensive income and the net amount recognized in earnings is driven
principally by assumptions regarding the amount and timing of projected cash
flows. For mortgage-backed and asset-backed securities, cash flow estimates are
determined based on prepayment assumptions, default rates and loss severity
rates derived from widely accepted third-party data sources. The Company has
developed these estimates using information based on historical experience as
well as using market observable data, such as industry analyst reports and
forecasts, sector credit ratings and other data relevant to the collectability
of a security.





The new
cost basis of an impaired security is not adjusted for subsequent increases in
estimated fair value. In periods subsequent to the recognition of an OTTI, the
impaired security is accounted for as if it had been purchased on the
measurement date of the impairment. For debt securities, the discount (or
reduced premium) based on the new cost basis may be accreted into net investment
income in future periods based on prospective changes in cash flow estimates, to
reflect adjustments to the effective yield.





For
equity securities, the Company evaluates whether unrealized losses on securities
represent impairment that is other than temporary. If such impairment is
identified, the carrying amount of the security is reduced with a charge to
earnings. In making this evaluation, management first considers the reasons for
the indicated impairment. These could include changes in market rates relative
to those available when the security was acquired, changes in market
expectations about the timing of cash flows from securities that can be prepaid,
and changes in the market’s perception of the issuer’s financial health and the
security’s credit quality. The Company then considers the likelihood of a
recovery in fair value sufficient to eliminate the indicated impairment and the
length of time over which an anticipated recovery would occur. Finally, the
Company determines its ability to hold the impaired security until an
anticipated recovery, in which case the impairment would be considered
temporary.





Prior to
the adoption of the new guidance, the Company recorded an OTTI charge of
$225,000 for mortgage-backed securities and $15,000 for asset-backed securities
for the three months ended March 31, 2009.   The adoption of
the new guidance had no effect on previously recognized OTTI as of
March 31, 2009.


8


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





As of September 30, 2009Amortized
            
            
            Unrealized
            
            
            FairCost
            
            
            Gains
            
            
            Losses
            
            
            OTTI
            
            
            ValueSecurities
      available-for-saleDebt
      SecuritiesU.S.
      Treasury and other U.S. government corporations and
    agencies
            
            $
            23,060
            
            
            $
            123
            
            
            $
            (1
            )
            
            $ ─
            
            
            $
            23,182Obligations
      of state and political subdivisions
            
            
            5,224
            
            
            
            136
            
            
            
            (6
            )
            
            ─
            
            
            
            5,354Mortgage-backed
      securities and collateralized mortgage obligationsGovernment
      issued or guaranteed
            
            
            51,337
            
            
            
            1,081
            
            
            
            (16
            )
            
            ─
            
            
            
            52,402Privately
      issued residential
            
            
            4,309
            
            
            ─
            
            
            
            (314
            )
            
            
            (1,057
            )
            
            
            2,938Asset
      backed securities
            
            
            481
            
            
            ─
            
            
            ─
            
            
            
            (277
            )
            
            
            204Equity
      SecuritiesInvestment
      in CRA funds
            
            
            5,956
            
            
            
            189
            
            
            ─
            
            
            ─
            
            
            
            6,145Total
      available-for-sale securities
            
            $
            90,367
            
            
            $
            1,529
            
            
            $
            (337
            )
            
            $
            (1,334
            )
            
            $
            90,225Securities
      held-to-maturityObligations
      of state and political subdivisions
            
            $
            4,044
            
            
            $
            379
            
            
            $ ─
            
            
            $ ─
            
            
            $
            4,423Total
      held-to-maturity securities
            
            $
            4,044
            
            
            $
            379
            
            
            $ ─
            
            
            $ ─
            
            
            $
            4,423Other
      investmentsInvestment
      in CDARS
            
            $
            18,020
            
            
            $ ─
            
            
            $ ─
            
            
            $ ─
            
            
            $
            18,020FHLB/Federal
      Reserve Bank stock
            
            
            6,248
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            
            6,248Investment
      in subsidiary trust
            
            
            1,083
            
            
            ─
            
            
            ─
            
            
            ─
            
            
            
            1,083Total
      other investments
            
            $
            25,351
            
            
            $ ─
            
            
            $ ─
            
            
            $ ─
            
            
            $
            25,351


9




As of December 31, 2008Amortized Cost
            
            
            Gross Unrealized Gains
            
            
            Gross Unrealized Losses
            
            
            Fair
              ValueSecurities
      available-for-saleDebt
      SecuritiesU.S.
      Treasury and other U.S. government corporations and
    agencies
            
            $
            14,908
            
            
            $
            179
            
            
            $ ─
            
            
            $
            15,087Obligations
      of state and political subdivisions
            
            
            3,853
            
            
            
            24
            
            
            ─
            
            
            
            3,877Mortgage-backed
      securities and collateralized mortgage obligationsGovernment
      issued or  guaranteed
            
            
            72,787
            
            
            
            555
            
            
            
            (956
            )
            
            
            72,386Privately
      issued residential
            
            
            5,639
            
            
            
            19
            
            
            
            (1,299
            )
            
            
            4,359Asset
      backed securities
            
            
            550
            
            
            ─
            
            
            ─
            
            
            
            550Equity
      SecuritiesInvestment
      in CRA funds
            
            
            5,809
            
            
            
            36
            
            
            ─
            
            
            
            5,845Total
      available-for-sale securities
            
            $
            103,546
            
            
            $
            813
            
            
            $
            (2,255
            )
            
            $
            102,104Securities
      held-to-maturityObligations
      of state and political subdivisions
            
            $ ─
            
            
            $ ─
            
            
            $ ─
            
            
            $ ─Total
      held-to-maturity securities
            
            $ ─
            
            
            $ ─
            
            
            $ ─
            
            
            $ ─Other
      investmentsInvestment
      in CDARS
            
            $
            20,240
            
            
            $ ─
            
            
            $ ─
            
            
            $
            20,240FHLB/Federal
      Reserve Bank stock
            
            
            7,897
            
            
            ─
            
            
            ─
            
            
            
            7,897Investment
      in subsidiary trust
            
            
            1,083
            
            
            ─
            
            
            ─
            
            
            
            1,083Total
      other investments
            
            $
            29,220
            
            
            $ ─
            
            
            $ ─
            
            
            $
            29,220





The
Company’s available-for-sale and held-to-maturity securities with unrealized
losses are reviewed quarterly to identify OTTIs in value. In evaluating whether
a decline in value is other-than-temporary, the Company considers several
factors including, but not limited to the following: (1) the extent and the
duration of the decline; (2) the reasons for the decline in value (credit
event, and interest-rate related including general credit spread widening);
(3) the financial condition of and near-term prospects of the issuer, and
(4) the Company’s intent not to sell and that it is not more likely than not
that the Company would be required to sell the security before the anticipated
recovery of its amortized cost basis. With regard to available-for-sale equity
securities, the Company also considers the ability and intent to hold the
investment for a period of time to allow for a recovery of value. When it is
determined that a decline in value of an equity security is
other-than-temporary, the carrying value of the equity security is reduced to
its fair value, with a corresponding charge to earnings.


10


The
following table displays the gross unrealized losses and fair value of
securities available-for-sale and held-to-maturity as of September 30, 2009 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 Losses(In
      thousands)Securities
      available-for-saleDebt
      securitiesU.S.
      Treasury and other U.S. government corporations and
    agencies
            
            $
            4,949
            
            
            $
            (1
            )
            
            $ ─
            
            
            $ ─
            
            
            $
            4,949
            
            
            $
            (1
            )Obligations
      of state and political subdivisions
            
            
            862
            
            
            
            (6
            )
            
            ─
            
            
            ─
            
            
            
            862
            
            
            
            (6
            )Mortgage-backed
      securities and collateralized mortgage obligationsGovernment
      issued or guaranteed
            
            
            1,174
            
            
            
            (6
            )
            
            
            1,382
            
            
            
            (10
            )
            
            
            2,556
            
            
            
            (16
            )Privately
      issued residential
            
            
            610
            
            
            
            (307
            )
            
            
            2,312
            
            
            
            (1,064
            )
            
            
            2,922
            
            
            
            (1,371
            )Asset
      backed securities
            
            
            204
            
            
            
            (277
            )
            
            ─
            
            
            ─
            
            
            
            204
            
            
            
            (277
            )Total
      available-for-sale securities
            
            $
            7,799
            
            
            $
            (597
            )
            
            $
            3,694
            
            
            $
            (1,074
            )
            
            $
            11,493
            
            
            $
            (1,671
            )Securities
      held-to-maturityDebt
      securitiesObligations
      of state and political subdivisions
            
            $ ─
            
            
            $ ─
            
            
            $ ─
            
            
            $ ─
            
            
            $ ─
            
            
            $ ─Total
      held-to-maturity securities
            
            $ ─
            
            
            $ ─
            
            
            $ ─
            
            
            $ ─
            
            
            $ ─
            
            
            $ ─





Other-Than-Temporary
Impairments (OTTI)





During
the nine months ended September 30, 2009, OTTI charges of $2.0 million were
recorded. The credit-related portion of these impairments was $637,000, which
was included in noninterest expense. The $1.3 million noncredit portion of these
impairments was included in accumulated other comprehensive loss for the nine
months ended September 30, 2009.





For the
nine months ended September 30, 2009, credit-related losses of $603,000 and
$34,000 on 34 non-agency residential mortgage-backed securities and four
asset-backed securities, respectively, were recognized. The noncredit portion of
these impairments of $1.1 million on non-agency residential mortgage-backed
securities and $277,000 on asset-backed securities was included in accumulated
other comprehensive loss for the nine months ended September 30, 2009. To
measure credit losses, external credit ratings and other relevant collateral
details and performance statistics on a security-by-security basis were
considered. Securities exhibiting significant deterioration are subjected to
further analysis. Assumptions were developed for prepayment speed, default rate,
and loss severity for each security using third party sources and based on the
collateral history. The resulting projections of future cash flows of the
underlying collateral were then discounted by the underlying yield before any
write-downs were considered to determine the net present value of the cash flows
(“NPV”).  The difference between the cost basis and the NPV was taken
as a credit loss in the current period to the extent that these losses have not
been previously recognized. The difference between the NPV and the quoted market
price is considered a noncredit related loss and was included in other
comprehensive loss.


11


The
following table represents the impairment activity related to debt
securities.





Three months ended September 30,
      2009Impairment related to credit
      losses
            
            
            Impairment related to other
      factors
            
            
            Total impairment(In
      thousands)Beginning
      balance, July 1, 2009
            
            $
            720
            
            
            $
            881
            
            
            $
            1,601Addition
      of OTTI that was not previously recognized
            
            
            226
            
            
            
            529
            
            
            
            755Additions
      to OTTI that was previously recognized when there is no intent to sell and
      no requirement to sell before recovery of amortized cost
    basis
            
            
            16
            
            
            
            32
            
            
            
            48Transfers
      from AOCI to OTTI related to credit losses
            
            
            108
            
            
            
            (108
            )
            
            ─Reclassifications
      from OTTI to realized losses
            
            
            (12
            )
            
            ─
            
            
            
            (12
            )Ending
      balance, September 30, 2009
            
            $
            1,058
            
            
            $
            1,334
            
            
            $
            2,392





Nine months ended September 30,
      2009Impairment related to credit
      losses
            
            
            Impairment related to other
      factors
            
            
            Total impairment(Dollars
      in thousands)Beginning
      balance, January 1, 2009
            
            $
            421
            
            
            $ ─
            
            
            $
            421Addition
      of OTTI that was not previously recognized
            
            
            487
            
            
            
            1,442
            
            
            
            1,929Additions
      to OTTI that was previously recognized when there is no intent to sell and
      no requirement to sell before recovery of amortized cost
    basis
            
            
            54
            
            
            ─
            
            
            
            54Transfers
      from AOCI to OTTI related to credit losses
            
            
            108
            
            
            
            (108
            )
            
            ─Reclassifications
      from OTTI to realized losses
            
            
            (12
            )
            
            ─
            
            
            
            (12
            )Ending
      balance, September 30, 2009
            
            $
            1,058
            
            
            $
            1,334
            
            
            $
            2,392





The
following sets forth information concerning sales (excluding calls and
maturities) of available-for-sale securities (in thousands).  There
were no sales of held-to-maturity securities.





Nine Months Ended September
    30,2009
            
            
            2008Amortized
      cost
            
            $
            31,512
            
            
            $
            4,319Proceeds
            
            
            31,848
            
            
            
            4,196Gross
      realized gains
            
            
            337
            
            
            
            123Gross
      realized losses
            
            
            —
            
            
            
            —





At
September 30, 2009, future contractual maturities of debt securities were as
follows (in thousands):





Securities
            
            
            SecuritiesAvailable-for-sale
            
            
            Held-to-maturityAmortized
      Cost
            
            
            Fair
      Value
            
            
            Amortized
      Cost
            
            
            Fair
      ValueWithin
      one year
            
            $
            10,185
            
            
            $
            10,198
            
            
            $
            —
            
            
            $
            —Within
      two to five years
            
            
            230
            
            
            
            232
            
            
            
            —
            
            
            
            —Within
      six to ten years
            
            
            2,646
            
            
            
            2,697
            
            
            
            —
            
            
            
            —After
      ten years
            
            
            15,704
            
            
            
            15,613
            
            
            
            4,044
            
            
            
            4,423Mortgage-backed
      securities and collateralized mortgage obligations
            
            
            55,647
            
            
            
            55,340
            
            
            
            —
            
            
            
            —Total
      debt securities
            
            $
            84,412
            
            
            $
            84,080
            
            
            $
            4,044
            
            
            $
            4,423





The
Company holds mortgage-backed securities which may mature at an earlier date
than the contractual maturity due to prepayments. The Company also holds certain
securities which may be called by the issuer at an earlier date than the
contractual maturity date.




12


3.
            ALLOWANCE
      FOR LOAN  AND CREDIT
LOSSES





Changes
in the allowance for loan and credit losses are as follows:





As
      of and for the Three Months
            
            
            As
      of and for the Nine MonthsEnded September 30,
            
            
            Ended September 30,2009
            
            
            2008
            
            
            2009
            
            
            2008(In
      thousands)Allowance
      for loan losses at beginning of period
            
            $
            24,266
            
            
            $
            15,520
            
            
            $
            24,235
            
            
            $
            13,125Provision
      for loan losses
            
            
            3,596
            
            
            
            1,754
            
            
            
            12,710
            
            
            
            4,803Charge-offs
            
            
            (2,421
            )
            
            
            (1,692
            )
            
            
            (12,009
            )
            
            
            (2,451
            )Recoveries
            
            
            162
            
            
            
            141
            
            
            
            667
            
            
            
            246Allowance
      for loan losses at end of period
            
            
            25,603
            
            
            
            15,723
            
            
            
            25,603
            
            
            
            15,723Reserve
      for unfunded lending commitments at beginning of period
            
            
            1,478
            
            
            
            917
            
            
            
            1,092
            
            
            
            816Provision
      for unfunded lending commitments
            
            
            (290
            )
            
            
            (179
            )
            
            
            96
            
            
            
            (78
            )Reserve
      for unfunded lending commitments at end of period
            
            
            1,188
            
            
            
            738
            
            
            
            1,188
            
            
            
            738Allowance
      for credit losses
            
            $
            26,791
            
            
            $
            16,461
            
            
            $
            26,791
            
            
            $
            16,461





4.
            GOODWILL





Goodwill
is recorded on the acquisition date of each entity, and evaluated annually for
possible impairment.  Goodwill is required to be tested for impairment
on an annual basis or as events occur or circumstances change that would more
likely than not reduce the fair value of a reporting unit below its carrying
amount. The Company’s only reporting unit with assigned goodwill is Metro
United.





The
Company completed its 2009 impairment testing based on information that was as
of August 31, 2009. The review utilized guideline company and guideline
transaction information where available, discounted cash flow analysis, and
quoted stock prices for the Company and guideline banks to estimate the fair
value of Metro United. The estimated fair value of Metro United as of
August 31, 2009 exceeded its respective carrying value; therefore, the
Company determined there was no impairment of goodwill as of that
date.





The Company utilizeda discounted cash flow
analysis to determine the fair value of Metro United. Multi-year financial
forecasts were developed by projecting net income for the next five years and
discounting the average terminal values based on the transaction multiples such
as price-to-book, price-to-tangible book, and price-to-deposits in a normalized
market. For the test as of August 31, 2009, the Company used an average growth
rate of 6% for the five-year period and discounted Metro United’s terminal value
using a 10% rate of return. The Company also performed a sensitivity analysis
utilizing additional discount rates ranging from 8% to 15%. In the sensitivity
analysis, an 8% discount rate indicated a fair value that was $20.3 million
greater than carrying value, a 13.8% discount rate indicated that the fair value
and carrying value were approximately equal, and a 15% discount rate indicated a
fair value that was $3.3 million less than carrying value. The Company also
considered the fair value of Metro United in relationship to the Company's stock
price and performed a reconciliation to market price. This reconciliation was
performed by first using the Company's market price on a minority basis with an
estimated control premium of 30%. The Company then allocated the total fair
value to both of its reporting units, MetroBank and Metro United. The derived
fair value of Metro United was then compared to the carrying value of its
equity. As the carrying value of its equity exceeded the fair value, an
additional goodwill impairment evaluation was performed which involved
calculating the implied fair value of Metro United’s goodwill.





The
implied fair value of goodwill is determined in the same manner as the amount of
goodwill recognized in a business combination. The fair value of Metro United’s
assets and liabilities, including unrecognized intangible assets, is
individually evaluated. The excess of the fair value of Metro United over the
fair value of its net assets is the implied fair value of goodwill. The Company
estimated the fair value of Metro United’s assets and liabilities, including
previously unrecognized intangible assets, through a variety of valuation
techniques that incorporated interest rates, credit or nonperformance risk, as
well as market risk adjustments that are indicative of the current economic
environment. The estimated values are based on an exit price and reflect
management’s expectations regarding how a market participant would value the
assets and liabilities. This evaluation and resulting conclusion were
significantly affected by the estimated fair value of the loans of Metro United
that were evaluated, particularly the market risk adjustment that is a
consequence of the current distressed market conditions. Based on this analysis,
the Company determined that the implied fair value of the goodwill for Metro
United was in excess of the carrying value of the goodwill; therefore, no
goodwill impairment was recorded as of the annual test date.  However,
it is possible that future changes in the fair value of Metro United’s net
assets could result in future goodwill impairment. For example, to the extent
that market liquidity returns and the fair value of the individual assets of
Metro United increases at a faster rate than the fair value of Metro United as a
whole, that may cause the implied goodwill to be lower than the carrying value
of goodwill, resulting in goodwill impairment. Ultimately, future potential
changes in valuation assumptions may impact the estimated fair value of Metro
United and cause its fair value to be below its carrying value, therefore
resulting in an impairment of the goodwill.


13


Subsequent
to the August 31, 2009 annual test date, the Company’s common stock continued to
trade below its book value. The Company performed an analysis that considered
the Company’s common stock price, loan values of Metro United, and other factors
and determined that as of September 30, 2009, goodwill was not
impaired.  As of September 30, 2009, the loan fair value of Metro
United approximated the fair value at the annual test date.





5.
            SHAREHOLDERS’
      EQUITY





In
connection with the Company's participation in the Capital Purchase Program
(“CPP”), on January 16, 2009, the Company issued and sold to the U.S.
Treasury (i) 45,000 shares of its Fixed Rate Cumulative Perpetual Preferred
Stock, Series A, par value $1.00 per share, with a liquidation value of $1,000
per share (the “Series A Preferred Stock”), and (ii) a warrant (“Warrant”)
to purchase 771,429 shares of the Company's common stock, at an exercise price
of $8.75 per share, subject to certain anti-dilution and other adjustments, for
an aggregate purchase price of $45.0 million in cash. Approximately
$44.3 million was allocated to the initial carrying value of the preferred
stock and $711,000 to the warrant based on their relative estimated fair values
on the issue date. The fair value of the warrant was determined using a
valuation model which incorporates assumptions including the Company’s common
stock price, dividend yield, stock price volatility and the risk-free interest
rate.  The fair value of the preferred stock was determined based on
assumptions regarding the discount rate for the Company which was estimated to
be approximately 8% at the date of issuance.   The difference between the
initial carrying value of the preferred stock and the $45 million full
redemption value will be accreted over five years using a straight-line method
over the expected life of the preferred stock. The total capital raised through
this issue qualifies as Tier 1 regulatory capital and can be used in
calculating all regulatory capital ratios.





The
Series A Preferred Stock pays cumulative dividends at a rate of 5% per year for
the first five years and thereafter at a rate of 9% per
year.  Pursuant to Section 111 of the Emergency Economic Stabilization
Act of 2008, as amended, the Company may, at its option, subject to the
necessary bank regulatory approval, redeem the Series A Preferred Stock at par
value plus accrued and unpaid dividends.





The
Company may not declare or pay dividends on its common stock or, with certain
exceptions, repurchase common stock without first having paid all accrued
cumulative preferred dividends that are due. For three years from the issue
date, the Company also may not increase its common stock dividend rate above a
quarterly rate of $0.04 per share or repurchase its common shares without
Treasury’s consent, unless Treasury has transferred all the preferred shares to
third parties or the preferred stock has been redeemed.   In
April 2009, the Company suspended regular cash dividends on its common stock for
an indefinite period of time.





6.
            EARNINGS
      PER COMMON SHARE





Basic
earnings per common share (“EPS”) is computed by dividing net income (after
deducting dividends on preferred stock) 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, restricted common shares and warrants can be dilutive common
shares and are therefore considered in the earnings per share calculation, if
dilutive.  Stock options, restricted common shares and warrants that
are antidilutive are excluded from earnings per share
calculation.  Stock options, restricted common shares and warrants are
antidilutive when the exercise price is higher than the current market price of
the Company’s common stock. For the three months ended September 30, 2009 and
2008, antidilutive stock options were 1,812,996 and 312,706,
respectively.  For the nine months ended September 30, 2009 and 2008,
there were 1,814,983 and 275,968 antidilutive stock options,
respectively.  The number of potentially dilutive common shares is
determined using the treasury stock method.


14




As
      of and for the Three Months
            
            
            As
      of and for the Nine MonthsEnded September 30,
            
            
            Ended September 30,2009
            
            
            2008
            
            
            2009
            
            
            2008(In
      thousands, except per share amounts)Net
      income (loss) available to common shareholders
            
            $
            575
            
            
            $
            2,076
            
            
            $
            (1,338
            )
            
            $
            6,579Weighted
      average common shares in basic EPS
            
            
            10,915
            
            
            
            10,842
            
            
            
            10,899
            
            
            
            10,824Effect
      of dilutive securities
            
            
            8
            
            
            
            69
            
            
            
            1
            
            
            
            75Weighted
      average common and potentially dilutivecommon
      shares used in diluted EPS
            
            
            10,923
            
            
            
            10,911
            
            
            
            10,900
            
            
            
            10,899Earnings
      per common share:Basic
            
            $
            0.05
            
            
            $
            0.19
            
            
            $
            (0.12
            )
            
            $
            0.61Diluted
            
            $
            0.05
            
            
            $
            0.19
            
            
            $
            (0.12
            )
            
            $
            0.60





7.
            LITIGATION





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
consultation 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.





8.
            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 they do 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 at September 30, 2009 and December 31, 2008 is presented
below:





As
      of
              September
      30, 2009
            
            
            As
      of
              December
      31, 2008(In
      thousands)Unfunded
      loan commitments including unfunded lines of credit
            
            $
            140,368
            
            
            $
            247,731Standby
      letters of credit
            
            
            10,985
            
            
            
            9,981Commercial
      letters of credit
            
            
            12,296
            
            
            
            12,244Operating
      leases
            
            
            6,771
            
            
            
            8,065Total
      financial instruments with off-balance sheet risk
            
            $
            170,420
            
            
            $
            278,021





9.
            DERIVATIVE FINANCIAL
      INSTRUMENTS




The fair
value of derivative positions outstanding is included in other liabilities in
the accompanying condensed consolidated balance sheets and in the net change in
this financial statement line item in the accompanying condensed consolidated
statements of cash flows.




Interest Rate Derivatives.
During the third quarter of 2009, the Company entered into a forward-starting
interest rate swap contract on its junior subordinated debentures with a
notional amount of $17.5 million. The interest rate swap contract was
designated as a hedging instrument in a cash flow hedge with the objective of
protecting the quarterly interest payments on a portion of the Company’s
$36.1 million of junior subordinated debentures issued to the Company’s
unconsolidated subsidiary trust MCBI Statutory Trust I throughout the five-year
period beginning in December 2010 and ending in December 2015 from the risk
of variability of those payments resulting from changes in the three-month LIBOR
interest rate. Under the swap contract, beginning December 2010, the Company
will pay a fixed interest rate of 5.38% and receive a variable interest rate of
three-month LIBOR plus a margin of 1.55% on a total notional amount of
$17.5 million, with quarterly settlements beginning March
2011.


15


The
notional amount and estimated fair value of the interest rate derivative
contract outstanding at September 30, 2009 was $17.5 million and
($168,000), respectively. There were no interest rate derivative contracts
outstanding at December 31, 2008.   The Company obtains dealer
quotations to value its interest rate derivative contract designated as hedges
of cash flows.





The
Company applies hedge accounting to interest rate derivatives.  To
qualify for hedge accounting, a derivative must be highly effective at reducing
the risk associated with the exposure being hedged. In addition, for a
derivative to be designated as a hedge, the risk management objective and
strategy must be documented. Hedge documentation must identify the derivative
hedging instrument, the asset or liability and type of risk to be hedged, and
how the effectiveness of the derivative will be assessed prospectively and
retrospectively. To assess effectiveness, the Company compares the dollar-value
of the change in the fair value of the derivative to the change in the fair
value or cash flows of the hedged item. The extent to which a derivative has
been, and is expected to continue to be, effective at offsetting changes in the
fair value or cash flows of the hedged item must be assessed and documented at
least quarterly. Any hedge ineffectiveness (i.e., the amount by which the gain
or loss on the designated derivative instrument does not exactly offset the gain
or loss on the hedged item attributable to the hedged risk) must be reported in
current-period earnings. If it is determined that a derivative is not highly
effective at hedging the designated exposure, hedge accounting is
discontinued.





Gains, Losses and Derivative Cash
Flows.   For cash flow hedges, the effective portion of
the gain or loss due to changes in the fair value of the derivative hedging
instrument is included in other comprehensive income, while the ineffective
portion (indicated by the excess of the cumulative change in the fair value of
the derivative over that which is necessary to offset the cumulative change in
expected future cash flows on the hedge transaction) is included in other
non-interest income or other non-interest expense. Net cash flows from the
interest rate swap on junior subordinated debentures designated as a hedging
instrument in an effective hedge of cash flows are included in interest expense
on junior subordinated debentures.





Amounts
included in the condensed consolidated statements of income and in other
comprehensive income for the period related to interest rate derivatives
designated as hedges of cash flows were as follows:





Gains/(losses)
      recorded in income and other comprehensive income (loss) (in
      thousands)Three
      months ended
              September 30,
      2009
            
            Derivatives
      – effective portion reclassified from AOCI into income
            
            
            Hedge
      ineffectiveness recorded directly in income
            
            
            Total
      income statement impact
            
            
            Derivatives
      – effective portion recorded in OCI
            
            
            Total
      change in OCI
              for
      periodContract
      typeInterest
      rate
            
            $
            —
            
            
            $
            —
            
            
            $
            —
            
            
            $
            (168
            )
            
            $
            (168
            )





Gains/(losses)
      recorded in income and other comprehensive income (loss) (in
      thousands)Nine
      months ended
              September 30,
      2009
            
            Derivatives
      – effective portion reclassified from AOCI into income
            
            
            Hedge
      ineffectiveness recorded directly in income
            
            
            Total
      income statement impact
            
            
            Derivatives
      – effective portion recorded in OCI
            
            
            Total
      change in OCI
              for
      periodContract
      typeInterest
      rate
            
            $
            —
            
            
            $
            —
            
            
            $
            —
            
            
            $
            (168
            )
            
            $
            (168
            )





Counterparty Credit Risk.
Derivative contracts involve the risk of dealing with institutional derivative
counterparties and their ability to meet contractual terms. Derivative contracts
are executed with a Credit Support Annex, or CSA, which is a bilateral
ratings-sensitive agreement that requires collateral postings at established
credit threshold levels. These agreements protect the interests of the Company
and its counterparties, should either party suffer a credit rating
deterioration. Institutional counterparties must have an investment grade credit
rating. The Company’s credit exposure on interest rate swaps is limited to the
net favorable value and interest payments of all swaps by each counterparty.
Credit exposure may be reduced by the amount of collateral pledged by the
counterparty. There are no credit-risk-related contingent features associated
with any of the Company’s derivative contracts.  The Company had no
credit exposure relating to the interest rate swap at September 30,
2009.  The amount of cash collateral posted by the Company related to
derivative contracts totaled $875,000 at September 30,
2009.


16


10.
            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.




The
following is a summary of selected operating segment information as of and for
the three and nine months ended September 30, 2009 and 2008:





For
      the three months ended September 30, 2009
            
            
            For
      the three months ended September 30, 2008MetroBank
            
            
            Metro
      United
            
            
            Other
            
            
            Consolidated
      Company
            
            
            MetroBank
            
            
            Metro
      United
            
            
            Other
            
            
            Consolidated
      Company(In
      thousands)Total
      interest income
            
            $
            16,135
            
            
            $
            5,671
            
            
            $
            16
            
            
            $
            21,822
            
            
            $
            17,564
            
            
            $
            6,314
            
            
            $
            16
            
            
            $
            23,894Total
      interest expense
            
            
            4,770
            
            
            
            1,917
            
            
            
            520
            
            
            
            7,207
            
            
            
            6,656
            
            
            
            2,848
            
            
            
            570
            
            
            
            10,074Net
      interest income
            
            
            11,365
            
            
            
            3,754
            
            
            
            (504
            )
            
            
            14,615
            
            
            
            10,908
            
            
            
            3,466
            
            
            
            (554
            )
            
            
            13,820Provision
      for loan losses
            
            
            2,611
            
            
            
            985
            
            
            ─
            
            
            
            3,596
            
            
            
            1,474
            
            
            
            280
            
            
            ─
            
            
            
            1,754Net
      interest income after provision for loan losses
            
            
            8,754
            
            
            
            2,769
            
            
            
            (504
            )
            
            
            11,019
            
            
            
            9,434
            
            
            
            3,186
            
            
            
            (554
            )
            
            
            12,066Noninterest
      income
            
            
            2,528
            
            
            
            107
            
            
            
            (332
            )
            
            
            2,303
            
            
            
            2,178
            
            
            
            117
            
            
            
            (263
            )
            
            
            2,032Noninterest
      expenses
            
            
            9,018
            
            
            
            2,604
            
            
            
            2
            
            
            
            11,624
            
            
            
            8,025
            
            
            
            2,526
            
            
            
            166
            
            
            
            10,717Income
      (loss) before income tax provision
            
            
            2,264
            
            
            
            272
            
            
            
            (838
            )
            
            
            1,698
            
            
            
            3,587
            
            
            
            777
            
            
            
            (983
            )
            
            
            3,381Provision
      (benefit) for income taxes
            
            
            769
            
            
            
            46
            
            
            
            (255
            )
            
            
            560
            
            
            
            1,126
            
            
            
            331
            
            
            
            (152
            )
            
            
            1,305Net
      income (loss)
            
            $
            1,495
            
            
            $
            226
            
            
            $
            (583
            )
            
            $
            1,138
            
            
            $
            2,461
            
            
            $
            446
            
            
            $
            (831
            )
            
            $
            2,076


17




For
      the nine months ended September 30, 2009
            
            
            For
      the nine months ended September 30, 2008MetroBank
            
            
            Metro
      United
            
            
            Other
            
            
            Consolidated
      Company
            
            
            MetroBank
            
            
            Metro
      United
            
            
            Other
            
            
            Consolidated
      Company(In
      thousands)Total
      interest income
            
            $
            48,757
            
            
            $
            16,781
            
            
            $
            47
            
            
            $
            65,585
            
            
            $
            54,307
            
            
            $
            19,208
            
            
            $
            49
            
            
            $
            73,564Total
      interest expense
            
            
            16,345
            
            
            
            6,593
            
            
            
            1,570
            
            
            
            24,508
            
            
            
            20,541
            
            
            
            9,127
            
            
            
            1
      612
            
            
            
            31,280Net
      interest income
            
            
            32,412
            
            
            
            10,188
            
            
            
            (1,523
            )
            
            
            41,077
            
            
            
            33,766
            
            
            
            10,081
            
            
            
            (1,563
            )
            
            
            42,284Provision
      for loan losses
            
            
            9,138
            
            
            
            3,572
            
            
            ─
            
            
            
            12,710
            
            
            
            3,078
            
            
            
            1,725
            
            
            ─
            
            
            
            4,803Net
      interest income after provision for loan losses
            
            
            23,274
            
            
            
            6,616
            
            
            
            (1,523
            )
            
            
            28,367
            
            
            
            30,688
            
            
            
            8,356
            
            
            
            (1,563
            )
            
            
            37,481Noninterest
      income
            
            
            6,877
            
            
            
            315
            
            
            
            (1,021
            )
            
            
            6,171
            
            
            
            7,106
            
            
            
            372
            
            
            
            (939
            )
            
            
            6,539Noninterest
      expenses
            
            
            26,402
            
            
            
            7,851
            
            
            
            75
            
            
            
            34,328
            
            
            
            25,094
            
            
            
            7,683
            
            
            
            701
            
            
            
            33,478Income
      before income tax provision
            
            
            3,749
            
            
            
            (920
            )
            
            
            (2,619
            )
            
            
            210
            
            
            
            12,700
            
            
            
            1,045
            
            
            
            (3,203
            )
            
            
            10,542Provision
      (benefit) for income taxes
            
            
            1,137
            
            
            
            (412
            )
            
            
            (771
            )
            
            
            (46
            )
            
            
            4,295
            
            
            
            469
            
            
            
            (801
            )
            
            
            3,963Net
      income (loss)
            
            $
            2,612
            
            
            $
            (508
            )
            
            $
            (1,848
            )
            
            $
            256
            
            
            $
            8,405
            
            
            $
            576
            
            
            $
            (2,402
            )
            
            $
            6,579





As
      of September 30, 2009
            
            
            As
      of September 30, 2008MetroBank
            
            
            Metro
      United
            
            
            Other
            
            
            Consolidated
      Company
            
            
            MetroBank
            
            
            Metro
      United
            
            
            Other
            
            
            Consolidated
      Company(In
      thousands)Net
      loans
            
            $
            929,885
            
            
            $
            356,050
            
            
            $
            -
            
            
            $
            1,285,935
            
            
            $
            964,950
            
            
            $
            360,974
            
            
            $
            -
            
            
            $
            1,325,924Total
      assets
            
            
            1,177,347
            
            
            
            455,713
            
            
            
            (3,328
            )
            
            
            1,629,732
            
            
            
            1,173,748
            
            
            
            422,220
            
            
            
            (1,479
            )
            
            
            1,594,489Deposits
            
            
            1,011,435
            
            
            
            387,720
            
            
            
            (7,329
            )
            
            
            1,391,826
            
            
            
            962,760
            
            
            
            306,604
            
            
            
            (4,126
            )
            
            
            1,265,238





11.
            FAIR
    VALUE





FASB
accounting guidance relating to fair value measurements 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.  FASB accounting guidance 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.  FASB accounting guidance relating to fair value measurements
were updated to apply to non-financial assets and non-financial liabilities and
were adopted January 1, 2009.  In addition, further updates affirm
that the objective of fair value when the market for an asset is not active is
the price that would be received to sell the asset in an orderly transaction,
and clarify and include additional factors for determining whether there has
been a significant decrease in market activity for an asset when the market for
that asset is not active. This update was adopted April 1, 2009.





FASB
accounting guidance 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.


18


·
            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.





Financial
assets measured at fair value on a recurring basis are as follows:





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.  See Note 2 Securities for additional
discussion on valuation of securities.





Interest Rate Derivatives.
The Company’s derivative position is classified within Level 2 in the fair value
hierarchy and is valued using models generally accepted in the financial
services industry that use actively quoted or observable market input values
from external market data providers and/or non-binding broker-dealer quotations.
The fair value of the derivative is determined using discounted cash flow
models. These models’ key assumptions include the contractual terms of the
respective contract, along with significant observable inputs, including
interest rates, yield curves, non-performance risk and volatility. Derivative
contracts are executed with a Credit Support Annex, which is a bilateral
ratings-sensitive agreement that requires collateral postings at established
credit threshold levels. These agreements protect the interests of the Company
and its counterparties, should either party suffer a credit rating
deterioration.





The
following table presents the financial instruments carried at fair value on a
recurring basis by caption on the consolidated balance sheets and by valuation
hierarchy (as described above) at September 30, 2009 and December 31,
2008:





Fair
      Value Measurements, 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 MeasurementsSecurities
      available-for-sale at September 30, 2009U.S.
      Treasury and other U.S. government corporations and
    agencies
            
            $
            –
            
            
            $
            23,182
            
            
            $
            –
            
            
            $
            23,182Obligations
      of state and political subdivisions
            
            
            –
            
            
            
            5,354
            
            
            
            –
            
            
            
            5,354Mortgage-backed
      securities and collateralized mortgage obligations
            
            
            
            
            
            
            
            
            
            
            –Government
      issued or guaranteed
            
            
            –
            
            
            
            52,402
            
            
            
            –
            
            
            
            52,402Privately
      issued residential
            
            
            –
            
            
            
            2,938
            
            
            
            –
            
            
            
            2,938Asset
      backed securities
            
            
            –
            
            
            
            204
            
            
            
            –
            
            
            
            204Investment
      in CRA funds
            
            
            6,145
            
            
            
            –
            
            
            
            –
            
            
            
            6,145Total
      available-for-sale securities
            
            $
            6,145
            
            
            $
            84,080
            
            
            $
            –
            
            
            $
            90,225Derivative
      liabilities at September 30, 2009
            
            $
            –
            
            
            $
            (168
            )
            
            $
            –
            
            
            $
            (168
            )Securities
      available-for-sale at December 31, 2008U.S.
      Treasury and other U.S. government corporations and
    agencies
            
            $
            –
            
            
            $
            15,087
            
            
            $
            –
            
            
            $
            15,087Obligations
      of state and political subdivisions
            
            
            –
            
            
            
            3,877
            
            
            
            –
            
            
            
            3,877Mortgage-backed
      securities and collateralized mortgage obligations
            
            
            
            
            
            
            
            
            
            
            –Government
      issued or guaranteed
            
            
            –
            
            
            
            72,386
            
            
            
            –
            
            
            
            72,386Privately
      issued residential
            
            
            –
            
            
            
            4,359
            
            
            
            –
            
            
            
            4,359Asset
      backed securities
            
            
            –
            
            
            
            550
            
            
            
            –
            
            
            
            550Investment
      in CRA funds
            
            
            5,845
            
            
            
            –
            
            
            
            –
            
            
            
            5,845Total
      available-for-sale securities
            
            $
            5,845
            
            
            $
            96,259
            
            
            $
            –
            
            
            $
            102,104Derivative
      liabilities at December 31, 2008
            
            $
            –
            
            
            $
            –
            
            
            $
            –
            
            
            $
            –


19


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).   Financial assets measured at
fair value on a non-recurring basis include the following:




Goodwill.Goodwill
is measured at fair value on a non-recurring basis using Level 3
inputs.   In the first step of a goodwill impairment test, the
Company primarily uses a review of the valuation of recent guideline bank
acquisitions, if available, as well as discounted cash flow
analysis.   If the second step of a goodwill impairment test is
required, the implied fair value of goodwill is determined in the same manner as
goodwill is recognized in a business combination.  See Note 4 Goodwill for additional
information.





Impaired Loans. Certain
impaired loans with a valuation reserve are measured for impairment using the
practical expedient, whereby fair value of the loan is based on the fair value
of the loan’s collateral, provided the loan is collateral
dependent.  The fair value measurements of loan collateral can include
real estate appraisals, comparable real estate sales information, cash flow
projections, realization estimates, etc., all of which can include observable
and unobservable inputs.  As a result, the categorization of impaired
loans can be either Level 2 or Level 3 of the fair value hierarchy, depending on
the nature of the inputs used for measuring the related collateral’s fair
value.  As of September 30, 2009, 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 $14.3 million
were reduced by specific valuation allowance allocations of $1.7 million to a
fair value of $12.6 million based on collateral valuations utilizing Level 2
valuation inputs.   Impaired loans with a carrying value of
$292,000 were reduced by specific valuation allowance allocations of $60,000 to
a fair value of $232,000 based on collateral valuations utilizing Level 3
valuation inputs.





On April
1, 2009, the Company adopted updates to FASB accounting guidance to require an
entity to provide disclosures about fair value of financial instruments in
interim financial information and to require those disclosures in summarized
financial information at interim reporting periods.





Fair
Value of Financial Instruments





The
following table summarizes the carrying value and estimated fair values of
financial instruments as of September 30, 2009 and December 31,
2008:





As of September
    30, 2009
            
            
            As of December 31, 2008Carrying or Contract
              Amount
            
            
            Estimated Fair
              Value
            
            
            Carrying or Contract
              Amount
            
            
            Estimated Fair
              Value(In
      thousands)Financial
      AssetsCash
      and cash equivalents
            
            $
            120,714
            
            
            $
            120,714
            
            
            $
            38,101
            
            
            $
            38,101Investment
      securities available-for-sale
            
            
            90,225
            
            
            
            90,225
            
            
            
            102,104
            
            
            
            102,104Investment
      securities held-to-maturity
            
            
            4,044
            
            
            
            4,423
            
            
            
            —
            
            
            
            —Other
      investments
            
            
            25,351
            
            
            
            25,351
            
            
            
            29,220
            
            
            
            29,220Loans
      held-for-investment, net
            
            
            1,285,935
            
            
            
            1,188,587
            
            
            
            1,321,813
            
            
            
            1,194,550Cash
      value of bank owned life insurance
            
            
            28,160
            
            
            
            28,160
            
            
            
            27,090
            
            
            
            27,090Accrued
      interest receivable
            
            
            4,952
            
            
            
            4,952
            
            
            
            5,946
            
            
            
            5,946Financial
      LiabilitiesDepositsTransaction
      accounts
            
            
            699,853
            
            
            
            699,853
            
            
            
            597,877
            
            
            
            597,876Time
      deposits
            
            
            691,973
            
            
            
            694,532
            
            
            
            671,276
            
            
            
            677,416Total
      deposits
            
            
            1,391,826
            
            
            
            1,394,385
            
            
            
            1,269,153
            
            
            
            1,275,292Other
      borrowings
            
            
            25,118
            
            
            
            25,347
            
            
            
            139,046
            
            
            
            138,992Junior
      subordinated debentures
            
            
            36,083
            
            
            
            38,264
            
            
            
            36,083
            
            
            
            38,623Interest
      rate derivative
            
            
            168
            
            
            
            168
            
            
            
            —
            
            
            
            —Accrued
      interest payable
            
            
            1,072
            
            
            
            1,072
            
            
            
            1,279
            
            
            
            1,279Off-balance
      sheet financial instrumentsUnfunded
      loan commitments, including unfunded lines of credit
            
            
            140,368
            
            
            
            —
            
            
            
            247,731
            
            
            
            —Standby
      letters of credit
            
            
            10,985
            
            
            
            —
            
            
            
            9,981
            
            
            
            —Commercial
      letters of credit
            
            
            12,296
            
            
            
            —
            
            
            
            12,244
            
            
            
            —


20


The
following methodologies and assumptions were used to estimate the fair value of
the Company’s financial instruments as disclosed in the table:





Assets for Which Fair Value
Approximates Carrying Value.The
fair values of certain financial assets and liabilities carried at cost,
including cash and due from banks, deposits with banks, federal funds sold, cash
value of bank owned life insurance, due from customers on acceptances and
accrued interest receivable, are considered to approximate their respective
carrying values due to their short-term nature and/or negligible credit
losses.





Investment Securities.Fair
values are based primarily upon quoted market prices obtained from an
independent pricing service.





Loans.The
fair value of loans originated by the Banks is estimated by discounting the
expected future cash flows using the current interest rates at which similar
loans with similar terms would be made. The presence of floors on a large
portion of the variable rate loans has supported the yields above current market
levels and is the key factor causing the fair value of the variable rate loans
with floors to exceed the book value. The fair value of the remainder of the
variable rate loans approximates the carrying value while fixed rate loans are
generally above the carrying values. Using these results, valuation adjustments
are made for specific credit risks as well as general portfolio credit and
market risks to arrive at the fair value.





Liabilities for Which Fair Value
Approximates Carrying Value.The
estimated fair value for transactional deposit liabilities with no stated
maturity (i.e., demand, savings, and money market deposits) approximates the
carrying value. The estimated fair value of deposits does not take into account
the value of the Company’s long-term relationships with depositors, commonly
known as core deposit intangibles, which are separate intangible assets, and not
considered financial instruments.  Nonetheless, the company would
likely realize a core deposit premium if its deposit portfolio were sold in the
principal market for such deposits.





The fair
value of acceptances outstanding, accounts payable and accrued liabilities are
considered to approximate their respective carrying values due to their
short-term nature.





Time Deposits.Fair
values for fixed-rate time deposits are estimated using a discounted cash flow
calculation that applies interest rates currently being offered on time deposits
to a schedule of aggregated expected monthly maturities on time
deposits.





Other Borrowings.The
carrying amounts of federal funds purchased, borrowings under repurchase
agreements, and other borrowings maturing within fourteen days approximate their
fair values. Fair values of other borrowings are estimated using discounted cash
flow analyses based on the Company’s current incremental borrowing rates for
similar types of borrowing arrangements.





Junior Subordinated
Debentures.The
fair value of the junior subordinated debentures was estimated by discounting
the cash flows through maturity based on the prevailing market
rate.





Interest Rate Derivatives.
The fair value was estimated using discounted cash flow models that use actively
quoted or observable market input values from external market data providers
and/or non-binding broker-dealer quotations.





Commitments to Extend Credit and
Letters of Credit.The
fair value of such instruments is estimated using fees currently charged for
similar arrangements in the market. The estimated fair values of these
instruments are not material as of the reporting dates.




12.
            NEW
      AUTHORITATIVE ACCOUNTING GUIDANCE





Accounting
Standards Codification




The FASB
Accounting Standards Codification (“ASC”) became effective on July 1, 2009.
At that date, the ASC became FASB’s officially recognized source of
authoritative U.S. generally accepted accounting principles (GAAP) applicable to
all public and non-public non-governmental entities, superseding existing FASB,
American Institute of Certified Public Accountants (“AICPA”), Emerging Issues
Task Force (“EITF”) and related literature. Rules and interpretive releases of
the SEC under the authority of federal securities laws are also sources of
authoritative GAAP for SEC registrants. All other accounting literature is
considered non-authoritative. The switch to the ASC affects the way companies
refer to U.S. GAAP in financial statements and accounting policies. Citing
particular content in the ASC involves specifying the unique numeric path to the
content through the Topic, Subtopic, Section and Paragraph
structure.


21


FASB ASC Topic 855 “Subsequent
Events.” ASC 855-10 establishes general standards of accounting for and
disclosure of events that occur after the balance sheet date but before
financial statements are issued or available to be issued. AS 855-10 defines
(i) the period after the balance sheet date during which a reporting
entity’s management should evaluate events or transactions that may occur for
potential recognition or disclosure in the financial statements, (ii) the
circumstances under which an entity should recognize events or transactions
occurring after the balance sheet date in its financial statements, and
(iii) the disclosures an entity should make about events or transactions
that occurred after the balance sheet date. AS 855-10 became effective for the
Company’s financial statements for periods ending after June 15,
2009.  The new interim disclosures required by AS 855-10 are included
in the Company’s interim financial statements beginning June 30,
2009.





The FASB
issued Statement No. 166,
“Accounting for Transfers of Financial Assets, an Amendment of FASB Statement
No. 140.” Statement No. 166 amends Statement No. 140,“Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities,” to
enhance reporting about transfers of financial assets, including
securitizations, and where companies have continuing exposure to the risks
related to transferred financial assets. Statement No. 166 eliminates the
concept of a “qualifying special-purpose entity” and changes the requirements
for derecognizing financial assets. Statement No. 166 also requires
additional disclosures about all continuing involvements with transferred
financial assets including information about gains and losses resulting from
transfers during the period. Statement No. 166 is effective for the Company
beginning January 1, 2010, and adoption is not expected to have a material
impact on the financial condition, results of operations, or cash flows of the
Company.





The FASB
issued Statement No. 167,
“Amendments to FASB Interpretation No. 46(R).” Statement
No. 167 amends FIN 46 (Revised December 2003),“Consolidation of Variable Interest
Entities,”  to change how a company determines when an entity
that is insufficiently capitalized or is not controlled through voting (or
similar rights) should be consolidated. The determination of whether a company
is required to consolidate an entity is based on, among other things, an
entity’s purpose and design and a company’s ability to direct the activities of
the entity that most significantly impact the entity’s economic performance.
Statement No. 167 requires additional disclosures about the reporting
entity’s involvement with variable-interest entities and any significant changes
in risk exposure due to that involvement as well as its affect on the entity’s
financial statements. Statement No. 167 is effective for the Company
beginning January 1, 2010.   The Company is in the process
of determining the impact of Statement No. 167 on the financial condition,
results of operations, and cash flows of the Company.





New
authoritative accounting guidance under ASC Topic 810 amends prior guidance to
change how a company determines when an entity that is insufficiently
capitalized or is not controlled through voting (or similar rights) should be
consolidated. The determination of whether a company is required to consolidate
an entity is based on, among other things, an entity’s purpose and design and a
company’s ability to direct the activities of the entity that most significantly
impact the entity’s economic performance. The new authoritative accounting
guidance requires additional disclosures about the reporting entity’s
involvement with variable-interest entities and any significant changes in risk
exposure due to that involvement as well as its affect on the entity’s financial
statements. The new authoritative accounting guidance under ASC Topic 810 will
be effective January 1, 2010. The Company is in the process of determining
the impact of this new guidance on the financial condition, results of
operations, and cash flows of the Company.





FASB ASC Topic 815, “Derivatives and
Hedging.” New authoritative accounting guidance under ASC Topic 815,
“Derivatives and Hedging,” amends prior guidance to amend and expand the
disclosure requirements for derivatives and hedging activities 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 ASC Topic 815, 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, the new authoritative
accounting guidance 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. The new
authoritative accounting guidance under ASC Topic 815 became effective for the
Company on January 1, 2009 and the required disclosures are reported in
Note 9 - Derivative Financial Instruments.





FASB ASC Topic 820, “Fair Value
Measurements and Disclosures.”New authoritative
accounting guidance under ASC Topic 820 relates to determining fair value of
assets or liabilities affirms that the objective of fair value when the market
for an asset is not active is the price that would be received to sell the asset
in an orderly transaction, and clarifies and includes additional factors for
determining whether there has been a significant decrease in market activity for
an asset when the market for that asset is not active. The new authoritative
guidance requires an entity to base its conclusion about whether a transaction
was not orderly on the weight of the evidence, and also expanded certain
disclosure requirements. The new guidance under ASC Topic 820 became effective
for interim and annual periods ending after June 15, 2009 and did not have a
significant impact on the Company’s financial statements.





Further
new authoritative accounting guidance (Accounting Standards Update
No. 2009-5) which will amend ASC Topic 820 provides guidance for measuring
the fair value of a liability in circumstances in which a quoted price in an
active market for the identical liability is not available. In such instances, a
reporting entity is required to measure fair value utilizing a valuation
technique that uses (i) the quoted price of the identical liability when
traded as an asset, (ii) quoted prices for similar liabilities or similar
liabilities when traded as assets, or (iii) another valuation technique
that is consistent with the existing principles of ASC Topic 820, such as an
income approach or market approach. The new authoritative accounting guidance
also clarifies that when estimating the fair value of a liability, a reporting
entity is not required to include a separate input or adjustment to other inputs
relating to the existence of a restriction that prevents the transfer of the
liability. The forgoing new authoritative accounting guidance under ASC Topic
820 will be effective for the Company’s financial statements beginning
October 1, 2009 and adoption is not expected to have a material impact on
the financial condition, results of operations, or cash flows of the
Company.


22


FASB ASC Topic 320 “Investments -
Debt and Equity Securities.”ASC Topic 320-10 relates
to recognition and presentation of other-than-temporary impairments
(i) changes existing guidance for determining whether an impairment is
other than temporary to debt securities and (ii) replaces the existing
requirement that the entity’s management assert it has both the intent and
ability to hold an impaired security until recovery with a requirement that
management assert: (a) it does not have the intent to sell the security;
and (b) it is more likely than not it will not have to sell the security
before recovery of its cost basis. Under ASC Topic 320-10, declines in the fair
value of held-to-maturity and available-for-sale securities below their cost
that are deemed to be other than temporary are reflected in earnings as realized
losses to the extent the impairment is related to credit losses. The amount of
the impairment related to other factors is recognized in other comprehensive
income. ASC Topic 320-10 was effective for interim and annual periods ending
after June 15, 2009.  The adoption of ASC Topic 320-10 was applied and
considered during management’s other-than-temporary impairments analysis and
conclusion.  See Note 2, “Securities”
to the Condensed Consolidated Financial Statements for disclosures required
by this new guidance.





FASB ASC Topics 820, and 825
“Financial Instruments.”ASC Topic 820-10 relates
to interim disclosures about fair value of financial instruments amends prior
accounting standards relating to fair value to require an entity to provide
disclosures about fair value of financial instruments in interim financial
information and amends ASC Topic 270-10 to require those disclosures in
summarized financial information at interim reporting periods. Under ASC Topic
820-10, a publicly traded company shall include disclosures about the fair value
of its financial instruments whenever it issues summarized financial information
for interim reporting periods. In addition, entities must disclose, in the body
or in the accompanying notes of its summarized financial information for interim
reporting periods and in its financial statements for annual reporting periods,
the fair value of all financial instruments for which it is practicable to
estimate that value, whether recognized or not recognized in the statement of
financial position, as required by ASC Topic 825-10, and ASC Topic 820-10. The
new interim disclosures required by ASC Topic 820-10 became effective for
interim and annual periods ending after June 15, 2009 and are included in the
Company’s interim financial statements as of and for the nine months ended
September 30, 2009.


23


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
      concentration of the Company’s loan portfolio in loans collateralized by
      real estate;





•
            the
      Company’s ability to raise additional
capital;





•
            the
      effect of compliance, or failure to comply within stated deadlines, of the
      provisions of the formal agreement with the Office of the Comptroller of
      the Currency;





•
            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;





•
            the
      incurrence and possible impairment of goodwill associated with an
      acquisition and possible adverse short-term effects on the results of
      operations;





•
            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 the Company’s capital levels and regulatory capital
      ratios;


24


•
            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.


25


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 $1.1 million for the three months ended
September 30, 2009, a decrease of $938,000 compared with the same quarter in
2008. The Company’s diluted earnings per common share for the three months ended
September 30, 2009 was $0.05, a decrease of $0.14 per diluted common share
compared with diluted earnings per common share of $0.19 for the same quarter in
2008. Diluted earnings per share 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. Preferred
stock dividends were $563,000 or $0.05 per diluted share for the three months
ended September 30, 2009. There were no preferred stock dividends for the three
months ending September 30, 2008. The Company recorded net income of $256,000
for the nine months ended September 30, 2009, a decrease of $6.3 million
compared with the same period in 2008. The Company’s diluted loss per common
share for the nine months ended September 30, 2009 was $0.12, a decrease of
$0.72 per diluted share compared with diluted earnings per common share of $0.60
for the same period in 2008.  Preferred stock dividends were $1.6
million or $0.15 per diluted share for the nine months ended September 30, 2009.
There were no preferred stock dividends for the nine months ended September 30,
2008. Details of the changes in the various components of net income are further
discussed below.





Total
assets were $1.63 billion at September 30, 2009, an increase of
$49.5 million or 3.1% from $1.58 billion at December 31, 2008.
Available-for-sale investment securities at September 30, 2009 were
$90.2 million, a decrease of $11.9 million or 11.6% from
$102.1 million at December 31, 2008. Net loans at September 30, 2009
were $1.29 billion, a decrease of $35.9 million or 2.7% from
$1.32 billion at December 31, 2008. Total deposits at September 30,
2009 were $1.39 billion, an increase of $122.7 million or 9.7% from
$1.27 billion at December 31, 2008. Other borrowings at September 30,
2009 were $25.1 million, a decrease of $113.9 million or 81.9% from $139.0
million at December 31, 2008. The Company’s return on average assets
(“ROAA”) for the three months ended September 30, 2009 and 2008 was 0.28% and
0.52%, respectively. The Company’s return on average equity (“ROAE”) for the
three months ended September 30, 2009 and 2008 was 2.74% and 6.67%,
respectively. The Company’s ROAA for the nine months ended September 30, 2009
and 2008 was 0.02% and 0.57%, respectively. The Company’s ROAE for the nine
months ended September 30, 2009 and 2008 was 0.21% and 7.21%,
respectively.   Shareholders’ equity at September 30, 2009 was
$163.8 million compared to $119.2 million at December 31, 2008, an
increase of $44.6 million or 37.4%.  Details of the changes in the
various balance sheet items are further discussed below.





Results
of Operations





Net Interest Income and Net Interest
Margin. For the three months ended September 30, 2009, net interest
income, before the provision for loan losses, was $14.6 million, an
increase of $795,000 or 5.8% compared with $13.8 million for the same
period in 2008, primarily due to lower deposit cost. Average interest-earning
assets for the three months ended September 30, 2009 were $1.50 billion, an
increase of $14.4 million or 1.0% compared with $1.49 billion for the
same period in 2008, primarily due to growth in federal funds sold and other
short-term investments partially offset by a decline in loans and other
investments.  The weighted average yield on interest-earning assets
for the third quarter of 2009 was 5.77%, a decrease of 62 basis points compared
with 6.39% for the same quarter in 2008. Average interest-bearing liabilities
for the three months ended September 30, 2009 were $1.22 billion, a
decrease of $3.8 million or 0.3% compared with $1.22 billion for the
same period in 2008, primarily due to a decrease in other borrowings partially
offset by an increase in money market accounts and time deposits. The weighted
average interest rate paid on interest-bearing liabilities for the third quarter
2009 was 2.35%, a decrease of 93 basis points compared with 3.28% for the same
quarter in 2008.  Interest rate cuts by the Federal Reserve, which
caused the prime rate to decrease from 5% to 3.25% during the last 12 months,
resulted in a decrease in yields and costs for the three months ended September
30, 2009, compared with the same period in 2008.





For the
nine months ended September 30, 2009, net interest income, before the provision
for loan losses, was $41.1 million, a decrease of $1.2 million or 2.9%
compared with $42.3 million for the same period in 2008, primarily due to
lower loan yields as a result of interest rate cuts and an increase in
nonperforming assets. Average interest-earning assets for the nine months ended
September 30, 2009 were $1.51 billion, an increase of $75.0 million or
5.2% compared with $1.44 billion for the same period in 2008, primarily due
to growth in loans and federal funds sold and other short-term investments. The
weighted average yield on interest-earning assets for the nine months ended
September 30, 2009 was 5.79%, down 104 basis points compared with 6.83% for the
same period in 2008.  Average interest-bearing liabilities for the
nine months ended September 30, 2009 were $1.23 billion, an increase of
$47.4 million or 4.0% compared with $1.18 billion for the same period in
2008, primarily due to an increase in money market accounts and time deposits,
partially offset by a decrease in other borrowings. The weighted average rate
paid on interest-bearing liabilities for the nine months ended September 30,
2009 was 2.67%, down 87 basis points compared with 3.54% for the same period in
2008.


26


The net
interest margin for the three months ended September 30, 2009 was 3.86%, an
increase of 16 basis points compared with 3.70% for the same period in 2008. The
increase was primarily the result of a decline in the cost of earning assets of
78 basis points partially offset by a decrease in the yield on earning assets of
62 basis points,. The net interest margin for the nine months ended September
30, 2009 was 3.63%, down 29 basis points compared with 3.92% for the same period
in 2008.  For the nine months ended September 30, 2009, the yield on
average earning assets decreased 104 basis points, which was partially offset by
a 75 basis point decrease in the cost of average earning assets.  The
decrease in yield on earning assets and the cost of earning assets for the three
and nine months ended September 30, 2009 was due primarily to interest rate cuts
and an increase in nonperforming assets.





Total Interest Income. Total
interest income for the three months ended September 30, 2009 was
$21.8 million, a decrease of approximately $2.1 million or 8.7% compared
with $23.9 million for the same period in 2008.  Total interest
income for the nine months ended September 30, 2009 was $65.6 million, a
decrease of $8.0 million or 10.8% compared with $73.6 million for the same
period in 2008. The decrease for the three and nine months ended September 30,
2009 was primarily due to lower loan yields and an increase in nonperforming
assets.





Interest Income from Loans.
Interest income from loans for the three months ended September 30, 2009 was
$20.7 million, a decrease of $1.6 million or 7.4% compared with
$22.3 million for the same quarter in 2008. Average total loans for the
three months ended September 30, 2009 were $1.32 billion compared to $1.33
billion for the same period in 2008, a decrease of $4.7 million or 0.4%.
For the third quarter of 2009, the average yield on loans was 6.20%, a decrease
of 49 basis points compared to 6.69% for the same quarter in 2008. Interest
income from loans for the nine months ended September 30, 2009 was
$61.8 million, a decrease of $6.9 million or 10.1% compared with
$68.7 million for the same period in 2008. The decrease for the three and
nine months ended September 30, 2009 was the result of lower loan yields and an
increase in nonperforming assets.   Average total loans for the
nine months ended September 30, 2009 were $1.33 billion, an increase of
$49.5 million or 3.9% compared with average total loans for the same period
in 2008 of $1.28 billion. For the nine months ended September 30, 2009, the
yield on average total loans was 6.22%, down 96 basis points compared with 7.18%
for the same period in 2008.





Approximately
$889.7 million or 67.7% of the total loan portfolio are variable rate loans that
periodically reprice and are sensitive to changes in market interest
rates.  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, 2009, the average yield on
total loans was approximately 295 basis points above the prime rate primarily
because of interest rate floors.   At September 30, 2009,
approximately $736.9 million in loans or 56.1% of the total loan portfolio were
variable rate loans with interest rate floors that carried a weighted average
interest rate of 6.34%.  At September 30, 2008, variable rate loans
with interest rate floors carried a weighted average interest rate of 6.76% and
comprised 50.9% 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, 2009 was $1.2 million, a decrease of $431,000 or 27.0%
compared to $1.6 million for the same period in 2008.  The decrease in
interest income from investments for the three months ended September 30, 2009
was primarily the result of declining interest rates.  Average total
investments for the three months ended September 30, 2009 were
$180.3 million compared to average total investments for the same period in
2008 of $161.1 million, an increase of $19.2 million or
11.9%.  For the third quarter 2009, the average yield on total
investments was 2.57% compared to 3.95% for the same quarter in 2008, a decrease
of 138 basis points. Interest income from investments for the nine months ended
September 30, 2009 was $3.8 million, down $1.0 million or 21.8% compared with
$4.8 million for the same period in 2008. The decrease in interest income
from investments for the nine months ended September 30, 2009 was primarily the
result of declining interest rates, and the effect of a decline in taxable
securities due to paydowns, sales, calls and maturities of
securities.  Average total investments for the nine months ended
September 30, 2009 were $187.1 million compared with average total
investments for the same quarter in 2008 of $161.6 million, an increase of
$25.5 million or 15.8%.  The increase in average total investments for
the three and nine months ended September 30, 2009 was primarily the result of
an increase in Federal funds sold. For the nine months ended September 30, 2009,
the average yield on investments was 2.71% compared with 4.01% for the same
quarter in 2008, a decrease of 130 basis points.





Total Interest Expense. Total
interest expense for the three months ended September 30, 2009 was
$7.2 million, a decrease of $2.9 million or 28.5% compared to
$10.1 million for the same period in 2008. Total interest expense for the
nine months ended September 30, 2009 was $24.5 million, down $6.8 million
or 21.6% compared with $31.3 million for the same period in 2008. Interest
expense decreased for both the three and nine months ended September 30, 2009
primarily due to lower cost of funds and the effects of a decrease in other
borrowings that was partially offset by an increase in interest-bearing
deposits.





Interest Expense on Deposits.
Interest expense on interest-bearing deposits for the three months ended
September 30, 2009 was $6.4 million, a decrease of $2.2 million or 24.9%
compared to $8.6 million for the same period in 2008. Average
interest-bearing deposits for the three months ended September 30, 2009 were
$1.15 billion compared to average interest-bearing deposits for the same
period in 2008 of $1.03 billion, an increase of $122.1 million or
11.8%. The average interest rate paid on interest-bearing deposits for the third
quarter of 2009 was 2.22% compared to 3.31% for the same quarter in 2008, a
decrease of 109 basis points. The decline in interest expense and the average
interest rate paid on interest-bearing deposits was primarily due to declining
interest rates in the deposit market.


27


Interest
expense on interest-bearing deposits for the nine months ended September 30,
2009 was $22.2 million, down $4.8 million or 17.8% compared with
$27.0 million for the same period in 2008.  Average
interest-bearing deposits for the nine months ended September 30, 2009 were
$1.15 billion compared with average interest-bearing deposits for the same
period in 2008 of $1.00 billion, an increase of $146.8 million or
14.6%. The average interest rate incurred on interest-bearing deposits for the
nine months ended September 30, 2009 was 2.58% compared with 3.59% for the same
period in 2008, a decrease of 101 basis points.  The decline in
interest expense and the average interest rate paid on interest-bearing deposits
was primarily due to declining interest rates in the deposit
market.




Interest Expense on Junior
Subordinated Debentures.  Interest expense on junior
subordinated debentures for the three months ended September 30, 2009 and 2008
was $519,000. Interest expense on junior subordinated debentures for the nine
months ended September 30, 2009 and 2008 was $1.6 million. Average junior
subordinated debentures for the three and nine months ended September 30, 2009
and 2008 were $36.1 million. The average interest rate incurred on junior
subordinated debentures for the three and nine months ended September 30, 2009
and 2008 was 5.76%. The junior subordinated debentures accrue interest at a
fixed rate of 5.76% 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%.
 Related to these debentures, the Company entered into a forward-starting
interest rate swap contract. Under the swap, beginning December 15, 2010, the
Company will pay a fixed interest rate of 5.38% and receive a variable interest
rate of three-month LIBOR plus a margin of 1.55% on a total notional amount of
$17.5 million, with quarterly settlements beginning March
2011.  See Note 9, “Derivative Financial
Instruments,” to the Condensed Consolidated Financial Statements for
additional information related to this interest rate swap.





Interest Expense on Other
Borrowings. Interest expense on other borrowings for the three months
ended September 30, 2009 was $240,000, a decrease of $734,000 compared to
$974,000 for the same period in 2008. Interest expense on other borrowed funds
for the nine months ended September 30, 2009 was $768,000, down $2.0 million
compared with $2.7 million for the same period in 2008.  Average
borrowed funds, consisting primarily of security repurchase agreements and
borrowings from the Federal Home Loan Bank (“FHLB”), for the three months ended
September 30, 2009 was $28.8 million a decrease of $125.9 million compared to
$154.7 million for the same period in 2008. Other borrowings decreased primarily
due to liquidity provided by deposit growth and funds received from
participation in the Capital Purchase Program (“CPP”).  The average
interest rate paid on borrowed funds for the third quarter of 2009 was 3.31%
compared to 2.50% for the same quarter in 2008.  The average interest
rate increased as lower cost short-term FHLB borrowings were repaid and higher
cost long-term borrowings remained outstanding.  Average borrowed
funds for the nine months ended September 30, 2009 was $40.2 million, a decrease
of $99.3 million compared to $139.5 million for the same period in 2008. Other
borrowings decreased primarily due to liquidity provided by deposit growth and
funds received from participation in the CPP.  The average interest
rate paid on borrowed funds for the nine months ended September 30, 2009 was
2.55% compared to 2.63% for the same period in 2008.


28


The
following table presents, for each major category of interest-earning assets and
interest-bearing liabilities, 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 table as loans having a zero yield, with income, if any,
recognized at the end of the loan term.





For The Three Months Ended September
      30,2009
            
            
            2008Average
            
            
            Interest
            
            
            Average
            
            
            Average
            
            
            Interest
            
            
            AverageOutstanding
            
            
            Earned/
            
            
            Yield/
            
            
            Outstanding
            
            
            Earned/
            
            
            Yield/Balance
            
            
            Paid
            
            
            Rate(1)
            
            
            Balance
            
            
            Paid
            
            
            Rate(1)(Dollars
      in thousands)AssetsInterest-earning
      assets:Loans
            
            $
            1,320,601
            
            
            $
            20,654
            
            
            
            6.20
            %
            
            $
            1,325,350
            
            
            $
            22,295
            
            
            
            6.69
            %Taxable
      securities
            
            
            110,336
            
            
            
            965
            
            
            
            3.47
            
            
            
            108,075
            
            
            
            1,207
            
            
            
            4.44Tax-exempt
      securities
            
            
            6,787
            
            
            
            85
            
            
            
            4.97
            
            
            
            3,852
            
            
            
            47
            
            
            
            4.85Other
      investments (2)
            
            
            19,873
            
            
            
            89
            
            
            
            1.78
            
            
            
            25,813
            
            
            
            235
            
            
            
            3.62Federal
      funds sold and other short-term investments
            
            
            43,257
            
            
            
            29
            
            
            
            0.27
            
            
            
            23,400
            
            
            
            110
            
            
            
            1.87Total
      interest-earning assets
            
            
            1,500,854
            
            
            
            21,822
            
            
            
            5.77
            
            
            
            1,486,490
            
            
            
            23,894
            
            
            
            6.39Allowance
      for loan losses
            
            
            (24,918
            )
            
            
            
            
            
            
            
            
            
            
            (16,083
            )Total
      interest-earning assets, net of allowance for loan losses
            
            
            1,475,936
            
            
            
            
            
            
            
            
            
            
            
            1,470,407Noninterest-earning
      assets
            
            
            130,296
            
            
            
            
            
            
            
            
            
            
            
            107,457Total
      assets
            
            $
            1,606,232
            
            
            
            
            
            
            
            
            
            
            $
            1,577,864Liabilities
      and shareholders' equityInterest-bearing
      liabilities:Interest-bearing
      demand deposits
            
            $
            54,727
            
            
            $
            69
            
            
            
            0.50
            %
            
            $
            59,209
            
            
            
            114
            
            
            
            0.77
            %Savings
      and money market accounts
            
            
            418,335
            
            
            
            1,692
            
            
            
            1.60
            
            
            
            319,953
            
            
            
            2,227
            
            
            
            2.77Time
      deposits
            
            
            680,621
            
            
            
            4,687
            
            
            
            2.73
            
            
            
            652,404
            
            
            
            6,240
            
            
            
            3.81Junior
      subordinated debentures
            
            
            36,083
            
            
            
            519
            
            
            
            5.76
            
            
            
            36,083
            
            
            
            519
            
            
            
            5.76Other
      borrowings
            
            
            28,808
            
            
            
            240
            
            
            
            3.31
            
            
            
            154,689
            
            
            
            974
            
            
            
            2.50Total
      interest-bearing liabilities
            
            
            1,218,574
            
            
            
            7,207
            
            
            
            2.35
            
            
            
            1,222,338
            
            
            
            10,074
            
            
            
            3.28Noninterest-bearing
      liabilities:Noninterest-bearing
      demand deposits
            
            
            210,040
            
            
            
            
            
            
            
            
            
            
            
            213,735Other
      liabilities
            
            
            13,104
            
            
            
            
            
            
            
            
            
            
            
            18,032Total
      liabilities
            
            
            1,441,718
            
            
            
            
            
            
            
            
            
            
            
            1,454,105Shareholders'
      equity
            
            
            164,514
            
            
            
            
            
            
            
            
            
            
            
            123,759Total
      liabilities and shareholders' equity
            
            $
            1,606,232
            
            
            
            
            
            
            
            
            
            
            $
            1,577,864Net
      interest income
            
            
            
            
            
            $
            14,615
            
            
            
            
            
            
            
            
            
            
            $
            13,820Net
      interest spread
            
            
            
            
            
            
            
            
            
            
            3.42
            %
            
            
            
            
            
            
            
            
            
            
            3.11
            %Net
      interest margin
            
            
            
            
            
            
            
            
            
            
            3.86
            %
            
            
            
            
            
            
            
            
            
            
            3.70
            %




(1)
            Annualized.


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


29




For
      The Nine Months Ended September 30,2009
            
            
            2008Average
            
            
            Interest
            
            
            Average
            
            
            Average
            
            
            Interest
            
            
            AverageOutstanding
            
            
            Earned/
            
            
            Yield/
            
            
            Outstanding
            
            
            Earned/
            
            
            Yield/Balance
            
            
            Paid
            
            
            Rate(1)
            
            
            Balance
            
            
            Paid
            
            
            Rate(1)(Dollars
      in thousands)AssetsInterest-earning
      assets:Loans
            
            $
            1,327,198
            
            
            $
            61,791
            
            
            
            6.22
            %
            
            $
            1,277,701
            
            
            $
            68,715
            
            
            
            7.18
            %Taxable
      securities
            
            
            103,808
            
            
            
            3,048
            
            
            
            3.93
            
            
            
            118,684
            
            
            
            3,855
            
            
            
            4.34Tax-exempt
      securities
            
            
            5,669
            
            
            
            210
            
            
            
            4.95
            
            
            
            4,993
            
            
            
            184
            
            
            
            4.92Other
      investments (2)
            
            
            20,968
            
            
            
            386
            
            
            
            2.46
            
            
            
            14,102
            
            
            
            417
            
            
            
            3.95Federal
      funds sold and other short-term investments
            
            
            56,669
            
            
            
            150
            
            
            
            0.35
            
            
            
            23,859
            
            
            
            393
            
            
            
            2.20Total
      interest-earning assets
            
            
            1,514,312
            
            
            
            65,585
            
            
            
            5.79
            
            
            
            1,439,339
            
            
            
            73,564
            
            
            
            6.83Allowance
      for loan losses
            
            
            (24,525
            )
            
            
            
            
            
            
            
            
            
            
            (15,031
            )Total
      interest-earning assets, net of allowance for loan losses
            
            
            1,489,787
            
            
            
            
            
            
            
            
            
            
            
            1,424,308Noninterest-earning
      assets
            
            
            123,359
            
            
            
            
            
            
            
            
            
            
            
            108,479Total
      assets
            
            $
            1,613,146
            
            
            
            
            
            
            
            
            
            
            $
            1,532,787Liabilities
      and shareholders' equityInterest-bearing
      liabilities:Interest-bearing
      demand deposits
            
            $
            54,776
            
            
            $
            209
            
            
            
            0.51
            %
            
            $
            59,033
            
            
            
            371
            
            
            
            0.84
            %Savings
      and money market accounts
            
            
            400,240
            
            
            
            5,981
            
            
            
            2.00
            
            
            
            291,354
            
            
            
            5,937
            
            
            
            2.72Time
      deposits
            
            
            696,643
            
            
            
            15,991
            
            
            
            3.07
            
            
            
            654,496
            
            
            
            20,671
            
            
            
            4.22Junior
      subordinated debentures
            
            
            36,083
            
            
            
            1,559
            
            
            
            5.76
            
            
            
            36,083
            
            
            
            1,559
            
            
            
            5.76Other
      borrowings
            
            
            40,196
            
            
            
            768
            
            
            
            2.55
            
            
            
            139,530
            
            
            
            2,742
            
            
            
            2.63Total
      interest-bearing liabilities
            
            
            1,227,938
            
            
            
            24,508
            
            
            
            2.67
            
            
            
            1,180,496
            
            
            
            31,280
            
            
            
            3.54Noninterest-bearing
      liabilities:Noninterest-bearing
      demand deposits
            
            
            208,595
            
            
            
            
            
            
            
            
            
            
            
            210,966Other
      liabilities
            
            
            14,245
            
            
            
            
            
            
            
            
            
            
            
            19,442Total
      liabilities
            
            
            1,450,778
            
            
            
            
            
            
            
            
            
            
            
            1,410,904Shareholders'
      equity
            
            
            162,368
            
            
            
            
            
            
            
            
            
            
            
            121,883Total
      liabilities and shareholders' equity
            
            $
            1,613,146
            
            
            
            
            
            
            
            
            
            
            $
            1,532,787Net
      interest income
            
            
            
            
            
            $
            41,077
            
            
            
            
            
            
            
            
            
            
            $
            42,284Net
      interest spread
            
            
            
            
            
            
            
            
            
            
            3.12
            %
            
            
            
            
            
            
            
            
            
            
            3.29
            %Net
      interest margin
            
            
            
            
            
            
            
            
            
            
            3.63
            %
            
            
            
            
            
            
            
            
            
            
            3.92
            %





(1)
            Annualized.


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


30


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, 2009 compared with the three and nine months ended September 30,
2008. 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
    30,2009 vs 2008
            
            
            2009 vs 2008Increase
      (Decrease)
            
            
            
            
            
            Increase
      (Decrease)Due to
            
            
            
            
            
            Due toVolume
            
            
            Rate
            
            
            Total
            
            
            Volume
            
            
            Rate
            
            
            Total(In
      thousands)Interest-earning
      assets:Loans
            
            $
            (19
            )
            
            $
            (1,622
            )
            
            $
            (1,641
            )
            
            $
            2,596
            
            
            $
            (9,520
            )
            
            $
            (6,924
            )Taxable
      securities
            
            
            29
            
            
            
            (271
            )
            
            
            (242
            )
            
            
            (486
            )
            
            
            (321
            )
            
            
            (807
            )Tax-exempt
      securities
            
            
            36
            
            
            
            2
            
            
            
            38
            
            
            
            25
            
            
            
            1
            
            
            
            26Other
      investments
            
            
            (54
            )
            
            
            (92
            )
            
            
            (146
            )
            
            
            202
            
            
            
            (233
            )
            
            
            (31
            )Federal
      funds sold and other short-term investments
            
            
            94
            
            
            
            (175
            )
            
            
            (81
            )
            
            
            540
            
            
            
            (783
            )
            
            
            (243
            )Total
      increase (decrease) in interest income
            
            
            86
            
            
            
            (2,158
            )
            
            
            (2,072
            )
            
            
            2,877
            
            
            
            (10,856
            )
            
            
            (7,979
            )Interest-bearing
      liabilities:Interest-bearing
      demand deposits
            
            
            (8
            )
            
            
            (37
            )
            
            
            (45
            )
            
            
            (27
            )
            
            
            (135
            )
            
            
            (162
            )Savings
      and money market accounts
            
            
            693
            
            
            
            (1,228
            )
            
            
            (535
            )
            
            
            2,211
            
            
            
            (2,167
            )
            
            
            44Time
      deposits
            
            
            288
            
            
            
            (1,841
            )
            
            
            (1,553
            )
            
            
            1,311
            
            
            
            (5,991
            )
            
            
            (4,680
            )Junior
      subordinated debentures
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -Other
      borrowings
            
            
            (792
            )
            
            
            58
            
            
            
            (734
            )
            
            
            (1,953
            )
            
            
            (21
            )
            
            
            (1,974
            )Total
      increase (decrease) in interest expense
            
            
            181
            
            
            
            (3,048
            )
            
            
            (2,867
            )
            
            
            1,542
            
            
            
            (8,314
            )
            
            
            (6,772
            )Increase
      (decrease) in net interest income
            
            $
            (95
            )
            
            $
            890
            
            
            $
            795
            
            
            $
            1,335
            
            
            $
            (2,542
            )
            
            $
            (1,207
            )





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, 2009 was $3.6 million, an
increase of $1.8 million, compared to $1.8 million for the same period in 2008.
The provision for loan losses for the nine months ended September 30, 2009 was
$12.7 million, an increase of $7.9 million, compared with $4.8 million for the
same period in 2008. The increase for the three and nine months ended September
30, 2009 was primarily due to an increase in net charge-offs and nonperforming
assets since September 30, 2008.  The allowance for loan losses as a
percent of total loans was 1.95% at September 30, 2009 and 1.80% at December 31,
2008, and increased compared with 1.17% at September 30, 2008.





Noninterest
Income.  Noninterest income for the three months ended
September 30, 2009 was $2.3 million, an increase of $271,000 or 13.3% compared
with the same period in 2008.  The increase for the three months ended
September 30, 2009 was primarily the result of gains on the sale of securities
partially offset by a decrease in service fees. Noninterest income for the nine
months ended September 30, 2009 was $6.2 million, down $368,000 or 5.6% compared
with the same period in 2008. The decrease for the nine months ended September
30, 2009 was primarily due to a decline in service fees and a decline in gains
on sale of loans, partially offset by increases in gain on securities
transactions, rental income received on other real estate property and in the
cash value of bank owned life insurance.





Noninterest Expense.
Noninterest expense for the three months ended September 30, 2009 was $11.6
million, an increase of $907,000 or 8.5% compared with the same period in 2008.
The increase was the result of higher expenses related to foreclosed assets and
higher FDIC assessments, partially offset by decreases in salaries and employee
benefit expenses (further described below). Noninterest expense for the nine
months ended September 30, 2009 was $34.3 million, an increase of $850,000 or
2.5% compared with the same period in 2008.  For the nine months ended
September 30, 2009, the increase was the result of higher expenses related to
foreclosed assets and higher FDIC assessments, partially offset by decreases in
salaries, employee benefit expenses and other-than-temporary impairment (“OTTI”)
charges.


31


Salaries
and employee benefits expense for the three months ended September 30, 2009 was
$4.9 million, a decrease of $1.3 million or 22.0% compared with $6.2 million for
the same period in 2008.  Salaries and employee benefits expense for
the nine months ended September 30, 2009 was $15.5 million, a decrease of $3.2
million or 16.9% compared with $18.7 million for the same period in 2008.
Salaries and employee benefits expense for the three and nine months ended
September 30, 2009 declined primarily due to streamlined operations and
decreases in amount of bonus accrual, stock-based compensation expense and
employee health care benefit expenses. The number of full-time equivalent
employees at September 30, 2009 was 295, a decrease of 10.9% compared with 331
at September 30, 2008.





For the
three months ended September 30, 2009, a $338,000 OTTI write down of investment
securities was charged against earnings (and an additional noncredit-related
OTTI of $453,000 pre-tax was recognized through equity).  For the nine
months ended September 30, 2009, a $637,000 OTTI write down of investment
securities was charged against earnings (and an additional noncredit-related
OTTI of $1.3 million pre-tax was recognized through equity).





The FDIC
assessment was $1.0 million and $2.7 million for the three and nine months ended
September 30, 2009, an increase of $835,000 and $2.3 million, respectively,
compared with the same periods in 2008, primarily due to the higher assessment
rate effective in 2009 and the one-time emergency special FDIC assessment of 5
basis points that was assessed during the second quarter of 2009.  In
addition, the FDIC assessment was higher because of utilization of remaining
available credits during the first quarter of 2008, and the participation in the
FDIC’s Temporary Liquidity Guarantee Program.  The FDIC has adopted a
proposed rule to require depository institutions to pre-pay, on December 30,
2009, estimated quarterly risk-based assessments for the fourth quarter of 2009
and all of 2010, 2011 and 2012. Comments to the proposed rule are due to the
FDIC by October 28, 2009 and a final rule will be adopted after that
date.





Other
noninterest expense for the three months ended September 30, 2009 was $2.1
million, an increase of $102,000 compared with the same quarter in 2008,
primarily due to an increase in legal fees. Other noninterest expense for the
nine months ended September 30, 2009 was $6.7 million, a decrease of $233,000
compared with the same period in 2008. The decline for nine months ended
September 30, 2009 was due to cost control efforts which resulted in cost
reductions across the organization.





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 efficiency ratio for the three
months ended September 30, 2009 was 66.71%, a decrease from 66.86% for the same
quarter in 2008, and was primarily the result of increased net interest
income.  The Company’s efficiency ratio for the nine months ended
September 30, 2009 was 71.31%, compared with 65.17% for the same period in
2008.





Income Taxes. Income tax
expense for the three months ended September 30, 2009 was $560,000, compared
with $1.3 million for the same period in 2008. The Company’s effective tax
rate was 33.0% and 38.6% for the three months ended September 30, 2009 and 2008,
respectively. Income tax benefit for the nine months ended September 30, 2009
was $46,000, compared with income tax expense of $4.0 million for the same
period in 2008. The Company’s effective tax rate was 21.9% and 37.6% for the
nine months ended September 30, 2009 and 2008, respectively. The decrease in the
effective tax rate for the three and nine months ended September 30, 2009 was
due primarily to the change in the relationship of taxable income to tax exempt
income, non-deductible expenses and certain state income taxes based principally
on gross receipts rather than net income.





Financial
Condition





Loan Portfolio. Total loans
at September 30, 2009 were $1.31 billion, a decrease of $34.5 million or 2.6%
compared with $1.35 billion at December 31, 2008. Compared to
December 31, 2008, commercial and industrial loans, real estate
construction loans and consumer loans decreased $55.6 million, $16.6 million and
$770,000, respectively, while real estate mortgage loans increased
$37.8 million during the nine months ended September 30, 2009. At September
30, 2009 and December 31, 2008, the ratio of total loans to total deposits
was 94.23%, and 106.06%, respectively. Total loans represented 80.5% and 85.2%
of total assets at September 30, 2009 and December 31, 2008,
respectively.


32


The
following table summarizes the loan portfolio by type of loan at the dates
indicated:





As
      of September 30, 2009
            
            
            As
      of December 31, 2008Amount
            
            
            Percent
            
            
            Amount
            
            
            Percent(Dollars
      in thousands)Commercial
      and industrial
            
            $
            411,996
            
            
            
            31.35
            %
            
            $
            467,546
            
            
            
            34.65
            %Real
      estate mortgageResidential
            
            
            34,381
            
            
            
            2.62
            
            
            
            12,399
            
            
            
            0.92Commercial
            
            
            735,900
            
            
            
            56.00
            
            
            
            720,052
            
            
            
            53.37770,281
            
            
            
            58.62
            
            
            
            732,451
            
            
            
            54.29Real
      estate constructionResidential
            
            
            39,162
            
            
            
            2.98
            
            
            
            43,242
            
            
            
            3.20Commercial
            
            
            88,627
            
            
            
            6.74
            
            
            
            101,125
            
            
            
            7.50127,789
            
            
            
            9.72
            
            
            
            144,367
            
            
            
            10.70Consumer
      and other
            
            
            4,094
            
            
            
            0.31
            
            
            
            4,864
            
            
            
            0.36Gross
      loans
            
            
            1,314,160
            
            
            
            100.00
            %
            
            
            1,349,228
            
            
            
            100.00
            %Unearned
      discounts, interest and deferred fees
            
            
            (2,622
            )
            
            
            
            
            
            
            (3,180
            )Total
      loans
            
            
            1,311,538
            
            
            
            
            
            
            
            1,346,048Allowance
      for loan losses
            
            
            (25,603
            )
            
            
            
            
            
            
            (24,235
            )Loans,
      net
            
            $
            1,285,935
            
            
            
            
            
            
            $
            1,321,813





Nonperforming Assets. Total
nonperforming assets increased $11.2 million to $68.8 million at September 30,
2009 from $57.6 million at December 31, 2008. At September 30, 2009, total
nonperforming assets consisted of $39.8 million in nonaccrual loans, $6.0
million of troubled debt restructurings and $23.0 million in other real estate
(“ORE”).





The
following table summarizes nonaccrual loans by type of loan at the dates
indicated:





As
      of
              September
      30, 2009
            
            
            As
      of
              December
      31, 2008(In
      thousands)Commercial
      and industrial loans
            
            $
            2,271
            
            
            $
            7,742Commercial
      real estate mortgage
            
            
            12,018
            
            
            
            11,287Residential
      real estate mortgage
            
            
            296
            
            
            
            —Commercial
      real estate construction
            
            
            —
            
            
            
            12,105Residential
      real estate construction
            
            
            11,167
            
            
            
            7,069Commercial
      land
            
            
            9,594
            
            
            
            6,108Residential
      land
            
            
            4,223
            
            
            
            3,897Other
            
            
            266
            
            
            
            31Total
      nonaccrual loans(1)
            
            $
            39,835
            
            
            $
            48,239





(1)
69.4% of nonaccrual loans are
from Texas and 30.6% are from California at September 30, 2009;  80.8%
of nonaccrual loans are from Texas and 19.2% are from California at December 31,
2008.


33


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





As
      of
            
            
            As
      ofSeptember 30, 2009
            
            
            December 31, 2008(Dollars
      in thousands)Nonaccrual
      loans
            
            $
            39,835
            
            
            $
            48,239Accruing
      loans 90 days or more past due
            
            
            —
            
            
            
            103Troubled
      debt restructurings
            
            
            5,962
            
            
            
            4,474Other
      real estate (“ORE”)
            
            
            23,012
            
            
            
            4,825Total
      nonperforming assets
            
            
            68,809
            
            
            
            57,641Nonperforming
      loans guaranteed by the SBA, Ex-Im Bank and OCCGF
            
            
            (2,803
            )
            
            
            (1,843
            )Total
      net nonperforming assets
            
            $
            66,006
            
            
            $
            55,798Total
      nonperforming assets to total assets
            
            
            4.22
            %
            
            
            3.65
            %Total
      nonperforming assets to total loans and ORE
            
            
            5.16
            %
            
            
            4.27
            %Net
      nonperforming assets to total assets (1)
            
            
            4.05
            %
            
            
            3.53
            %Net
      nonperforming assets to total loans and ORE (1)
            
            
            4.95
            %
            
            
            4.13
            %





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





Nonaccrual
loans decreased by $8.4 million to $39.8 million compared with $48.2 million at
December 31, 2008, mainly as a result of loans transferred to ORE and from loan
charge-offs. ORE increased by approximately $18.2 million compared with December
31, 2008, to $23.0 million at September 30, 2009. ORE decreased by approximately
$637,000 when compared with June 30, 2009, primarily due to $1.4 million of ORE
sales and write-downs on properties in Texas, partially offset by $1.1 million
of new foreclosed properties in Texas.





Net
nonperforming assets at September 30, 2009 were $66.0 million compared to
$55.8 million at December 31, 2008, an increase of $10.2 million or
18.3%. The ratios for net nonperforming assets to total loans and ORE at
September 30, 2009 and December 31, 2008 were 4.95% and 4.13%,
respectively. The ratios for net nonperforming assets to total assets were 4.05%
and 3.53% 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 totaled $2.8 million at September 30, 2009
compared to $1.8 million at December 31, 2008.





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





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





As
      of
              September
      30, 2009
            
            
            As
      of
              December
      31, 2008(In
      thousands)Impaired
      loans with no allocated allowance
            
            $
            31,210
            
            
            $
            35,640Impaired
      loans with an allocated allowance
            
            
            14,587
            
            
            
            17,073Total
      recorded investment in impaired loans
            
            $
            45,797
            
            
            $
            52,713Valuation
      allowance related to impaired loans
            
            $
            1,722
            
            
            $
            3,280





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.


34


The
average recorded investment in impaired loans during the nine months ended
September 30, 2009 and the year ended December 31, 2008 was
$45.5 million and $17.5 million, respectively.  Interest income
on impaired loans recognized for cash payments received during the three and
nine months ended September 30, 2009 and 2008 was immaterial.





Allowance for Loan Losses and
Reserve for Unfunded Lending Commitments. At September 30, 2009 and 2008,
the allowance for loan losses was $25.6 million and $15.7 million,
respectively, or 1.95% and 1.17% of total loans, respectively.  At
December 31, 2008, the allowance for loan losses was $24.2 million, or
1.80% of total loans. Net charge-offs for the three months ended September 30,
2009 and 2008 were $2.3 million and $1.6 million, respectively.  The
third quarter 2009 charge-offs consisted of $1.6 million in loans from Texas and
$794,000 in loans from California, partially offset by recoveries of $161,000
from both banks.  Net charge-offs for the nine months ended September
30, 2009 were $11.3 million compared with $2.2 million for the same period in
2008. The net charge-offs for the nine months ended September 30, 2009 consisted
of $8.7 million in loans from Texas and $2.6 million in loans from
California.





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.





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, (2) one or more components of collective loan
impairment, (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.





In addition to the analysis described
above, due to continued distressed economic conditions in the Texas and
California real estate markets, the Company incorporated additional qualitative
factor adjustments and increased its estimation of the allowance for loan
losses.  Such factors include, for each of the Company’s market areas,
general economic indicators such as the unemployment rate and leading economic
indexes of local regions, real estate concentrations and vacancies, collateral
types, rental rates, absorption rates, delinquencies and current year loss
trends.


35


The
following table presents 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 30,2009
            
            
            2008(Dollars
      in thousands)Average
      total loans outstanding for the period
            
            $
            1,320,601
            
            
            $
            1,325,350Total
      loans outstanding at end of period
            
            $
            1,311,538
            
            
            $
            1,341,647Allowance
      for loan losses at beginning of period
            
            $
            24,266
            
            
            $
            15,520Provision
      for loan losses
            
            
            3,596
            
            
            
            1,754Charge-offs:Commercial
      and industrial
            
            
            (657
            )
            
            
            (1,224
            )Real
      estate mortgage
            
            
            (1,408
            )
            
            
            (415
            )Real
      estate construction
            
            
            (335
            )
            
            
            (26
            )Consumer
      and other
            
            
            (21
            )
            
            
            (27
            )Total
      charge-offs
            
            
            (2,421
            )
            
            
            (1,692
            )Recoveries:Commercial
      and industrial
            
            
            159
            
            
            
            137Real
      estate mortgage
            
            
            2
            
            
            
            –Real
      estate construction
            
            
            –
            
            
            
            –Consumer
      and other
            
            
            1
            
            
            
            4Total
      recoveries
            
            
            162
            
            
            
            141Net
      (charge-offs) recoveries
            
            
            (2,259
            )
            
            
            (1,551
            )Allowance
      for loan losses at end of period
            
            
            25,603
            
            
            
            15,723Reserve
      for unfunded lending commitments at beginning of period
            
            
            1,478
            
            
            
            917Provision
      for unfunded lending commitments
            
            
            (290
            )
            
            
            (179
            )Reserve
      for unfunded lending commitments at end of period
            
            
            1,188
            
            
            
            738Allowance
      for credit losses at end of period
            
            $
            26,791
            
            
            $
            16,461Ratio
      of net (charge-offs) recoveries to end of period total
    loans
            
            
            (0.17
            )
      %
            
            
            (0.12
            )
      %


36




As
      of and for the
              Nine
      Months Ended September 30,2009
            
            
            2008(Dollars
      in thousands)Average
      total loans outstanding for the period
            
            $
            1,327,198
            
            
            $
            1,277,701Total
      loans outstanding at end of period
            
            $
            1,311,538
            
            
            $
            1,341,647Allowance
      for loan losses at beginning of period
            
            $
            24,235
            
            
            $
            13,125Provision
      for loan losses
            
            
            12,710
            
            
            
            4,803Charge-offs:Commercial
      and industrial
            
            
            (8,879
            )
            
            
            (1,641
            )Real
      estate mortgage
            
            
            (2,016
            )
            
            
            (505
            )Real
      estate construction
            
            
            (1,021
            )
            
            
            (236
            )Consumer
      and other
            
            
            (93
            )
            
            
            (69
            )Total
      charge-offs
            
            
            (12,009
            )
            
            
            (2,451
            )Recoveries:Commercial
      and industrial
            
            
            573
            
            
            
            238Real
      estate mortgage
            
            
            3
            
            
            
            –Real
      estate construction
            
            
            88
            
            
            
            –Consumer
      and other
            
            
            3
            
            
            
            8Total
      recoveries
            
            
            667
            
            
            
            246Net
      (charge-offs) recoveries
            
            
            (11,342
            )
            
            
            (2,205
            )Allowance
      for loan losses at end of period
            
            
            25,603
            
            
            
            15,723Reserve
      for unfunded lending commitments at beginning of period
            
            
            1,092
            
            
            
            816Provision
      for unfunded lending commitments
            
            
            96
            
            
            
            (78
            )Reserve
      for unfunded lending commitments at end of period
            
            
            1,188
            
            
            
            738Allowance
      for credit losses at end of period
            
            $
            26,791
            
            
            $
            16,461Ratio
      of allowance for loan losses to end of period total loans
            
            
            1.95
            %
            
            
            1.17
            %Ratio
      of net (charge-offs) recoveries to end of period total
    loans
            
            
            (0.86
            )
      %
            
            
            (0.16
            )
      %Ratio
      of allowance for loan losses to end of period total nonperforming loans
      (1)
            
            
            55.91
            %
            
            
            61.98
            %Ratio
      of allowance for loan losses to end of period net nonperforming loans
      (2)
            
            
            59.55
            %
            
            
            66.34
            %





(1)
            Total
      nonperforming loans are nonaccrual loans, loans 90 days or more past due
      and troubled debt restructurings.


(2)
            Net
      nonperforming loans are comprised of nonaccrual loans, loans 90 days or
      more past due and troubled debt restructurings, net of the loan portions
      guaranteed by the SBA, Ex-Im Bank and
OCCGF.





Securities. At September 30,
2009, the available-for-sale securities portfolio was $90.2 million, a decrease
of $11.9 million or 11.6% compared with $102.1 million at
December 31, 2008. The decrease was primarily due to principal payments on
and sales of mortgage-backed securities and collateralized mortgage obligations,
and maturities and calls of U.S. government agency and municipal obligations. At
September 30, 2009, the held-to-maturity portfolio was $4.0
million.  There were no held-to-maturity securities at December 31,
2008.  The securities portfolio is primarily comprised of
mortgage-backed securities, collateralized mortgage obligations, obligations of
U.S. Treasury and other U.S. government corporations and agencies and municipal
securities. The securities portfolio has been funded primarily by the liquidity
created from deposit growth and loan repayments in excess of loan funding
requirements. Other investments, which include CDARS One-Way Sell investments
(“CDARS”), Federal Reserve Bank (“FRB”) and FHLB stock, and the investment in
subsidiary trust, were $25.4 million at September 30, 2009, a decrease of $3.8
million or 13.2% compared with $29.2 million at December 31, 2008. The decrease
is primarily the result of maturities of CDARS, and FHLB’s repurchase of FHLB
stock.


37


Deposits. At September 30,
2009, total deposits were $1.39 billion, up $122.7 million or 9.7% compared
with $1.27 billion at December 31, 2008, primarily due to growth in
money market accounts from a deposit campaign which ended in the second quarter
of 2009. The Company’s ratio of noninterest-bearing demand deposits to total
deposits at September 30, 2009 and December 31, 2008 was 15.2% and 16.1%,
respectively. Interest-bearing deposits at September 30, 2009 were
$1.18 billion, an increase of $115.6 million or 10.9% compared with
$1.07 billion at December 31, 2008.




Junior Subordinated
Debentures.Junior subordinated debentures at September 30,
2009 and December 31, 2008 were $36.1 million. 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 debentures issued to the
Company’s unconsolidated subsidiary trust MCBI Statutory Trust I, were used to
fund the Company’s acquisition of Metro United.  Related to these
debentures, the Company entered into a forward-starting interest rate swap
contract. Under the swap, beginning December 2010, the Company will pay a fixed
interest rate of 5.38% and receive a variable interest rate of three-month LIBOR
plus a margin of 1.55% on a total notional amount of $17.5 million, with
quarterly settlements beginning March 2011.  See Note 9, “Derivative Financial
Instruments,”  to the Condensed Consolidated Financial
Statements for additional information related to this interest rate
swap.





Other Borrowings. Other
borrowings at September 30, 2009 were $25.1 million, a decrease of $113.9
million or 81.9% compared to other borrowings of $139.0 million at
December 31, 2008. Other borrowings decreased primarily due to liquidity
provided by deposit growth and funds from the CPP.  Other borrowings
at September 30, 2009 primarily include $25.0 million in security repurchase
agreements.  The security repurchase agreements bear an average rate
of 3.71% 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. In
the third quarter of 2009, all FHLB borrowings were repaid, and in January 2009,
the $4.0 million subordinated debentures, including accrued interest were
repaid.


38


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





As
      of and for the
                Nine Months
      Ended
              September 30,
      2009
            
            
            As
      of and for
                  theYear Ended
                  December 31,
      2008(Dollars
      in thousands)Federal
      Funds Purchased:at
      end of period
            
            $
            –
            
            
            $
            –average
      during the period
            
            
            30
            
            
            
            84maximum
      month-end balance during the period
            
            
            –
            
            
            
            4,500FHLB
      Notes and Advances:at
      end of period
            
            $
            –
            
            
            $
            109,000average
      during the period
            
            
            14,262
            
            
            
            112,118maximum
      month-end balance during the period
            
            
            55,000
            
            
            
            133,000Interest
      rate at end of period
            
            
            N/A
            
            
            
            0.48
            %Interest
      rate during the period
            
            
            0.5
            %
            
            
            2.21Security
      Repurchase Agreements:at
      end of period
            
            $
            25,000
            
            
            $
            25,000average
      during the period
            
            
            25,000
            
            
            
            25,000maximum
      month-end balance during the period
            
            
            25,000
            
            
            
            25,000Interest
      rate at end of period
            
            
            3.71
            %
            
            
            3.71
            %Interest
      rate during the period
            
            
            3.71
            
            
            
            2.91Subordinated
      debentures:at
      end of period
            
            $
            –
            
            
            $
            4,000average
      during the period
            
            
            205
            
            
            
            2,060maximum
      month-end balance during the period
            
            
            –
            
            
            
            4,000Interest
      rate at end of period
            
            
            N/A
            
            
            
            6.5
            %Interest
      rate during the period
            
            
            7.17
            %
            
            
            5.05Federal
      Reserve TT&L:at
      end of period
            
            $
            118
            
            
            $
            1,046average
      during the period
            
            
            699
            
            
            
            731maximum
      month-end balance during the period
            
            
            1,020
            
            
            
            1,283





Liquidity. The Company’s loan
to deposit ratio at September 30, 2009 and 2008 was 94.23% and 106.04%,
respectively. As of September 30, 2009, the Company had commitments to fund
loans in the amount of $140.4 million. At this same date, the Company had
stand-by letters of credit of $12.3 million.  Available sources to
fund these commitments and other cash demands of the Company come from cash and
cash equivalents, sales and maturities of securities available for sale, loan
and investment repayments, deposit inflows, and lines of credit from the FHLBs
of Dallas and San Francisco, other correspondent banks as well as the FRB
discount window. With its current level of collateral, the Company has the
ability to borrow an additional $357.5 million from the FHLBs, $27.2 million
from the FRB discount window and $10.0 million from other correspondent
banks.





Capital Resources.
Shareholders’ equity at September 30, 2009 was $163.8 million compared to
$119.2 million at December 31, 2008, an increase of $44.6 million. The
increase was primarily the result of the $45.0 million preferred stock
issuance in January 2009, partially offset by the payment of preferred stock and
common stock dividends.  In April 2009, the Company suspended regular
cash dividends on its common stock for an indefinite period of
time.


39


The
following table provides a comparison of the Company’s and each of the Banks’
leverage and risk-weighted capital ratios as of September 30, 2009 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, 2009The
      CompanyLeverage
      ratio
            
            
            4.00
            %(1)
            
            
            N/A
            %
            
            
            11.15
            %Tier
      1 risk-based capital ratio
            
            
            4.00
            
            
            
            N/A
            
            
            
            12.50Risk-based
      capital ratio
            
            
            8.00
            
            
            
            N/A
            
            
            
            13.77MetroBankLeverage
      ratio
            
            
            4.00
            %(2)
            
            
            5.00
            %
            
            
            10.96
            %Tier
      1 risk-based capital ratio
            
            
            4.00
            
            
            
            6.00
            
            
            
            12.49Risk-based
      capital ratio
            
            
            8.00
            
            
            
            10.00
            
            
            
            13.75Metro
      UnitedLeverage
      ratio
            
            
            4.00
            %(3)
            
            
            5.00
            %
            
            
            10.89
            %Tier
      1 risk-based capital ratio
            
            
            4.00
            
            
            
            6.00
            
            
            
            11.77Risk-based
      capital ratio
            
            
            8.00
            
            
            
            10.00
            
            
            
            13.02





(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.





Allowance for
loan losses.  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. 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”.




Goodwill.
The Company believes
goodwill is a critical accounting estimate that requires significant judgment
and estimates to be used in the preparation of its consolidated financial
statements. The Company reviews goodwill for impairment on an annual basis, or
more often, if events or circumstances indicate that it is more likely than not
that the fair value of Metro United, the Company's only reporting unit with
assigned goodwill, is below the carrying value of its equity. The Company's
annual evaluation is performed as of August 31 of each year.




Annual
Evaluation




In
determining the fair value of Metro United, the Company primarily uses a review
of the valuation of recent guideline bank acquisitions as well as discounted
cash flow analysis. The guideline bank transactions were selected from a similar
geographic footprint as Metro United or having a similar market focus, based on
publicly available information. Valuation multiples such as price-to-book,
price-to-tangible book, price-to-deposits, and price-to-earnings from the
guideline transactions are compared with Metro United’s operating results to
derive its implied goodwill as of the valuation date. The Company also uses the
discounted cash flow method to estimate the value of Metro United. The
discounted cash flow method estimates the value of interest rate sensitive
instruments by discounting the expected future cash flows using the current
interest rates at which similar instruments with similar terms would be made. In
addition, as a third method of determining fair value, quoted stock prices as of
the valuation date for the Company and its peer guideline banks were used as a
current comparative proxy. The values separately derived from each valuation
technique (i.e., guideline transactions, discounted cash flows, and quoted
market prices) are evaluated to assess whether goodwill was impaired. The
results of these valuation techniques are equally weighted to derive the fair
value of goodwill.


40


The
Company utilized a discounted cash flow analysis to determine the fair value of
Metro United.  Multi-year financial forecasts were developed by
projecting net income for the next five years and discounting the average
terminal values based on the valuation multiples listed in the previous
paragraph in a normalized market. The financial forecasts considered several key
business drivers such as anticipated loan and deposit growth, forward interest
rates, historical performance, and industry and economic trends, among other
considerations. For the test as of August 31, 2009, the Company used an average
growth rate of 6% for the 5-year period and discounted Metro United’s terminal
value using a 10% rate of return. The Company also performed a sensitivity
analysis utilizing additional discount rates ranging from 8% to
15%.




The
Company also considered the fair value of Metro United in relationship to the
Company’s stock price and performed a reconciliation to market price. This
reconciliation was performed by first using the Company’s market price on a
minority basis with an estimated control premium of 30%. The Company then
allocated the total fair value to both of its segments, Metro Bank and Metro
United. The allocation was based upon an average of the following internal
ratios:




•
            Metro
      United’s assets as a percentage of total
assets




•
            Metro
      United’s loans as a percentage of total
loans




•
            Metro
      United’s deposits as a percentage of total
  deposits




•
            Metro
      United’s stockholder's equity as a percentage of total stockholders'
      equity




The
derived fair value of Metro United was then compared to the carrying value of
its equity. As the carrying value of its equity exceeded the fair value, an
additional goodwill impairment evaluation was performed which involves
calculating the implied fair value of the Metro United’s goodwill.




The
implied fair value of goodwill is determined in the same manner as goodwill is
recognized in a business combination. The fair value of goodwill is determined
by applying a weight of 50% to the implied fair value of Metro United and the
remaining 50% is equally distributed among the valuation techniques mention
above.  The fair value of Metro United’s assets and liabilities,
including previously unrecognized intangible assets, is individually determined.
Significant judgment and estimates are involved in estimating the fair value of
the assets and liabilities of Metro United. The value of the implied goodwill is
highly sensitive to the estimated fair value of Metro United’s net assets. The
excess fair value of Metro United over the fair value of its net assets is the
implied goodwill. The fair value of Metro United’s net assets is estimated using
recent data observed in the market, including similar assets and
liabilities.




Observable
market information is utilized to the extent available and relevant. The
estimated fair values reflect management’s assumptions regarding how a market
participant would value the net assets and includes appropriate credit,
liquidity, and market risk adjustments that are indicative of the current
environment. The estimated liquidity and market risk adjustments on certain loan
categories ranged from 20% to 50% due to the distressed nature of the market in
California. The size of the implied goodwill was significantly affected by the
estimated fair value of the loans pertaining to Metro United. The significant
market risk adjustment that is a consequence of the current distressed market
conditions was a significant contributor to the valuation discounts associated
with these loans.




If the
implied fair value of the goodwill for Metro United exceeds its carrying value
of the goodwill, no goodwill impairment is recorded. Changes in the estimated
fair value of the individual assets and liabilities may result in a different
amount of implied goodwill, and ultimately the amount of goodwill impairment, if
any. Sensitivity analysis is performed to assess the potential ranges of implied
goodwill.





Based on
the fair value of Metro United’s assets and liabilities at August 31, 2009, the
implied fair value of goodwill exceeded its carrying value. However, it is
possible that future changes in the fair value of Metro United’s net assets
could result in future goodwill impairment. For example, to the extent that
market liquidity returns and the fair value of the individual assets of Metro
United increases at a faster rate than the fair value of Metro United as a
whole, that may cause the implied goodwill to be lower than the carrying value
of goodwill, resulting in goodwill impairment. Ultimately, future potential
changes in valuation assumptions may impact the estimated fair value of Metro
United and cause its fair value to be below its carrying value, therefore
resulting in an impairment of the goodwill.





Subsequent
to the annual test date on August 31, 2009, the Company’s stock continued to
trade below book value. The Company performed an analysis that considered the
Company’s stock price, loan values of Metro United, and other factors and
determined that as of September 30, 2009, goodwill was not
impaired.  The loan fair value of Metro United remained at the same
level as the annual test date.


41


Impairment of
investment securities.  Investments classified as
available-for-sale are carried at fair value and the impact of changes in fair
value are recorded on the consolidated balance sheet as an unrealized gain or
loss in accumulated other comprehensive income (loss), a separate component of
shareholders’ equity. Securities classified as available-for-sale or
held-to-maturity are subject to review to identify when a decline in value is
other-than-temporary. Factors considered in determining whether a decline
in value is other-than-temporary include: the extent and the duration of
the decline; the reasons for the decline in value (credit event, and
interest-rate related including general credit spread widening); the financial
condition of and near-term prospects of the issuer, and the Company’s intent not
to sell and that it is not more likely than not that the Company would be
required to sell the security before the anticipated recovery of its amortized
cost basis. When it is determined that a decline in value is
other-than-temporary, the carrying value of the security is reduced to its
estimated fair value, with a corresponding charge to
earnings.




For debt
securities, determining credit-related impairment is driven principally by
assumptions regarding the amount and timing of projected cash flows. For
mortgage-backed and asset-backed securities, cash flow estimates are determined
based on prepayment assumptions, default rates and loss severity rates derived
from widely accepted third-party data sources. The Company has developed these
estimates using information based on historical experience as well as using
market observable data, such as industry analyst reports and forecasts, sector
credit ratings and other data relevant to the collectability of a
security.  See Note 2 Securities for additional discussion on
other-than-temporary impairment.





Stock-based
compensation.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 FASB accounting
guidance. 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.





Fair
Value. The Company believes that the determination of fair value is a
critical accounting estimate that requires significant judgment 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. 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. Examples of these non-recurring uses of fair value include goodwill
and intangible assets. Depending on the nature of the asset various valuation
techniques and assumptions are used when estimating fair value. The Company
adopted ASC guidance which applies fair value disclosure for non-financial
assets and non-financial liabilities on  January 1, 2009.





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 ASC Topic 820-10 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 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.
The use of significant, unobservable inputs would be described in Note 11, “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.


42


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, 2008. 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 (the “Exchange Act”)) 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.


43


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
consultation with its legal counsel, such litigation is not expected to have a
material adverse effect on the Company’s consolidated financial position,
results of operations or cash flows.





Item 1A.
            Risk
      Factors.





There
have been no material changes in the Company’s risk factors previously described
under “Part I, Item 1A. Risk Factors” in the Company’s Annual Report on Form
10-K for the year ended December 31, 2008 and under “Part II, Item 1A. Risk
Factors” in the Company’s Quarterly Report on Form 10-Q for the quarter ended
June 30, 2009.





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





None





Item 3.
            Defaults Upon Senior
      Securities.





Not
applicable





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





None





Item 5.
            Other
      Information.





Not
applicable





44




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 of the
      Company (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
              
              Statement
      of Designations establishing the terms of the Series A Preferred Stock of
      the Company (incorporated herein by reference to Exhibit 3.1 to the
      Company's Current Report on Form 8-K filed on January 21,
      2009).3.4
              
              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).4.1
              
              Specimen
      form of certificate evidencing the Common Stock (incorporated herein by
      reference to Exhibit 4 to the Registration Statement).4.2
              
              Warrant,
      dated January 16, 2009, to purchase 771,429 shares of the Company's Common
      Stock (incorporated herein by reference to Exhibit 4.1 to the Company's
      Current Report on Form 8-K filed on January 21,
  2009).
  4.3
              
              Form
      of Certificate for the Company's Fixed Rate Cumulative Perpetual Preferred
      Stock, Series A, par value $1.00 per share (incorporated herein by
      reference to Exhibit 4.2 to the Company's Current Report on Form 8-K filed
      on January 21, 2009).11
              
              Computation
      of Earnings Per Common Share, included as Note (6) 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.


45


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 6, 2009
            
            George
      M. Lee
              Executive
      Vice Chairman, President andChief
      Executive Officer (principal executive officer)Date:
      November 6, 2009
            By:
            /s/
      David C. ChoiDavid
      C. ChoiChief
      Financial Officer (principal financial officer/ principal accounting
      officer)


46


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 of the
      Company (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
            
            Statement
      of Designations establishing the terms of the Series A Preferred Stock of
      the Company (incorporated herein by reference to Exhibit 3.1 to the
      Company's Current Report on Form 8-K filed on January 21,
      2009).3.4
            
            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).4.1
            
            Specimen
      form of certificate evidencing the Common Stock (incorporated herein by
      reference to Exhibit 4 to the Registration Statement).4.2
            
            Warrant,
      dated January 16, 2009, to purchase 771,429 shares of the Company's Common
      Stock (incorporated herein by reference to Exhibit 4.1 to the Company's
      Current Report on Form 8-K filed on January 21, 2009).4.3
            
            Form
      of Certificate for the Company's Fixed Rate Cumulative Perpetual Preferred
      Stock, Series A, par value $1.00 per share (incorporated herein by
      reference to Exhibit 4.2 to the Company's Current Report on Form 8-K filed
      on January 21, 2009).11
            
            Computation
      of Earnings Per Common Share, included as Note (6) 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.







47