**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-K**

 

**(Mark One)**
| **x** | ** ** | **ANNUAL REPORT UNDER SECTION 13 OR  15(D) OF THE SECURITIES EXCHANGE ACT OF 1934.** |
|-------|------------|------------------------------------------------------------------------------------------------|

 

**For The Fiscal Year Ended: December 31,2008.**

** **

**Commission file number ****333-127242**

 

**Atlantic Bancshares, Inc.**

(Exact name of registrant as specified in its charter)

 

| **South Carolina**                         | ** ** | **20-3047433**                       |
|--------------------------------------------|------------|--------------------------------------|
| (State or other jurisdiction of            |       | (I.R.S. Employer Identification No.) |
| incorporation or organization)             |       |                                 |
|                                       |       |                                 |
| **One Sheridan Park Circle, PO Box  3077** | ** ** | ** **                           |
| **Bluffton, South Carolina**               | ** ** | **29910**                            |
| (Address of principal executive offices)   |       | (Zip Code)                           |

 

Issuer’stelephone number: **(843) 815-7111**

 

Securities registered under Section 12(b) ofthe Exchange Act:  **None**

Securities registered under Section 12(g) ofthe Exchange Act:  **None**

 

Indicateby check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405of the Securities Act.
|   |   | Yes  o |   | No  x |
|--------|--------|--------|--------|-------|

 

Indicateby check mark if the registrant is not required to file reports pursuant to Section 13or Section 15(d) of the Act.
|   |   | Yes  o |   | No  x |
|--------|--------|--------|--------|-------|

 

**Note** – Checking the box above will not relieve anyregistrant required to file reports pursuant to Section 13 or 15(d) ofthe Exchange Act from their obligations under those Sections.

 

Indicate by check mark whether the registrant (1) has filed allreports required to be filed by Section 13 or 15(d) of the ExchangeAct of 1934 during the past 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject tosuch filing requirements for the past 90 days.            Yes  x            No   ̈

 

Indicate by check mark if disclosure of delinquent filers pursuant toItem 405 of Regulation S-K (§229.405 of this chapter) is not contained herein,and will not be contained, to the best of registrant’s knowledge, in definitiveproxy or information statement incorporated by reference in Part III ofthis Form 10-K or any amendment to this Form 10-K.  x

 

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

 
| Large  accelerated filer o                                              |   | Accelerated  filer o         |
|-------------------------------------------------------------------------|--------|------------------------------|
| Non-accelerated  filer o (Do not check if a smaller reporting  company) |   | Smaller  reporting company x |

 

Indicateby check mark whether the registrant is a shell company (as defined in Rule 12b-2of the Act). Yes  o    No  x

 

The estimated aggregate market value of the common stock held bynon-affiliates (shareholders holding less than 5% of an outstanding class ofstock, excluding directors and executive officers) of the company on June 30,2008 was $8,004,426. ** **There is not an active trading market for the common stock.  We have used the last trade for the yearended December 31, 2008 of $7.10 as an estimate of the market value of ashare of our common stock for purposes of calculating our public float.

 

As of March 1, 2009, the company had 1,251,577 shares of commonstock outstanding.

 

**DOCUMENTS INCORPORATED BY REFERENCE    **None.

 

 

 

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**Part I**

** **

**Item 1.  Description of Business**

** **

This Report, including information included or incorporated byreference in this document, contains statements which constituteforward-looking statements within the meaning of Section 27A of theSecurities Act of 1933 and Section 21E of the Securities Exchange Act of1934. These statements are based on many assumptions and estimates and are notguarantees of future performance.  Ouractual results may differ materially from those anticipated in anyforward-looking statements, as they will depend on many factors about which weare unsure, including many factors which are beyond our control.  The words “may,”  “would,” “could,” “will,” “expect,”“anticipate,” “believe,” “intend,” “plan,” and “estimate,” as well as similarexpressions, are meant to identify such forward-looking statements.  Potential risks and uncertainties that couldcause our actual results to differ from those anticipated in anyforward-looking statements include, but are not limited to, those describedbelow under Item 1A- Risk Factors and the following:

 

·                  significantincreases in competitive pressure in the banking and financial servicesindustries;

·                  changesin the interest rate environment which could reduce anticipated or actualmargins;

·                  changesin political conditions or the legislative or regulatory environment;

·                  generaleconomic conditions, either nationally or regionally and especially in ourprimary service area, becoming less favorable than expected resulting in, amongother things, a deterioration in credit quality;

·                  changesoccurring in business conditions and inflation;

·                  changesin technology;

·                  changesin monetary and tax policies;

·                  adequacyof the level of our allowance for loan losses;

·                  therate of delinquencies and amounts of charge-offs;

·                  therates of loan growth and the lack of seasoning of our loan portfolio;

·                  adversechanges in asset quality and resulting credit risk-related losses and expenses;

·                  lossof consumer confidence and economic disruptions resulting from terroristactivities;

·                  changes in the securities markets; and

·                  other risks and uncertainties detailed fromtime to time in our filings with the Securities and Exchange Commission.

 

We undertake no obligation to publicly update or otherwise revise anyforward-looking statements, whether as a result of new information, futureevents, or otherwise.

 

**General**

** **

AtlanticBancshares, Inc. was incorporated in South Carolina in June 2005 forpurposes of operating as a bank holding company.  Our wholly-owned subsidiary, AtlanticCommunity Bank, commenced business on January 26, 2006, and is primarilyengaged in the business of accepting savings, demand, and time deposits andproviding mortgage, consumer and commercial loans to the general public.

 

**Marketing Focus**

** **

Historically,the banks in Beaufort County were local branches of large regional banks.  Recently there has been, and there maycontinue to be, an influx of community banks within our primary service area.  The mix of incoming banks includes de novobanks and established operations, both headquartered in-market as well asout-of-market.  Size continues to providethe larger banks certain advantages in competing for business from largecorporations, including higher lending limits and the ability to offer servicesin Beaufort County and in other areas of South Carolina.

 

Wehave created a niche in the community banking market in our primary servicearea via our staffing, advertising and approach to service. Generally, we donot attempt to compete for the banking relationships of large corporations butinstead concentrate our efforts on small to medium-sized businesses,entrepreneurs and professional concerns. The bank advertises to emphasize the company’s brand image, local ownership,community bank nature, and ability to provide more personalized services thanits competition.

 

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**Locationand Service Area**

** **

Weconsolidated and relocated our original main branch, located at 1Sherington Drive, Suite J (Sheridan Park), Bluffton, South Carolina 29910,and our original operations department, located at 70 Pennington Drive, Suite 21(Sheridan Park), Bluffton, South Carolina 29910, to a renovated new main branchfacility in the same commercial subdivision in July 2008.  The new main branch is located at OneSheridan Park Circle, Bluffton, South Carolina 29910 and is 5,905 squarefeet.  The main branch facility is leasedfrom Paradigm Holdings, LLC.  The leaseterm is through December 2023 and provides two five-year renewal terms.

 

Thelease for the original operations department expired on July 31, 2008.

 

Theoriginal main branch location was formerly subleased through RegionalBankshares, Inc. until January 24, 2006 when we entered into a newlease with Carolina Partners, LLC.  Thefacility is 2,190 square feet and is leased until 2010 with a three-year optionto renew.  We plan to sublease theexisting main office for the remainder of the current lease, but we have beenunable to secure an interested tenant to date.

 

Ourloan production office located at 1 Corpus Christi Place, Suite 108,Hilton Head Island, South Carolina 29928 was converted into a full servicebranch in October 2007.  The 1,837square feet facility housing this branch is leased from MB Partners, LLC, a separatecompany whose ownership, in part, includes the eight directors of AtlanticBancshares, Inc.

 

Wehad originally planned to open an additional branch office within our firstfive years of operation.  As a result ofthe general economic climate and the current banking environment, we havedelayed our plans at this time.

 

Ourprimary service area consists of southern Beaufort County and a portion ofJasper County.  Our office is located inBluffton.** **Ourgeographical market area includes southern Beaufort County and a portion ofJasper County.  The area is generallydefined by the Broad River and Interstate 95 to the North, the State of Georgiato the South, the Atlantic Ocean and Broad River to the East, and Interstate 95to the West.  Additional communitiesfalling within our market area include Hilton Head Island, Palmetto Bluff,Pritchardville, Sun City, Okatie, Hardeeville and Ridgeland.  Our primary service area’s economic strengthcomes from the industries of tourism, real estate development, education,government and services.  The commercialsector of the economy is oriented towards real estate development.

 

**Lending Activities**

** **

*General*.  Weoffer a range of lending services, including real estate, commercial, andequity-line and consumer loans to individuals, small- to medium-sizedbusinesses, and professional concerns that are located in or conduct asubstantial portion of their business in the bank’s market area.  We compete for these loans with competitorswho are well established in our service area and have greater resources andlending limits and also de novo banking organizations new to our market.  As a result, we have charged, from time totime, lower interest rates to attract borrowers and may continue to do so.

 

Thewell established banks in our service area will make proportionately more loansto medium-to-large-sized businesses than we do. Many of the bank’s commercial loans are made to small-to-medium-sizedbusinesses which are less able to withstand competitive, economic, andfinancial conditions than larger borrowers.

 

*Loan Approval and Review.*  The bank’s loan approvalpolicies provide for various levels of officer lending authority.  When the amount of aggregate loans to asingle borrower exceeds that individual officer’s lending authority, the loanrequest is considered and approved by an officer with a higher lending limit orthe board of directors’ loan committee. The bank does not make any loans to any director of the bank unless theloan is approved by the board of directors of the bank and is made on terms notmore favorable to the person than would be available to a person not affiliatedwith the bank.  The bank currentlyintends to adhere to Federal National Mortgage Association and Federal HomeLoan Mortgage Corporation guidelines in its mortgage loan review process, butmay choose to alter this policy in the future. The bank sells residential mortgage loans that it originates on thesecondary market.

 

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*Loan Distribution.*  Thedistribution of our loans as of December 31, 2008 is as follows:

 
| Real Estate-Mortgage                                             |   | 67     | %      |
|------------------------------------------------------------------|--------|--------|--------|
| Real Estate-Construction, land development  and other land loans |   | 24     | %      |
| Commercial and industrial                                        |   | 6      | %      |
| Agriculture loans                                                |   | 1      | %      |
| Consumer loans                                                   |   | 2      | %      |
|                                                             |   |   |   |
| Total                                                            |   | 100    | %      |

 

Our deposit and loandistribution going forward depend on our customers’ requirements and otherfactors and will likely vary over time. Please see our “Management’s Discussion and Analysis – Earning Assets”for further information on our loan portfolio.

 

*Allowance for Loan Losses.*  We maintain an allowance forloan losses, which we establish through a provision for loan losses chargedagainst income.  We charge loans againstthis allowance when we believe that the collectability of the principal is unlikely.  The allowance is an estimated amount that webelieve will be adequate to absorb losses inherent in the loan portfolio basedon evaluations of its collectability.  AtDecember 31, 2008, our allowance for loan losses equals approximately1.43% of the outstanding balance of our loans. Over time, we periodically determine the amount of the allowance basedon our consideration of several factors, including:

 

·                  an ongoing review of the quality, mix, andsize of our overall loan portfolio;

·                  our historical loan loss experience;

·                  evaluation of economic conditions;

·                  specific problem loans and commitments thatmay affect the borrower’s ability to pay;

·                  regular reviews of loan delinquencies andloan portfolio quality by our internal auditors and our bank regulators; and

·                  the amount and quality of collateral,including guarantees, securing the loans.

* *

*Lending Limits.*  The bank’s lending activities are subject toa variety of lending limits imposed by federal law.  In general, the bank is subject to a legal limiton loans to a single borrower equal to 15% of the bank’s capital and unimpairedsurplus.  Different limits may applybased on the type of loan or the nature of the borrower, including theborrower’s relationship to the bank. These limits will increase or decrease as the bank’s capital increasesor decreases.  Unless the bank is able tosell participations in its loans to other financial institutions, the bank isnot able to meet all of the lending needs of loan customers requiring aggregateextensions of credit above these limits.

 

*Credit Risk*.  The principal credit risk associated witheach category of loans is the creditworthiness of the borrower.  Borrower creditworthiness is affected bygeneral economic conditions and the strength of the manufacturing, services,and retail market segments.  Generaleconomic factors affecting a borrower’s ability to repay include interest,inflation, employment rates, and the strength of local and national economy, aswell as other factors affecting a borrower’s customers, suppliers, andemployees.

 

*Real Estate Loans*.  Loans secured by first orsecond mortgages on real estate make up the most significant portion of thebank’s loan portfolio — approximately 91% as of December 31, 2008.  These loans generally fall into one of twocategories: commercial real estate loans or construction and developmentloans.  We also make residential realestate loans secured by first or second mortgages on real estate.  Each of these categories is discussed in moredetail below, including their specific risks. Interest rates for all categories may be fixed or adjustable, typicallyfixed for shorter-term loans.  The bankgenerally charges an origination fee for each loan.

 

Real estateloans are subject to the same general risks as other loans.  Real estate loans are also sensitive tofluctuations in the value of the real estate securing the loan.  On first and second mortgage loans wetypically do not advance more than regulatory limits.  We require a valid mortgage lien on all realproperty loans along with a title lien policy which insures the validity andpriority of the lien.  We also requireborrowers to obtain hazard insurance policies and flood insurance, ifapplicable.  Additionally, certain typesof real estate loans have specific risk characteristics that vary according tothe collateral type securing the loan and the terms and repayment sources forthe loan.

 

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Wehave the ability to originate some real estate loans for sale into thesecondary market.  We can limit ourinterest rate and credit risk on these loans by locking the interest rate foreach loan with the secondary investor and receiving the investor’s underwritingapproval prior to originating the loan.

 

·                  *Commercial Real Estate Loans*. Commercial real estate loans generally have terms of five years or less,although payments may be structured on a longer amortization basis.  Inherent in commercial real estate loans’credit risk is the risk that the primary source of repayment, the operatingcommercial real estate company, will be insufficient to service the debt.  If a real estate loan is in default, we alsorun the risk that the value of a commercial real estate loan’s secured real estatewill decrease, and thereby be insufficient to satisfy the loan.  To mitigate these risks, we evaluate eachborrower on an individual basis and attempt to determine its business risks andcredit profile.  We attempt to reducecredit risk in the commercial real estate portfolio by emphasizing loans onowner-occupied office and retail buildings where the loan-to-value ratio isestablished by independent appraisals. We typically review the personal financial statements of the principalowners and require their personal guarantees. These reviews often reveal secondary sources of payment and liquidity tosupport a loan request.

 

·                  *Construction and Development RealEstate Loans. *We offer adjustable and fixed rateresidential and commercial construction loans to builders and developers and toconsumers who wish to build their own home. The term of construction and development loans generally is limited to18 months, although payments may be structured on a longer amortization basis.  Most loans will mature and require payment infull upon the sale of the property. Construction and development loans generally carry a higher degree ofrisk than long term financing of existing properties.  Repayment usually depends on the ultimatecompletion of the project within cost estimates and on the sale of theproperty.  Specific risks include:

 

·                  cost overruns;

·                  mismanaged construction;

·                  inferior or improper construction techniques;

·                  economic changes or downturns duringconstruction;

·                  a downturn in the real estate market;

·                  rising interest rates which may prevent saleof the property; and

·                  failure to sell completed projects in atimely manner.

 

Weattempt to reduce risk by obtaining personal guarantees where possible, and bykeeping the loan-to-value ratio of the completed project below specifiedpercentages.  We also reduce risk byselling participations in larger loans to other institutions when possible.

 

·                  *Residential Real Estate Loans*. These loans generally have longer terms, up to 30 years.  We offer fixed and adjustable rate mortgages,and we sell most or all of the residential real estate loans that we generatein the secondary market soon after we originate them.  At this time, we do not intend to retainservicing rights for these loans. Inherent in residential real estate loans’ credit risk is the risk thatthe primary source of repayment, the residential borrower, will be insufficientto service the debt.  If a real estateloan is in default, we also run the risk that the value of a residential realestate loan’s secured real estate will decrease, and thereby be insufficient tosatisfy the loan.  To mitigate theserisks, we evaluate each borrower on an individual basis and attempt todetermine its credit profile.  By sellingthese loans in the secondary market, we believe we significantly reduce ourexposure to credit risk because the loans will be underwritten through a thirdparty agent without any recourse against the bank.

 

·                  *Commercial Loans*.  Thebank makes loans for commercial purposes in various lines of businesses.  We focus our efforts on commercial loans of$1,000,000 or less.  Equipment loans aretypically made for a term of five years or less at fixed or variable rates,with the loan fully amortized over the term and secured by the financedequipment.  Working capital loanstypically have terms not exceeding one year and are usually secured by accountsreceivable, inventory, or personal guarantees of the principals of thebusiness.  For loans secured by accountsreceivable or inventory, principal will typically be repaid as the assetssecuring the loan are converted into cash, and in other cases principal willtypically be due at maturity.  We issuetrade letters of credit, standby letters of credit, and foreign exchangedirectly and, in some cases, through a correspondent bank as agent for thebank.  Commercial loans primarily haverisk 

 

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that the primary source ofrepayment, the borrowing business, will be insufficient to service thedebt.  Often this occurs as the result ofchanges in local economic conditions or in the industry in which the borroweroperates which impact cash flow or collateral value.

 

Wehave access to small business loans utilizing government enhancements such asthe Small Business Administration’s 7(a) program and SBA’s 504 and“LowDoc” programs.  Typically, theseloans are partially guaranteed by the government which may help to reduce thebank’s risk.  Government guarantees ofSBA loans will not exceed 80% of the loan value, and will generally be less.

 

**Banking Services**

 

We offer a full range ofdeposit services that are typically available in most banks and savings andloan associations including: checking accounts, NOW accounts, commercialaccounts, savings accounts, and other time deposits of various types, rangingfrom daily money market accounts to longer-term certificates of deposit.  The transaction accounts and timecertificates are tailored to our principal market area at rates competitive tothose offered in the Beaufort and Jasper County area.  In addition, we offer certain retirementaccount services, including IRAs.  Wesolicit these accounts from individuals, businesses, and other organizations.

 

**Other Banking Services**

** **

Weoffer cashier’s checks, banking by mail, direct deposit of payroll and socialsecurity checks, United States Savings Bonds, and travelers checks.  We are associated with the Honor, Star,Presto, and Cirrus ATM networks that may be used by the bank’s customersthroughout the country.  We believe thatby being associated with a shared network of ATMs, we are better able to serveour customers and will be able to attract customers who are accustomed to theconvenience of using ATMs. ****We also offera debit card and credit card services through a correspondent bank as an agentfor the bank.    We offer on-linebanking, lines of credit, and telephone banking.  And, we provide deposit courier service forcustomers who fall within our primary service area. We do not expect the bankto exercise trust powers during its initial years of operation.

 

Weoffer products and services via the traditional means of brick and mortar,phone banking, ATM network and Internet banking.

 

**Competition**

** **

The banking business ishighly competitive.  We compete as afinancial intermediary with other commercial banks, community banks, savingsbanks, credit unions, finance companies, and money market mutual funds operatingin the Bluffton area and surrounding communities.  Some of these competitors have been inbusiness for a long time and have already established their customer base andname recognition.  Many competitors are largerthan we are and have greater financial and personnel resources than we currentlyhave.  Some competitors are largesuper-regional and regional banks, like Wachovia Bank, Bank of America, andSunTrust Bank, and others are more established community banks, likeCoastalStates Bank, Liberty Savings Bank FSB, First Federal S&L of Charleston,Beach First National Bank, Tidelands Bank, Bank Meridian, Ameris Bank,Woodlands Bank, First South Bank, and Lowcountry National Bank.  Many of these institutions offer services,including extensive and established branch networks and trust services that weeither do not expect to provide or will not provide for some time.  Due to this competition, we may pay higherrates of interest to attract deposits from time to time.  In addition, competitors that are notdepository institutions are generally not subject to the extensive regulationsthat apply to our bank.  Most of theseinstitutions have substantially greater resources and lending limits than wehave.  Nevertheless, we believe that ourmanagement team, our focus on relationship banking, our successful brandadvertising campaign and the economic and demographic dynamics of our servicearea have allowed us to gain a meaningful share of the area’s deposits in arelatively short period of time.

 

**Employees**

 

Asof March 1, 2009, we had 19 full-time employees and three part-timeemployees.

 

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**SUPERVISION AND REGULATION**

** **

Both Atlantic Bancshares, Inc., and AtlanticCommunity Bank are subject to extensive state and federal banking regulationsthat impose restrictions on and provide for general regulatory oversight oftheir operations.  These laws generallyare intended to protect depositors and not shareholders.  The following summary is qualified by reference to thestatutory and regulatory provisions discussed. Changes in applicable laws or regulations may have a material effect onour business and prospects.  Ouroperations may be affected by legislative changes and the policies of variousregulatory authorities.  We cannotpredict the effect that fiscal or monetary policies, economic control, or newfederal or state legislation may have on our business and earnings in thefuture.

 

Thefollowing discussion is not intended to be a complete list of all theactivities regulated by the banking laws or of the impact of such laws andregulations on our operations.  It isintended only to briefly summarize some material provisions.

 

**Atlantic Bancshares, Inc.**

** **

Weown 100% of the outstanding capital stock of the bank, and therefore we areconsidered to be a bank holding company under the federal Bank Holding CompanyAct of 1956 (the “Bank Holding Company Act”). As a result, we are primarily subject to the supervision, examinationand reporting requirements of the Board of Governors of the Federal Reserve(the “Federal Reserve”) under the Bank Holding Company Act and its regulationspromulgated thereunder.  As a bank holdingcompany located in South Carolina, the South Carolina Board of FinancialInstitutions also regulates and monitors all significant aspects of ouroperations.

 

***PermittedActivities.***Under the Bank Holding Company Act, a bank holdingcompany is generally permitted to engage in, or acquire direct or indirectcontrol of more than 5% of the voting shares of any company engaged in, thefollowing activities:

 

·      bankingor managing or controlling banks;

 

·      furnishingservices to or performing services for our subsidiaries; and

 

·                  anyactivity that the Federal Reserve determines to be so closely related tobanking as to be a proper incident to the business of banking.

 

Activities that the Federal Reserve has found to be soclosely related to banking as to be a proper incident to the business ofbanking include:

 

·                  factoring accounts receivable;

 

·                  making, acquiring, brokering or servicingloans and usual related activities;

 

·                  leasing personal or real property;

 

·                  operating a non-bank depository institution,such as a savings association;

 

·                  trust company functions;

 

·                  financial and investment advisory activities;

 

·                  conducting discount securities brokerageactivities;

 

·                  underwriting and dealing in governmentobligations and money market instruments;

 

·                  providing specified management consulting andcounseling activities;

 

·                  performing selected data processing servicesand support services;

 

·                  acting as agent or broker in selling creditlife insurance and other types of insurance in connection with 

 

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credit transactions; and

 

·                  performing selected insuranceunderwriting activities.

 

As a bank holding company we also can elect to be treated as a“financial holding company,” which would allow us engage in a broader array ofactivities.  In sum, a financial holdingcompany can engage in activities that are financial in nature or incidental orcomplementary to financial activities, including insurance underwriting, salesand brokerage activities, providing financial and investment advisory services,underwriting services and limited merchant banking activities.  We have not sought financial holding companystatus, but may elect such status in the future as our business matures.  If we were to elect in writing for financialholding company status, each insured depository institution we control wouldhave to be well capitalized, well managed and have at least a satisfactoryrating under the CRA (discussed below).

 

The FederalReserve has the authority to order a bank holding company or its subsidiariesto terminate any of these activities or to terminate its ownership or controlof any subsidiary when it has reasonable cause to believe that the bank holdingcompany’s continued ownership, activity or control constitutes a serious riskto the financial safety, soundness or stability of it or any of its banksubsidiaries.

 

***Change in Control.***  Inaddition, and subject to certain exceptions, the Bank Holding Company Act andthe Change in Bank Control Act, together with regulations promulgated thereunder, require Federal Reserve approval prior to any person or companyacquiring “control” of a bank holding company. Control is conclusively presumed to exist if an individual or companyacquires 25% or more of any class of voting securities of a bank holdingcompany.  Following the relaxing of theserestrictions by the Federal Reserve in September 2008, control will berebuttably presumed to exist if a person acquires more than 33% of the totalequity of a bank or bank holding company, of which it may own, control or havethe power to vote not more than 15% of any class of voting securities.

 

Ourcommon stock is not registered under Section 12 of the Securities ExchangeAct of 1934.  If we have more than 500shareholders of record on December 31 of any year, we will be required toregister our common stock under Section 12 of the Securities Exchange Actduring the first 120 days of the following year.  Any shareholder of 10% or more, but less than25% of any class of our voting securities would be required to either file as acontrolling shareholder of the company or rebut the presumption of control inaccordance with Federal Reserve regulations**.**  The regulations provide a procedure forrebutting control when ownership of any class of voting securities is below25%.

 

***Source of Strength****.*  Inaccordance with Federal Reserve Board policy, we are expected to act as asource of financial strength to the bank and to commit resources to support thebank in circumstances in which we might not otherwise do so.  If the bank were to become “undercapitalized”(see below “Atlantic Community Bank – Prompt Corrective Action”), we would berequired to provide a guarantee of the bank’s plan to return to capitaladequacy.  Additionally, under the BankHolding Company Act, the Federal Reserve Board may require a bank holdingcompany to terminate any activity or relinquish control of a nonbanksubsidiary, other than a nonbank subsidiary of a bank, upon the Federal ReserveBoard’s determination that such activity or control constitutes a serious riskto the financial soundness or stability of any depository institutionsubsidiary of the bank holding company. Further, federal bank regulatory authorities have additional discretionto require a bank holding company to divest itself of any bank or nonbanksubsidiaries if the agency determines that divestiture may aid the depositoryinstitution’s financial condition. Further, any loans by a bank holding company to a subsidiary bank aresubordinate in right of payment to deposits and certain other indebtedness ofthe subsidiary bank.  In the event of abank holding company’s bankruptcy, any commitment by the bank holding companyto a federal bank regulatory agency to maintain the capital of a subsidiarybank at a certain level would be assumed by the bankruptcy trustee and entitledto priority payment.

 

***Capital Requirements.***  TheFederal Reserve Board imposes certain capital requirements on the bank holdingcompany under the Bank Holding Company Act, including a minimum leverage ratioand a minimum ratio of “qualifying” capital to risk-weighted assets.  These requirements are essentially the sameas those that apply to the bank and are described below under “AtlanticCommunity Bank - Capital Regulations.” Subject to our capital requirements and certain other restrictions, weare able to borrow money to make a capital contribution to the bank, and theseloans may be repaid from dividends paid from the bank to the company.  Our ability to pay dividends depends on thebank’s ability to pay dividends to us, which is subject to regulatoryrestrictions as described below in “Atlantic Community Bank– Dividends.”  We are also able to raise capital forcontribution to the bank by issuing securities without having to receiveregulatory approval, subject to compliance with federal and state securitieslaws.

 

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***South Carolina State Regulation.***  As aSouth Carolina bank holding company under the South Carolina Banking andBranching Efficiency Act, we are subject to limitations on sale or merger andto regulation by the South Carolina Board of Financial Institutions.  We are not required to obtain the approval ofthe South Carolina Board prior to acquiring the capital stock of a nationalbank, but we must notify them at least 15 days prior to doing so.  We must receive the Board’s approval prior toengaging in the acquisition of a South Carolina state chartered bank or anotherSouth Carolina bank holding company.

 

**AtlanticCommunity Bank**

 

Thebank operates as a state bank incorporated under the laws of the State of SouthCarolina and is subject to examination by the South Carolina Board of FinancialInstitutions.  Deposits in the bank areinsured by the Federal Deposit Insurance Corporation (“FDIC”) up to a maximumamount, which is currently $100,000 for each non-retirement depositor and$250,000 for certain retirement-account depositors.  However, the FDIC has increased the coverageup to $250,000 for each non-retirement depositor through December 31,2009, and the bank is participating in the FDIC’s Temporary Liquidity GuaranteeProgram (discussed below in greater detail) which, in part, fully insuresnon-interest bearing transaction accounts.

 

TheSouth Carolina Board of Financial Institutions and the FDIC regulate or monitorvirtually all areas of the bank’s operations, including:

 

·                  security devices and procedures;

 

·                  adequacy of capitalization and loss reserves;

 

·                  loans;

 

·                  investments;

 

·                  borrowings;

 

·                  deposits;

 

·                  mergers;

 

·                  issuances of securities;

 

·                  payment of dividends;

 

·                  interest rates payable on deposits;

 

·                  interest rates or fees chargeable on loans;

 

·                  establishment of branches;

 

·                  corporate reorganizations;

 

·                  maintenance of books and records; and

 

·                  adequacy of staff training to carry on safelending and deposit gathering practices.

 

The South Carolina Board of Financial Institutionsrequires the bank to maintain specified capital ratios and imposes limitationson the bank’s aggregate investment in real estate, bank premises, and furnitureand fixtures.  The South Carolina Boardof Financial Institutions also requires the bank to prepare quarterly reportson the bank’s financial condition in compliance with its minimum standards andprocedures.

 

All insured institutions must undergo regular onsite examinations by their appropriate banking agency.  The cost of examinations of insureddepository institutions and any affiliates may be assessed by the appropriateagency against each institution or affiliate as it deems necessary orappropriate.  Insured institutions arerequired to submit 

 

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annualreports to the FDIC, their federal regulatory agency, and their statesupervisor when applicable.  The FDIC hasdeveloped a method for insured depository institutions to provide supplementaldisclosure of the estimated fair market value of assets and liabilities, to theextent feasible and practicable, in any balance sheet, financial statement,report of condition or any other report of any insured depositoryinstitution.  The FDIC Improvement Actalso requires the federal banking regulatory agencies to prescribe, byregulation, standards for all insured depository institutions and depositoryinstitution holding companies relating, among other things, to the following:

 

·                  internal controls;

 

·                  information systems and audit systems;

 

·                  loan documentation;

 

·                  credit underwriting;

 

·                  interest rate risk exposure; and

 

·                  asset quality.

 

***Recent Legislative and Regulatory Initiatives toAddress Financial and Economic Crises. ***The Congress, Treasury Department and thefederal banking regulators, including the FDIC, have taken broad action sinceearly September 2008 to address volatility in the U.S. banking system.

 

InOctober 2008, the Emergency Economic Stabilization Act of 2008 (“EESA”) wasenacted. The EESA authorizes the Treasury Department to purchase fromfinancial institutions and their holding companies up to $700 billion inmortgage loans, mortgage-related securities and certain other financialinstruments, including debt and equity securities issued by financialinstitutions and their holding companies in a troubled asset relief program(“TARP”).  The purpose of TARP is to restore confidence and stabilityto the U.S. banking system and to encourage financial institutions to increasetheir lending to customers and to each other.  The TreasuryDepartment has allocated $250 billion towards the TARP Capital Purchase Program(“CPP”).  Under the CPP, the Treasury Department will purchase debtor equity securities from participating institutions.  The TARP alsowill include direct purchases or guarantees of troubled assets of financialinstitutions. Participants in the CPP are subject to executivecompensation limits and are encouraged to expand their lending and mortgageloan modifications.

 

EESAalso increased FDIC deposit insurance on most accounts from $100,000 to$250,000.  This increase is in place until the end of 2009 and is notcovered by deposit insurance premiums paid by the banking industry.

 

Followinga systemic risk determination, the FDIC established the Temporary LiquidityGuarantee Program (“TLGP”) on October 14, 2008.  The TLGPincludes the Transaction Account Guarantee Program (“TAGP”), which providesunlimited deposit insurance coverage through December 31, 2009 fornoninterest-bearing transaction accounts (typically business checking accounts)and certain funds swept into noninterest-bearing savingsaccounts.  Institutions participating in the TLGP pay a 10 basispoints fee (annualized) on the balance of each covered account in excess of$250,000, while the extra deposit insurance is in place.  The TLGPalso includes the Debt Guarantee Program (“DGP”), under which the FDICguarantees certain senior unsecured debt of FDIC-insured institutions and theirholding companies.  The unsecured debt must be issued on or after October 14,2008 and not later than June 30, 2009, and the guarantee is effectivethrough the earlier of the maturity date or June 30, 2012.  On March 17, 2009, the FDIC adopted aninterim rule that extends the DGP and imposes surcharges on existing rates forcertain debt issuances. This extension allows institutions that have issuedguaranteed debt before April 1, 2009 to issue guaranteed debt during theextended issuance period that ends on October 31, 2009. For such institutions,the guarantee on debt issued on or after April 1, 2009, will expire no laterthan December 31, 2012.  The DGP coverage limit is generally 125% ofthe eligible entity’s eligible debt outstanding on September 30, 2008 andscheduled to mature on or before June 30, 2009 or, for certain insuredinstitutions, 2% of their liabilities as of September 30,2008.  Depending on the term of the debt maturity, the nonrefundableDGP fee ranges from 60 to 110 basis points (annualized) for covered debtoutstanding until the earlier of maturity or June 30, 2012 and 75 to 125 basispoints (annualized) for covered debt outstanding until after June 30, 2012.  TheTAGP and DGP are in effect for all eligible entities, unless the entity optedout on or before December 5, 2008.  We will participate in boththe TAGP and the DGP.

 

OnFebruary 17, 2009, President Obama signed into law The American Recoveryand Reinvestment Act of 2009 (the “Recovery Act”), more commonly known as theeconomic stimulus or economic recovery package. The Recovery Act includes a wide variety of programs intended tostimulate the economy and provide for extensive infrastructure, energy, health,and education needs.  In addition, theRecovery Act imposes certain new executive compensation and corporateexpenditure limits on all current and future TARP recipients that are inaddition to those 

 

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previouslyannounced by the Treasury Department, until the institution has repaid the TreasuryDepartment, which is now permitted under ARRA without penalty and without theneed to raise new capital, subject to the Treasury Department’s consultationwith the recipient’s appropriate regulatory agency.

 

Furtherregulatory actions may arise as the Federal government continues to attempt toaddress the economic situation.

 

***PromptCorrective Action. ***As an insured depository institution, thebank is required to comply with the capital requirements promulgated under theFederal Deposit Insurance Act and the regulations thereunder, which set forth****five capital categories, each with specific regulatoryconsequences.  Under these regulations,the categories are:

 

·                                          Well Capitalized — The institution exceedsthe required minimum level for each relevant capital measure.  A well capitalized institution is one (i) havinga total capital ratio of 10% or greater, (ii) having a tier 1 capitalratio of 6% or greater, (iii) having a leverage capital ratio of 5% orgreater and (iv) that is not subject to any order or written directive tomeet and maintain a specific capital level for any capital measure.

 

·                                          Adequately Capitalized — The institutionmeets the required minimum level for each relevant capital measure.  No capital distribution may be made thatwould result in the institution becoming undercapitalized.  An adequately capitalized institution is one (i) havinga total capital ratio of 8% or greater, (ii) having a tier 1 capital ratioof 4% or greater and (iii) having a leverage capital ratio of 4% orgreater or a leverage capital ratio of 3% or greater if the institution israted composite 1 under the CAMELS (Capital, Assets, Management, Earnings,Liquidity and Sensitivity to market risk) rating system.

 

·                                          Undercapitalized — The institution fails tomeet the required minimum level for any relevant capital measure.  An undercapitalized institution is one (i) havinga total capital ratio of less than 8% or (ii) having a tier 1 capitalratio of less than 4% or (iii) having a leverage capital ratio of lessthan 4%, or if the institution is rated a composite 1 under the CAMELS ratingsystem, a leverage capital ratio of less than 3%.

 

·                                          Significantly Undercapitalized — Theinstitution is significantly below the required minimum level for any relevantcapital measure.  A significantlyundercapitalized institution is one (i) having a total capital ratio ofless than 6% or (ii) having a tier 1 capital ratio of less than 3% or (iii) havinga leverage capital ratio of less than 3%.

 

·                                          Critically Undercapitalized — The institutionfails to meet a critical capital level set by the appropriate federal bankingagency.  A critically undercapitalizedinstitution is one having a ratio of tangible equity to total assets that isequal to or less than 2%.

 

If the FDIC determines, after notice and an opportunity for hearing,that the bank is in an unsafe or unsound condition, the regulator is authorizedto reclassify the bank to the next lower capital category (other thancritically undercapitalized) and require the submission of a plan to correctthe unsafe or unsound condition.

 

If the bank is not well capitalized, it cannot accept brokered depositswithout prior FDIC approval and, if approval is granted, cannot offer aneffective yield in excess of 75 basis points on interests paid on deposits ofcomparable size and maturity in such institution’s normal market area fordeposits accepted from within its normal market area, or national rate paid ondeposits of comparable size and maturity for deposits accepted outside thebank’s normal market area.  Moreover, ifthe bank becomes less than adequately capitalized, it must adopt a capitalrestoration plan acceptable to the FDIC. The bank also would become subject to increased regulatory oversight,and is increasingly restricted in the scope of its permissible activities.  Each company having control over anundercapitalized institution also must provide a limited guarantee that theinstitution will comply with its capital restoration plan.  Except under limited circumstances consistentwith an accepted capital restoration plan, an undercapitalized institution maynot grow.  An undercapitalizedinstitution may not acquire another institution, establish additional branchoffices or engage in any new line of business unless determined by the appropriateFederal banking agency to be consistent with an accepted capital restorationplan, or unless the FDIC determines that the proposed action will further thepurpose of prompt corrective action.  Theappropriate federal banking agency may take any action authorized for asignificantly undercapitalized institution if an undercapitalized institutionfails to 

 

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submit an acceptable capital restoration plan or fails in any materialrespect to implement a plan accepted by the agency.  A critically undercapitalized institution issubject to having a receiver or conservator appointed to manage its affairs andfor loss of its charter to conduct banking activities.

 

An insured depository institution may not pay a management fee to abank holding company controlling that institution or any other person havingcontrol of the institution if, after making the payment, the institution, wouldbe undercapitalized.  In addition, aninstitution cannot make a capital distribution, such as a dividend or otherdistribution, that is in substance a distribution of capital to the owners ofthe institution if following such a distribution the institution would beundercapitalized.  Thus, if payment ofsuch a management fee or the making of such would cause the bank to becomeundercapitalized, it could not pay a management fee or dividend to us.

 

As of December 31, 2008, the bank was deemed to be “wellcapitalized.”

 

***Standards for Safety and Soundness.  ***The Federal Deposit Insurance Act (“FDIA”)also requires the federal banking regulatory agencies to prescribe, byregulation or guideline, operational and managerial standards for all insureddepository institutions relating to: (i) internal controls, informationsystems, and internal audit systems; (ii) loan documentation; (iii) creditunderwriting; (iv) interest rate risk exposure; and (v) assetgrowth.  The agencies also must prescribestandards for asset quality, earnings, and stock valuation, as well asstandards for compensation, fees, and benefits. The federal banking agencies have adopted regulations and InteragencyGuidelines Prescribing Standards for Safety and Soundness to implement theserequired standards.  These guidelines setforth the safety and soundness standards that the federal banking agencies useto identify and address problems at insured depository institutions beforecapital becomes impaired.  Under theregulations, if the FDIC determines that the bank fails to meet any standardsprescribed by the guidelines, the agency may require the bank to submit to theagency an acceptable plan to achieve compliance with the standard, as requiredby the FDIC.  The final regulationsestablish deadlines for the submission and review of such safety and soundnesscompliance plans.

 

***Insurance of Accounts and Regulation by the FDIC.*****  The bank’s deposits are insuredup to applicable limits by the Deposit Insurance Fund of theFDIC.  The Deposit Insurance Fund is the successor to the BankInsurance Fund and the Savings Association Insurance Fund, which were mergedeffective March 31, 2006.  As insurer, the FDIC imposes depositinsurance premiums and is authorized to conduct examinations of and to requirereporting by FDIC insured institutions.  It also may prohibit anyFDIC insured institution from engaging in any activity the FDIC determines byregulation or order to pose a serious risk to the insurancefund.  The FDIC also has the authority to initiate enforcementactions against savings institutions, after giving the Office of ThriftSupervision an opportunity to take such action, and may terminate the depositinsurance if it determines that the institution has engaged in unsafe orunsound practices or is in an unsafe or unsound condition.

 

Underregulations effective January 1, 2007, the FDIC adopted a new risk-basedpremium system that provides for quarterly assessments based on an insuredinstitution’s ranking in one of four risk categories based upon supervisory andcapital evaluations.   For deposits held as of March 31, 2009,institutions are assessed at annual rates ranging from 12 to 50 basispoints, depending on each institution’s risk of default as measured byregulatory capital ratios and other supervisorymeasures.   Effective April 1, 2009, assessments willtake into account each institution’s reliance on securedliabilities and brokered deposits.   This will result inassessments ranging from 7 to 77.5 basis points.  We anticipate our futureinsurance costs to be higher than in previous periods.  However, we are not currently able toaccurately determine the amount of additional cost.

 

FDICinsured institutions are required to pay a Financing Corporation assessment, inorder to fund the interest on bonds issued to resolve thrift failures in the1980s. For the first quarter of 2009, the Financing Corporation assessmentequaled 1.14 basis points for domestic deposits. These assessments, which maybe revised based upon the level of deposits, will continue until the bondsmature in the years 2017 through 2019.

 

TheFDIC may terminate the deposit insurance of any insured depository institution,including the bank, if it determines after a hearing that the institution hasengaged in unsafe or unsound practices, is in an unsafe or unsound condition tocontinue operations or has violated any applicable law, regulation, rule, orderor condition imposed by the FDIC or the OCC.  It also maysuspend deposit insurance temporarily during the hearing process for thepermanent termination of insurance, if the institution has no tangiblecapital.  If insurance of accounts is terminated, the accounts at theinstitution at the time of the termination, less subsequent withdrawals, shallcontinue to be insured for a period of six months to two years, as determinedby the FDIC.  Management of the bank is not aware of any practice,condition or violation that might lead to termination of the bank’s depositinsurance.

 

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***Transactions with Affiliates and Insiders.***  Thecompany is a legal entity separate and distinct from the bank and its othersubsidiaries.  Various legal limitationsrestrict the bank from lending or otherwise supplying funds to the company orits non-bank subsidiaries.  The companyand the bank are subject to Section 23A and 23B of the Federal Reserve Actand Federal Reserve Regulation W.  Section 23Aof the Federal Reserve Act places limits on the amount of loans or extensionsof credit to, or investments in, or certain other transactions with, affiliatesand on the amount of advances to third parties collateralized by the securitiesor obligations of affiliates.  Theaggregate of all covered transactions is limited in amount, as to any oneaffiliate, to 10% of the bank’s capital and surplus and, as to all affiliatescombined, to 20% of the bank’s capital and surplus.  Furthermore, within the foregoing limitationsas to amount, each covered transaction must meet specified collateralrequirements.  The bank is forbidden topurchase low quality assets from an affiliate.

 

Section 23Bof the Federal Reserve Act, among other things, prohibits an institution fromengaging in certain transactions with certain affiliates unless thetransactions are on terms substantially the same, or at least as favorable tosuch institution or its subsidiaries, as those prevailing at the time forcomparable transactions with nonaffiliated companies.

 

RegulationW generally excludes all non-bank and non-savings association subsidiaries ofbanks from treatment as affiliates, except to the extent that the FederalReserve Board decides to treat these subsidiaries as affiliates.  The regulation also limits the amount ofloans that can be purchased by a bank from an affiliate to not more than 100%of the bank’s capital and surplus.

 

Thebank is also subject to certain restrictions on extensions of credit toexecutive officers, directors, certain principal shareholders, and theirrelated interests.  Such extensions ofcredit (i) must be made on substantially the same terms, includinginterest rates and collateral, as those prevailing at the time for comparabletransactions with third parties and (ii) must not involve more than thenormal risk of repayment or present other unfavorable features.

 

***Branching****.*  Under current South Carolina law, we may openbranch offices throughout South Carolina with the prior approval of the SouthCarolina Board of Financial Institutions.  In addition, with prior regulatory approval, the bank will be able toacquire existing banking operations in South Carolina.  Furthermore, federal legislation has beenpassed that permits interstate branching by banks if allowed by state law, andinterstate merging by banks.  However,South Carolina law, with limited exceptions, currently permits branching acrossstate lines only through interstate mergers.

 

***Anti-Tying Restrictions***.  Under amendments to the Bank Holding Company Act and Federal Reserveregulations, a bank is prohibited from engaging in certain tying or reciprocityarrangements with its customers.  Ingeneral, a bank may not extend credit, lease, sell property, or furnish anyservices or fix or vary the consideration for these on the condition that (i) thecustomer obtain or provide some additional credit, property, or services fromor to the bank, the bank holding company or subsidiaries thereof or (ii) thecustomer may not obtain some other credit, property, or services from acompetitor, except to the extent reasonable conditions are imposed to assurethe soundness of the credit extended. Certain arrangements are permissible: a bank may offer combined-balanceproducts and may otherwise offer more favorable terms if a customer obtains twoor more traditional bank products; and certain foreign transactions are exemptfrom the general rule.  A bank holdingcompany or any bank affiliate also is subject to anti-tying requirements inconnection with electronic benefit transfer services.

 

***Community Reinvestment Act****.*  TheCommunity Reinvestment Act (“CRA”) requires that, in connection withexaminations of financial institutions within their respective jurisdictions, afinancial institution’s primary regulator, which is the FDIC for the bank,shall evaluate the record of each financial institution in meeting the creditneeds of its local community, including low and moderate income neighborhoods.  These factors are also considered inevaluating mergers, acquisitions, and applications to open a branch orfacility.  Failure to adequately meetthese criteria could impose additional requirements and limitations on ourbank.  Additionally, we must publiclydisclose the terms of various Community Reinvestment Act-relatedagreements.  The FDIC conducted our firstCRA examination in January 2008.

 

***Finance Subsidiaries.***  Underthe Gramm-Leach-Bliley Act (the “GLBA”), subject to certain conditions imposedby their respective banking regulators, national and state-chartered banks arepermitted to form “financial subsidiaries” that may conduct financial orincidental activities, thereby permitting bank subsidiaries to engage incertain activities that previously were impermissible.  The GLBA imposes several safeguards andrestrictions on 

 

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financialsubsidiaries, including that the parent bank’s equity investment in thefinancial subsidiary be deducted from the bank’s assets and tangible equity forpurposes of calculating the bank’s capital adequacy.  In addition, the GLBA imposes newrestrictions on transactions between a bank and its financial subsidiariessimilar to restrictions applicable to transactions between banks and non-bankaffiliates.

 

***Consumer Protection Regulations.*** Activities of the bank are subject to avariety of statutes and regulations designed to protect consumers.  Interest and other charges collected orcontracted for by the bank are subject to state usury laws and federal lawsconcerning interest rates.  The bank’sloan operations are also subject to federal laws applicable to credittransactions, such as the:

 

·                  The federal Truth-In-Lending Act, governingdisclosures of credit terms to consumer borrowers;

 

·                  The Home Mortgage Disclosure Act of 1975,requiring financial institutions to provide information to enable the publicand public officials to determine whether a financial institution is fulfillingits obligation to help meet the housing needs of the community it serves;

 

·                  The Equal Credit Opportunity Act, prohibitingdiscrimination on the basis of race, creed or other prohibited factors inextending credit;

 

·                  The Fair Credit Reporting Act of 1978, asamended by the Fair and Accurate Credit Transactions Act, governing the use andprovision of information to credit reporting agencies, certain identity theftprotections and certain credit and other disclosures;

 

·                  The Fair Debt Collection Act, governing themanner in which consumer debts may be collected by collection agencies; and

 

·                  The Rules and regulations of the variousfederal agencies charged with the responsibility of implementing these federallaws.

 

The deposit operations of the bank also are subjectto:

 

·                  theRight to Financial Privacy Act, which imposes a duty to maintainconfidentiality of consumer financial records and prescribes procedures forcomplying with administrative subpoenas of financial records; and

 

·                  theElectronic Funds Transfer Act and Regulation E issued by the Federal ReserveBoard to implement that Act, which governs automatic deposits to andwithdrawals from deposit accounts and customers’ rights and liabilities arisingfrom the use of automated teller machines and other electronic bankingservices.

 

***Enforcement Powers.***  Thebank and its “institution-affiliated parties,” including its management,employees, agents, independent contractors, and consultants such as attorneysand accountants and others who participate in the conduct of the financialinstitution’s affairs, are subject to potential civil and criminal penaltiesfor violations of law, regulations or written orders of a government agency.These practices can include the failure of an institution to timely filerequired reports or the filing of false or misleading information or thesubmission of inaccurate reports.  Civilpenalties may be as high as $1,000,000 a day for such violations.  Criminal penalties for some financialinstitution crimes have been increased to 20 years.  In addition, regulators are provided withgreater flexibility to commence enforcement actions against institutions andinstitution-affiliated parties.  Possibleenforcement actions include the termination of deposit insurance.  Furthermore, banking agencies’ power to issuecease-and-desist orders were expanded. Such orders may, among other things, require affirmative action tocorrect any harm resulting from a violation or practice, including restitution,reimbursement, indemnifications or guarantees against loss.  A financial institution may also be orderedto restrict its growth, dispose of certain assets, rescind agreements orcontracts, or take other actions as determined by the ordering agency to beappropriate.

 

***Anti-Money Laundering.***  Financial institutions must maintain anti-money laundering programs thatinclude established internal policies, procedures, and controls; a designatedcompliance officer; an ongoing employee training program; and testing of theprogram by an independent audit function. The company and the bank are alsoprohibited 

 

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fromentering into specified financial transactions and account relationships andmust meet enhanced standards for due diligence and “knowing your customer” intheir dealings with foreign financial institutions and foreign customers.  Financial institutions must take reasonablesteps to conduct enhanced scrutiny of account relationships to guard against moneylaundering and to report any suspicious transactions, and recent laws providelaw enforcement authorities with increased access to financial informationmaintained by banks.  Anti-moneylaundering obligations have been substantially strengthened as a result of theUSA Patriot Act, enacted in 2001 and renewed in 2006.  Bank regulators routinely examineinstitutions for compliance with these obligations and are required to considercompliance in connection with the regulatory review of applications.  The regulatory authorities have been activein imposing “cease and desist” orders and money penalty sanctions againstinstitutions found to be violating these obligations.

 

## ***USA PATRIOT Act.***** The USA PATRIOT Act becameeffective on October 26, 2001, amended, in part, the Bank Secrecy Act, andprovides, in part, for the facilitation of information sharing amonggovernmental entities and financial institutions for the purpose of combatingterrorism and money laundering by enhancing anti-money laundering and financialtransparency laws, as well as enhanced information collection tools andenforcement mechanics for the U.S. government, including: (i) requiringstandards for verifying customer identification at account opening; (ii) rules topromote cooperation among financial institutions, regulators, and lawenforcement entities in identifying parties that may be involved in terrorismor money laundering; (iii) reports by nonfinancial trades and businessesfiled with the Treasury Department’s Financial Crimes Enforcement Network fortransactions exceeding $10,000; and (iv) filing suspicious activitiesreports by brokers and dealers if they believe a customer may be violating U.S.laws and regulations and requires enhanced due diligence requirements forfinancial institutions that administer, maintain, or manage private bankaccounts or correspondent accounts for non-U.S. persons.  Bank regulators routinely examineinstitutions for compliance with these obligations and are required to considercompliance in connection with the regulatory review of applications.

## ** **

Under the USA PATRIOT Act, the Federal Bureau of Investigation (“FBI”)can send our banking regulatory agencies lists of the names of personssuspected of involvement in terrorist activities.  The bank can be requested to search itsrecords for any relationships or transactions with persons on those lists.  If the bank finds any relationships ortransactions, it must file a suspicious activity report and contact the FBI.

 

The Office of Foreign Assets Control (“OFAC”), which is a division ofthe U.S. Department of the Treasury, is responsible for helping to insure thatUnited States entities do not engage in transactions with “enemies” of theUnited States, as defined by various Executive Orders and Acts of Congress.  OFAC has sent, and will send, our bankingregulatory agencies lists of names of persons and organizations suspected ofaiding, harboring or engaging in terrorist acts.  If the bank finds a name on any transaction,account or wire transfer that is on an OFAC list, it must freeze such account,file a suspicious activity report and notify the FBI.  The bank has appointed an OFAC complianceofficer to oversee the inspection of its accounts and the filing of any notifications.  The bank actively checks high-risk OFAC areassuch as new accounts, wire transfers and customer files.  The bank performs these checks utilizingsoftware, which is updated each time a modification is made to the listsprovided by OFAC and other agencies of Specially Designated Nationals andBlocked Persons.

 

***Privacy andCredit Reporting*****. **Financialinstitutions are required to disclose their policies for collecting andprotecting confidential information. Customers generally may prevent financial institutions from sharingnonpublic personal financial information with nonaffiliated third partiesexcept under narrow circumstances, such as the processing of transactionsrequested by the consumer or when the financial institution is jointlysponsoring a product or service with a nonaffiliated third party.  Additionally, financial institutionsgenerally may not disclose consumer account numbers to any nonaffiliated thirdparty for use in telemarketing, direct mail marketing or other marketing toconsumers.  It is the bank’s policy notto disclose any personal information unless required by law.

 

Likeother lending institutions, the bank utilizes credit bureau data in itsunderwriting activities.  Use of suchdata is regulated under the Federal Credit Reporting Act on a uniform,nationwide basis, including credit reporting, prescreening, sharing ofinformation between affiliates, and the use of credit data.  The Fair and Accurate Credit Transactions Actof 2003 (the “FACT Act”) authorizes states to enact identity theft laws thatare not inconsistent with the conduct required by the provisions of the FACTAct.

 

***Payment ofDividends.*** A South Carolina state bank may not pay dividends fromits capital.  All dividends must be paidout of undivided profits then on hand, after deducting expenses, includingreserves for losses and bad debts.  Thebank is authorized to pay cash dividends up to 100% of net income in anycalendar year without obtaining 

 

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the prior approval of the South Carolina Board of FinancialInstitutions, provided that the bank received a composite rating of one or twoat the last federal or state regulatory examination.  The bank must obtain approval from the SouthCarolina Board of Financial Institutions prior to the payment of any other cashdividends.  In addition, under the FDIC Improvement Act, the bank may not paya dividend if, after paying the dividend, the bank would be undercapitalized.

** **

***Check 21.***  TheCheck Clearing for the 21st Century Act gives “substitute checks,” such as adigital image of a check and copies made from that image, the same legalstanding as the original paper check. Some of the major provisions include:

 

·                                          allowing check truncation without making itmandatory;

 

·                                          demanding that every financial institutioncommunicate to accountholders in writing a description of its substitute checkprocessing program and their rights under the law;

 

·                                          legalizing substitutions for and replacementsof paper checks without agreement from consumers;

 

·                                          retaining in place the previously mandatedelectronic collection and return of checks between financial institutions onlywhen individual agreements are in place;

 

·                                          requiring that when accountholders requestverification, financial institutions produce the original check (or a copy thataccurately represents the original) and demonstrate that the account debit wasaccurate and valid; and

 

·                                          requiring the re-crediting of funds to anindividual’s account on the next business day after a consumer proves that thefinancial institution has erred.

 

***Effect of Governmental Monetary Policies*****.**  Ourearnings are affected by domestic economic conditions and the monetary andfiscal policies of the United States government and its agencies.  The Federal Reserve Board’s monetary policieshave had, and are likely to continue to have, an important impact on theoperating results of commercial banks through its power to implement nationalmonetary policy in order, among other things, to curb inflation or combat arecession.  The monetary policies of theFederal Reserve Board have major effects upon the levels of bank loans,investments and deposits through its open market operations in United Statesgovernment securities and through its regulation of the discount rate onborrowings of member banks and the reserve requirements against member bankdeposits.  It is not possible to predictthe nature or impact of future changes in monetary and fiscal policies.

 

***Proposed Legislation and Regulatory Action*****.**  Newregulations and statutes are regularly proposed that contain wide-rangingproposals for altering the structures, regulations, and competitiverelationships of the nation’s financial institutions.  We cannot predict whether or in what form anyproposed regulation or statute will be adopted or the extent to which ourbusiness may be affected by any new regulation or statute.

 

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**Item1A.  Risk Factors**

** **

Our business, financialcondition, and results of operations could be harmed by any of the followingrisks, or other risks that have not been identified or which we believe areimmaterial or unlikely.  Shareholders shouldcarefully consider the risks described below in conjunction with the otherinformation in this Form 10-K and the information incorporated byreference in this Form 10-K, including our consolidated financialstatements and related notes.

 

***Recent negative developments in the financial industry and the domesticand international credit markets may adversely affect our operations andresults.***

*** ***

Negativedevelopments in the latter half of 2007 and during 2008 in the global creditand securitization markets have resulted in uncertainty in the financialmarkets in general with the expectation of the general economic downturncontinuing into 2009.  As a result ofthis “credit crunch,” commercial as well as consumer loan portfolio performanceshave deteriorated at many institutions and the competition for deposits andquality loans has increased significantly. In addition, the values of real estate collateral supporting manycommercial loans and home mortgages have declined and may continue todecline.  Global securities markets, andbank holding company stock prices in particular, have been negatively affected,as has the ability of banks and bank holding companies to raise capital orborrow in the debt markets.  As a result,significant new federal laws and regulations relating to financialinstitutions, including, without limitation, the EESA and the TreasuryDepartment’s CPP, have been adopted. Furthermore, the potential exists for additional federal or state lawsand regulations regarding, among other matters, lending and funding practicesand liquidity standards, and bank regulatory agencies are expected to be activein responding to concerns and trends identified in examinations, including theexpected issuance of many formal enforcement orders.  Negative developments in the financialindustry and the domestic and international credit markets, and the impact ofnew legislation in response to those developments, may negatively impact ouroperations by restricting our business operations, including our ability tooriginate or sell loans, and adversely impact our financial performance.  We can provide no assurance regarding themanner in which any new laws and regulations will affect us.

 

***There can be no assurance thatrecently enacted legislation will help stabilize the U.S. financial system.***

*** ***

The EESA was signed into law on October 3, 2008 in response to thefinancial crises affecting the banking system and financial markets and goingconcern threats to investment banks and other financial institutions.  Pursuant to EESA, the Treasury Department hasthe authority to, among other things, purchase up to $700 billion of mortgages,mortgage-backed securities and certain other financial instruments fromfinancial institutions for the purpose of stabilizing and providing liquidity tothe U.S. financial markets.  The TreasuryDepartment announced the CPP under the EESA pursuant to which it has purchasedand may continue to purchase senior preferred stock in participating financialinstitutions.

 

In addition, theFDIC created the TGLP as part of a larger government effort to strengthenconfidence and encourage liquidity in the nation’s banking system.  The TLGP has two components. First, the TLGPincludes the TAGP, which provides unlimited deposit insurance coverage through December 31,2009 for noninterest-bearing transaction accounts (typically business checkingaccounts) and certain funds swept into noninterest-bearing savingsaccounts.  Institutions participating inthe TLGP pay a 10 basis points fee (annualized) on the balance of each coveredaccount in excess of $250,000, while the extra deposit insurance is inplace.  Second, the TLGP includes theDGP, under which the FDIC guarantees certain senior unsecured debt ofFDIC-insured institutions and their holding companies.  The unsecured debt must be issued on or afterOctober 14, 2008 and not later than June 30, 2009, and the guaranteeis effective through the earlier of the maturity date or June 30,2012.  On March 17, 2009, the FDICadopted an interim rule that extends the DGP and imposes surcharges on existingrates for certain debt issuances.  Thisextension allows institutions that have issued guaranteed debt before April 1,2009 to issue guaranteed debt during the extended issuance period that ends onOctober 31, 2009. For such institutions, the guarantee on debt issued on orafter April 1, 2009, will expire no later than December 31, 2012.  The DGP coverage limit is generally 125% ofthe eligible entity’s eligible debt outstanding on September 30, 2008 andscheduled to mature on or before June 30, 2009 or, for certain insuredinstitutions, 2% of their liabilities as of September 30, 2008.  Depending on the term of the debt maturity,the nonrefundable DGP fee ranges from 60 to 110 basis points (annualized) forcovered debt outstanding until the earlier of maturity or June 30, 2012 and 75to 125 basis points (annualized) for covered debt outstanding until after June30, 2012.  The TAGP and DGP are in effectfor all eligible entities, unless the entity opted out on or before December 5,2008. We will participatein both the TAGP and the DGP.

 

OnFebruary 17, 2009, the Recovery Act was signed into law in an effort to,among other things, create jobs and stimulate growth in the United Stateseconomy.  The Recovery Act specifiesappropriations of approximately

 

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$787billion for a wide range of Federal programs and will increase or extendcertain benefits payable under the Medicaid, unemployment compensation, andnutrition assistance programs.  TheRecovery Act also reduces individual and corporate income tax collections andmakes a variety of other changes to tax laws. The Recovery Act also imposes certain limitations on compensation paidby participants in TARP, which includes programs under TARP such as the CPP.

 

Therecan be no assurance that these government actions will achieve theirpurpose.  The failure of the financialmarkets to stabilize, or a continuation or worsening of the current financialmarket conditions, could have a material adverse affect on our business, ourfinancial condition, the financial condition of our customers, our common stocktrading price, as well as our ability to access credit.  It couldalso result in declines in our investment portfolio which could be“other-than-temporary impairments.”

 

***We are a new bank that has incurred losses to date,and there is a risk we may never become profitable.***

** **

Our bank is a de novo bank that began operations in January 2006.  As is typical with most new banks, we incurredsubstantial start-up expenses and are still operating with an accumulateddeficit.  In order for us to becomeprofitable, we will need to attract a larger number of customers to deposit andborrow money.  Our future profitabilityis also dependent on numerous other factors, including the success of theeconomy of the community and favorable government regulation.  While the economy in this area has beenstrong in recent years, the current economic downturn in the area has impactedour business.  We are also a highlyregulated institution.  Our ability togrow and achieve profitability may be adversely affected by state and federalregulations that limit a bank’s right to make loans and purchase securities.  Although we expect to become profitable inour third year of operation, there is a risk that a continued deterioration ofthe local economy or adverse government regulation could affect our plans.  If this happens, we may never becomeprofitable and you will lose part or all of your investment.

 

***Our decisions regardingcredit risk and reserves for loan losses may materially and adversely affectour business.***

*** ***

Making loans and otherextensions of credit is an essential element of our business.  Although we seek to mitigate risks inherentin lending by adhering to specific underwriting practices, our loans and otherextensions of credit may not be repaid. The risk of nonpayment is affected by a number of factors, including:

 

·                  the duration of the credit;

·                  credit risks of a particular customer;

·                  changes in economic and industry conditions;and

·                  in the case of a collateralized loan, risksresulting from uncertainties about the future value of the collateral.

 

Weattempt to maintain an appropriate allowance for loan losses to provide forpotential losses in our loan portfolio. We periodically determine the amount of the allowance based onconsideration of several factors, including:

 

·                  an ongoing review of the quality, mix, andsize of our overall loan portfolio;

·                  our historical loan loss experience;

·                  evaluation of economic conditions;

·                  regular reviews of loan delinquencies andloan portfolio quality; and

·                  the amount and quality of collateral,including guarantees, securing the loans.

 

There is no precise method of predicting credit losses; therefore, we facethe risk that charge-offs in future periods will exceed our allowance for loanlosses and that additional increases in the allowance for loan losses will berequired.  Additions to the allowance forloan losses would result in a decrease of our net income, and possibly ourcapital.

 

While we generally underwrite the loans in our portfolio in accordancewith our own internal underwriting guidelines and regulatory supervisoryguidelines, in certain circumstances we have made loans which exceed either ourinternal underwriting guidelines, supervisory guidelines, or both.  As of December 31, 2008, approximately$12.0 million of our loans, or 120.2% of our company’s capital, hadloan-to-value ratios that exceeded regulatory supervisory guidelines, of which11 loans totaling approximately $962,500 had loan-to-value ratios of 100% ormore.

 

18

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At December 31, 2008, approximately $5.9 million of our commercialloans, or 59.3% of our company’s capital, exceeded the supervisory loan tovalue ratio.  The number of loans in ourportfolio with loan-to-value ratios in excess of supervisory guidelines, ourinternal guidelines, or both could increase the risk of delinquencies and defaultsin our portfolio.

 

***We may have higherloan losses than we have allowed for in our allowance for loan losses.***

*** ***

Our loan losses could exceed our allowance for loan losses.  Reliance on our historic allowance for loanlosses may not be adequate, especially considering the overall weakness in thecommercial real estate market in our market areas.  Approximately 58% of our loan portfolio iscomposed of construction, commercial mortgage and commercial loans.  Repayment of such loans is generallyconsidered more subject to market risk than residential mortgage loans.  Industry experience shows that a portion ofloans will become delinquent and a portion of loans will require partial orentire charge-off.  Regardless of theunderwriting criteria utilized, losses may be experienced as a result of variousfactors beyond our control, including among other things, changes in marketconditions affecting the value of loan collateral and problems affecting thecredit of our borrowers.

 

***Lack of seasoning of ourloan portfolio may increase the risk of credit defaults in the future.***

 

Due to our short operatinghistory, the loans in our loan portfolio and our lending relationships are ofrelatively recent origin.  In general,loans do not begin to show signs of credit deterioration or default until theyhave been outstanding for some period of time, a process we refer to as“seasoning.”  As a result, a portfolio ofolder loans will usually behave more predictably than a newer portfolio.  Because our loan portfolio is new, thecurrent level of delinquencies and defaults may not be representative of thelevel that will prevail when the portfolio becomes more seasoned, which may behigher than current levels.  Ifdelinquencies and defaults increase, we may be required to increase ourprovision for loan losses, which would adversely affect our results ofoperations and financial condition.

 

***A significant portion of our loan portfolio is secured by real estate,and events that negatively impact the real estate market could hurt ourbusiness.***

*** ***

Asignificant portion of our loan portfolio is secured by real estate.  As of December 31, 2008, approximately91% of our loans had real estate as a primary or secondary component ofcollateral.  The real estate collateralin each case provides an alternate source of repayment in the event of defaultby the borrower and may deteriorate in value during the time the credit isextended.  A continued weakening of thereal estate market in our primary market area could result in an increase inthe number of borrowers who default on their loans and a reduction in the valueof the collateral securing their loans, which in turn could have an adverseeffect on our profitability and asset quality. If we are required to liquidate the collateral securing a loan tosatisfy the debt during a period of reduced real estate values, our earningsand capital could be adversely affected. Acts of nature, including hurricanes, tornados, earthquakes, fires andfloods, which may cause uninsured damage and other loss of value to real estatethat secures these loans, may also negatively impact our financial condition.

 

***We have a high concentration ofconstruction and development loans in our loan portfolio which carry a higherdegree of risk than long-term financing of existing properties.***

*** ***

Asof December 31, 2008, total construction and development loans amounted toapproximately $2.9 million, or 3.9%, of our total loan portfolio.  Included in the $2.9 million was$662,413 outstanding under construction loan facilities, or 22.5% of ourconstruction and development loan portfolio, that were made to commercialconstruction developers.  Constructionand development loans generally carry a higher degree of risk than long-termfinancing of existing properties because repayment depends on the ultimatecompletion of the project or home and usually on the sale of the property orpermanent financing.  Specific risksinclude:

 

·                  cost overruns;

 

·                  mismanagedconstruction;

 

·                  inferior orimproper construction techniques;

 

·                  economic changes ordownturns during construction;

 

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·                  rising interestrates that may prevent sale of the property; and

 

·                  failure to sellcompleted projects or units in a timely manner.

 

Theoccurrence of any of the preceding risks could result in the deterioration ofone or more of these loans which could significantly increase our percentage ofnon-performing assets.  An increase innon-performing loans may result in a loss of earnings from these loans, anincrease in the related provision for loan losses, and an increase incharge-offs, all of which could have a material adverse effect on our financialcondition and results of operations.

 

***Continuation of the economic downturn could reduce our customer base,our level of deposits, and demand for financial products such as loans.***

*** ***

Oursuccess significantly depends upon the growth in population, income levels,deposits, and housing starts in our markets. The current economic downturn has negatively affected the markets inwhich we operate and, in turn, the quality of our loan portfolio.  If the communities in which we operate do notgrow or if prevailing economic conditions locally or nationally remainunfavorable, our business may not succeed. A continuation of the economic downturn or prolonged recession wouldlikely result in the continued deterioration of the quality of our loanportfolio and reduce our level of deposits, which in turn would hurt ourbusiness.  Interest received on loansrepresented approximately 83.7% of our interest income for the year ended December 31,2008.  If the economic downturn continuesor a prolonged economic recession occurs in the economy as a whole, borrowerswill be less likely to repay their loans as scheduled.  Moreover, in many cases the value of realestate or other collateral that secures our loans has been adversely affectedby the economic conditions and could continue to be negatively affected.  Unlike many larger institutions, we are notable to spread the risks of unfavorable local economic conditions across a largenumber of diversified economies.  Acontinued economic downturn could, therefore, result in losses that materiallyand adversely affect our business.

** **

***Our small- to medium-sizedbusiness target markets may have fewer financial resources to weather a downturnin the economy.***

*** ***

Wetarget the banking and financial services needs of small- and medium-sizedbusinesses.  These businesses generallyhave fewer financial resources in terms of capital borrowing capacity thanlarger entities.  If general economic conditionscontinue to negatively impact these businesses in the markets in which weoperate, our business, financial condition, and results of operation may beadversely affected.

 

***We are exposed to changes in the regulation of financial servicescompanies.***

*** ***

Proposals for further regulation of the financial services industry arecontinually being introduced in the Congress of the United States of Americaand the General Assembly of the State of South Carolina.  The agencies regulating the financial servicesindustry also periodically adopt changes to their regulations.  On September 7, 2008, the TreasuryDepartment announced that Fannie Mae (along with Freddie Mac) has been placedinto conservatorship under the control of the newly created Federal Housing FinanceAgency.  On October 3, 2008, EESAwas signed into law, and on October 14, 2008 the U.S. Treasury Departmentannounced the CPP under EESA.  It ispossible that additional legislative proposals may be adopted or regulatorychanges may be made that would have an adverse effect on our business.  See “*Risk Factors — We aresubject to extensive regulation that could restrict our activities”*below.

 

***The FDIC Deposit Insurance assessments thatwe are required to pay may materially increase in the future, which would havean adverse effect on our earnings and our ability to pay our liabilities asthey come due.***

*** ***

Asa member institution of the FDIC, we are required to pay semi-annual depositinsurance premium assessments to the FDIC. During the year ended December 31, 2008, we paid $57,957 in depositinsurance assessments.  Due to the recentfailure of several unaffiliated FDIC insurance depository institutions, and theFDIC’s new Temporary Liquidity Guarantee Program, the deposit insurance premiumassessments paid by all banks will likely increase.  In addition, new FDIC requirements shift agreater share of any increase in such assessments onto institutions with higherrisk profiles, including banks with reliance on brokered deposits, such as ourbank.

 

20

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***We are dependent on Robert Trask and our businesswould suffer if something were to happen to him or if he were to leave.***

*** ***

Our growth and development will largely be theresult of the contributions of our president, Robert Trask.  The performance of community banks, likeAtlantic Community Bank, is often dependent upon the ability of executiveofficers to promote the bank in the local market area.  Mr. Trask has extensive andlong-standing ties within our primary service areas and will provide us with animportant medium through which to market our products and services.  If we lose the services of Mr. Trask, hewould be difficult to replace and our business and development could bematerially and adversely affected.  Wehave an employment agreement with Mr. Trask and have $1,000,000 ofinsurance on his life payable to the bank.

 

***We face strong competition for customers, whichcould prevent us from obtaining customers and may cause us to pay higherinterest rates to attract customers****.*

* *

Thebanking business is highly competitive, and we experience competition in ourmarket from many other financial institutions. We compete with commercial banks, credit unions, savings and loanassociations, mortgage banking firms, consumer finance companies, securitiesbrokerage firms, insurance companies, money market funds, and other mutualfunds, as well as other super-regional, national, and international financialinstitutions that operate offices in our primary market areas andelsewhere.  We compete with theseinstitutions both in attracting deposits and in making loans.  In addition, we have to attract our clientbase from other existing financial institutions and from new residents.  Many of our competitors are well-established,larger financial institutions.  Theseinstitutions offer some services, such as extensive and established branchnetworks, that we do not currently provide. Also, a number of community banks are entering our primary servicearea.  They include de novo banks andbranches of established banking operations, both headquartered in-market aswell as out-of-market.  As is the casewith other financial service providers, they are attracted to our primaryservice area’s demographic trends and growing deposit base.  There is a risk that we will not be able tocompete successfully with other financial institutions in our market, and thatwe may have to pay higher interest rates to attract deposits, resulting inreduced profitability.  In addition,competitors that are not depository institutions are generally not subject tothe extensive regulations that apply to us.

** **

***We are subject to extensive regulation that could limit or restrict ouractivities.  This regulation is******for protection of the bank’sdepositors and not for the investors.***

* *

We operate in a highlyregulated industry and are subject to examination, supervision, andcomprehensive regulation by various regulatory agencies.  Our compliance with these regulations iscostly and restricts certain of our activities, including payment of dividends,mergers and acquisitions, investments, loans and interest rates charged,interest rates paid on deposits, and locations of offices.  We are also subject to capitalization guidelinesestablished by our regulators, which require us to maintain adequate capital tosupport our growth.

 

Thelaws and regulations applicable to the banking industry could change at anytime, and we cannot predict the effects of these changes on our business andprofitability.  Because governmentregulation greatly affects the business and financial results of all commercialbanks and bank holding companies, our cost of compliance could adversely affectour ability to operate profitably.

 

Althoughwe are subject to extensive and comprehensive regulation by various bankingregulatory agencies such as the FDIC and the South Carolina Board of FinancialInstitution, the purpose of these banking regulatory agencies is to protect andinsure the interests and deposits of our bank’s depositors.  These agencies do not consider preserving ormaximizing the investment made by the company’s investors when regulating thebank’s activities.

 

***We will face risks with respect to futureexpansion and acquisitions or mergers.***

*** ***

Although we do not have anycurrent plans to do so, we may seek to acquire other financial institutions orparts of those institutions.  We may alsoexpand into new markets or lines of business or offer new products or services.  These activities would involve a number ofrisks, including:

 

·                  takingadditional time and creating expense associated with identifying and evaluatingpotential acquisitions and merger partners;

 

21

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·                  usinginaccurate estimates and judgments to evaluate credit, operations, management,and market risks with respect to the target institution or assets;

·                  dilutingour existing shareholders in an acquisition;

·                  takingadditional time and creating expense associated with evaluating new markets forexpansion, hiring experienced local management, and opening new offices, asthere may be a substantial time lag between these activities before we generatesufficient assets and deposits to support the costs of the expansion;

·                  takinga significant amount of time negotiating a transaction or working on expansionplans, resulting in management’s attention being diverted from the operation ofour existing business;

·                  takingtime and creating expense integrating the operations and personnel of thecombined businesses;

·                  creatingan adverse short-term effect on our results of operations; and

·                  losingkey employees and customers as a result of an acquisition that is poorlyreceived.

 

Wehave never acquired another institution before, so we lack experience inhandling any of these risks.  There isalso a risk that any expansion effort will not be successful.

** **

***The costs of being an SEC registered company are proportionately higherfor small companies such as Atlantic Bancshares because of the requirementsimposed by the Sarbanes-Oxley Act.***

*** ***

The Sarbanes-Oxley Act of 2002 and the related rules andregulations promulgated by the SEC have increased the scope, complexity, andcost of corporate governance, reporting, and disclosure practices.  These regulations are applicable to ourcompany.  We have experienced, and expectto continue to experience, increasing compliance costs, including costs relatedto internal controls, as a result of the Sarbanes-Oxley Act.  These necessary costs are proportionatelyhigher for a company of our size and will affect our profitability more thanthat of some of our larger competitors.

 

***Changes in prevailinginterest rates may reduce our profitability.***

*** ***

Our results of operations depend in large part upon the level of ournet interest income, which is the difference between interest income frominterest-earning assets, such as loans and mortgage-backed securities, andinterest expense on interest-bearing liabilities, such as deposits and otherborrowings.  Depending on the terms and maturitiesof our assets and liabilities, a significant change in interest rates couldhave a material adverse effect on our profitability.  Many factors cause changes in interest rates,including governmental monetary policies and domestic and internationaleconomic and political conditions.  Whilewe intend to manage the effects of changes in interest rates by adjusting theterms, maturities, and pricing of our assets and liabilities, our efforts maynot be effective and our financial condition and results of operations couldsuffer.

 

***Our continuedpace of growth may require us to raise additional capital in the future, butthat capital may not be available when it is needed.***

*** ***

We are required byregulatory authorities to maintain adequate levels of capital to support ouroperations.  To support our continuedgrowth, we may need to raise additional capital.  Our ability to raise additional capital, ifneeded, will depend in part on conditions in the capital markets at that time,which are outside our control. Accordingly, we cannot assure you of our ability to raise additionalcapital, if needed, on terms acceptable to us. If we cannot raise additional capital when needed, our ability tofurther expand our operations through internal growth and acquisitions could bematerially impaired.  In addition, if wedecide to raise additional equity capital, your interest could be diluted.

 

***We do not expect a liquid market for our common stock to develop forseveral years, if at all.***

*** ***

Althoughour common stock is quoted on the OTC Bulletin Board under the symbol “ATBA”,there is currently no established market for our common stock, and trading andquotations of our common stock have been limited and sporadic.  We do not expect a liquid market for ourcommon stock to develop for several years, if at all.

 

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***We depend on out of market deposits as a source of funding.***

*** ***

Asof December 31, 2008, 19% of our deposits were obtained from out of marketsources.  To continue to have access tothis source of funding, we are required to be classified as a “wellcapitalized” bank by the FDIC; whereas, if we only “meet” the capitalrequirement, we must obtain permission from the FDIC in order to continueutilizing this source of funding.  During2008, many of the institutional investors began to require that banksparticipating in the wholesale funding program have an Institutional DepositCorp. (“IDC”) rating at levels that meet their various expectations.  As of December 31, 2008, our IDC ratingwas **77**. This is considered by most investor to meet their definition as anadequately rated institution.  Should ourfinancial condition deteriorate, our IDC rating would most likely decline.  Such a decline could result in a reduction orexamination of some or all investors.

 

***We are exposed to the possibility of technology failure.***

*** ***

Werely on our computer systems and the technology of outside service providers.Our daily operations depend on the operational effectiveness of theirtechnology. We rely on our systems to accurately track and record our assetsand liabilities. If our computer systems or outside technology sources becomeunreliable, fail, or experience a breach of security, our ability to maintainaccurate financial records may be impaired, which could materially affect ourbusiness operations and financial condition.

 

**Item 2.  Description of Property****.**

** **

Weare located at One Sheridan Park Circle (Sheridan Park), Bluffton SouthCarolina 29910.  Our original mainbranch, located at 1 Sherington Drive, Suite J (Sheridan Park),Bluffton, South Carolina 29910, and our original operations department, locatedat 70 Pennington Drive, Suite 21 (Sheridan Park), Bluffton, SouthCarolina 29910, were consolidated and relocated to the renovated new mainbranch facility, located at One Sheridan Park Circle, Bluffton South Carolina29910, in the same commercial subdivision in July 2008.  The facility is 5,905 square feet and isleased until December 2023 with two five-year renewal terms.  Sheridan Park is an established commercialsubdivision fronting Highway 278 and includes the South Carolina Division ofMotor Vehicles, restaurants, retail stores, wholesalers, and professionaloffice space.  The commercial buildingthat contains our leased space also borders on and provides signage on Highway278.  Signage is also provided directlyover the main public entrance.

 

OnJanuary 1, 2006 we opened a loan production office on the south end ofHilton Head Island, South Carolina.  Thislocation was converted into a full service branch in October 2007.  We leased a facility at 1 Corpus ChristiPlace, Suite 108, Hilton Head Island, South Carolina 29928 that has atotal of 1,837 square feet for a period of one year with a one-year option torenew.  The organizers of the company,along with other non-organizers, have formed a separate company, MB Partners,LLC, which purchased this location that we lease.  We entered into a new lease agreementbeginning August 1, 2006 for a minimum of ten years.  The lease provides for two ten-year renewaloptions.

 

Seethe discussion under “Location and Service Area” in Item 1 above for additionalinformation regarding our properties and certain potential future properties.

 

**Item 3.  Legal Proceedings****.**

 

We are not a party to, norare any of our properties subject to, any material legal proceedings.

 

**Item 4.  Submission of Matters to a Vote of SecurityHolders****.**

 

Nomatter was submitted to a vote of security holders during the fourth quarter ofthe fiscal year covered by this report.

 

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**Part II.**

** **

**Item5.  Market for Common Equity and RelatedStockholder Matters****.**

 

Althoughour common stock is quoted on the OTC Bulletin Board under the symbol “ATBA,”there is currently no established public trading market in our common stock,and trading and quotations of our common stock have been limited andsporadic.  Based on the limited tradingof our stock on the OTC Bulletin Board and information available to us from alimited number of sellers and purchasers of common stock who have engaged inprivately negotiated transactions of which we are aware, we believe there wereseveral stock trades in 2008 with prices per share ranging from $5.25 to$9.00.  Because there has not been anestablished market for our common stock, we may not be aware of all prices atwhich our common stock has been traded. We have not determined whether the trades of which we are aware were theresult of arm’s-length negotiations between the parties.

 

Asof March 1, 2009, there were 1,251,577 shares of common stock outstanding heldby approximately 389 shareholders of record. All of our currently issued and outstanding common stock was issued inour initial public offering which was completed on March 1, 2006.  The price per share in our initial publicoffering was $10.00.

 

Wehave not declared or paid any cash dividends on our common stock since ourinception.  For the foreseeable future,we do not intend to declare cash dividends. We intend to retain earnings to grow our business and strengthen ourcapital base.  Our ability to paydividends depends on the ability of our subsidiary, Atlantic Community Bank, topay dividends to us.  As a South Carolinastate bank, our bank may only pay dividends out of its net profits, afterdeducting expenses, including losses and bad debts.  In addition, our bank is prohibited fromdeclaring a dividend on its shares of common stock until its surplus equals itsstated capital.

 

Additional information regarding our equity compensationplans is set forth in Item 11 below.

 

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**Item6.  Selected Financial Data**

** **

**Selected Financial Data**

 

The following selected financial data for the yearsended December 31, 2008 and 2007 is derived from the financial statementsand other data of Atlantic Bancshares, Inc. (the Company).  The selected financial data should be read inconjunction with the financial statements of the Company, including theaccompanying notes, included elsewhere herein.

 
| **(Dollars in thousands)**                         | ** ** | **2008** | ** ** | **2007** | ** ** |
|----------------------------------------------------|------------|----------|------------|----------|------------|
| ** **                                         |       |     |       |     |       |
| **Income Statement Data:**                         |       |     |       |     |       |
| Interest income                                    |       | $        | 5,789      |     | $          | 4,691 |   |
| Interest expense                                   |       | 2,793    |       | 2,335    |       |
|                                               |       |     |       |     |       |
| Net interest income                                |       | 2,996    |       | 2,356    |       |
| Provision for loan losses                          |       | 637      |       | 291      |       |
|                                               |       |     |       |     |       |
| Net interest income after provision for  loan loss |       | 2,359    |       | 2,065    |       |
|                                               |       |     |       |     |       |
| Noninterest income                                 |       | 238      |       | 306      |       |
| Noninterest expense                                |       | 3,338    |       | 3,201    |       |
|                                               |       |     |       |     |       |
| Loss before income taxes                           |       | (741     | )          | (830     | )          |
|                                               |       |     |       |     |       |
| Income taxes                                       |       | (252     | )          | (261     | )          |
|                                               |       |     |       |     |       |
| Net loss                                           | ** ** | **$**    | **(489**   | **)**    | **$**      | **(569** | **)** |
|                                               |       |     |       |     |       |
| **Balance Sheet Data:**                            |       |     |       |     |       |
| Assets                                             |       | $        | 95,145     |     | $          | 82,633 |   |
| Earning assets                                     |       | 92,678   |       | 79,763   |       |
| Securities (1)                                     |       | 17,280   |       | 13,917   |       |
| Loans (2)                                          |       | 75,363   |       | 65,764   |       |
| Allowance for loan losses                          |       | 1,076    |       | 677      |       |
| Deposits                                           |       | 67,967   |       | 63,469   |       |
| Advances from Federal Home Loan Bank               |       | 16,500   |       | 5,000    |       |
| Shareholders’ equity                          |       | 9,970    |       | 9,982    |       |
| * *                                           | * *   | * * | * *   | * * | * *   |
| **Per share data:**                                | * *   | * * | * *   | * * | * *   |
| Loss per share                                     |       | $        | (.39       | )        | $          | (.45 | ) |
| Book value (period end)                            |       | 7.97     |       | 7.98     |       |

 

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(1)          All securities are available for sale and are stated at fairvalue.  Nonmarketable securities totaling$891,200 and $318,400 are included for 2008 and 2007, respectively.  These securities are recorded at cost.

(2)   Loans are stated net of deferred fees andbefore allowance for loan losses.

 

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**Item 7. ****Management’sDiscussion and Analysis or Plan of Operation**

** **

**Forward Looking Statements**

** **

Thisreport contains “forward-looking statements” within the meaning of thesecurities laws.  All statements that arenot historical facts are “forward-looking statements.”  You can identify these forward-lookingstatements through our use of words such as “may,” “will,” “expect,”“anticipate,” “believe,” “intend,” “estimate,” “project,” “continue,” or othersimilar words.  Forward-lookingstatements include, but are not limited to, statements regarding our futurebusiness prospects, revenues, working capital, liquidity, capital needs,interest costs, income, business operations and proposed services.

 

Theseforward-looking statements are based on current expectations, estimates andprojections about our industry, management’s beliefs, and assumptions made bymanagement.  Such information includes,without limitation, discussions as to estimates, expectations, beliefs, plans,strategies, and objectives concerning our future financial and operating performance.  These statements are not guarantees of futureperformance and are subject to risks, uncertainties and assumptions that aredifficult to predict, particularly in light of the fact that we are a newcompany with no operating history. Therefore, actual results may differmaterially from those expressed or forecasted in such forward-lookingstatements.  The risks and uncertaintiesinclude, but are not limited to:

 

·                  ourgrowth and our ability to maintain growth;

 

·                  governmentalmonetary and fiscal policies, as well as legislative and regulatory changes;

 

·                  theeffect of interest rate changes on our level and composition of deposits, loandemand and the value of our loan collateral and securities;

 

·                  theeffects of competition from other financial institutions operating in ourmarket area and elsewhere, including institutions operating locally,regionally, nationally and internationally, together with competitors thatoffer banking products and services by mail, telephone and computer and/or theInternet;

 

·                  failure of assumptions underlying theestablishment of our allowance for loan losses, including the value ofcollateral securing loans;

 

·                  lossof consumer confidence and economic disruptions resulting from terroristactivities; and

 

·                  otherrisks and uncertainties detailed from time to time in our filings with theSecurities and Exchange Commission, including, without limitation, thosedescribed under the caption “Risk Factors” in Item 1 of our Form 10-Kfiled for the year ended December 31, 2008.

 

Weundertake no obligation to publicly update or revise any forward-lookingstatements, whether as a result of new information, future events orotherwise.  In light of these risks,uncertainties, and assumptions, the forward-looking events discussed in this reportmight not occur.

 

**Introduction**

** **

Thefollowing discussion describes our results of operations for 2008 compared to2007 and also analyzes our financial condition as of December 31, 2008 and2007.  Like most community banks, wederive most of our income from interest we receive on our loans andinvestments.  Our primary source of fundsfor making these loans and investments is our deposits, on which we payinterest.  Consequently, one of the keymeasures of our success is our amount of net interest income, or the differencebetween the income on our interest-earning assets, such as loans andinvestments, and the expense on our interest-bearing liabilities, such asdeposits.  Another key measure is thespread between the yield we earn on these interest-earning assets and the ratewe pay on our interest-bearing liabilities.

 

Wehave included a number of tables to assist in our description of thesemeasures.  For example, the “AverageBalances” table shows the average balance in 2008 and 2007 of each category ofour assets and liabilities, as well as the yield we earned or the rate we paidwith respect to each category.  A reviewof these tables shows that our loans typically provide higher interest yieldsthan do other types of interest earning assets, which is why we intend tochannel a substantial percentage of our earning assets into our loanportfolio.  We also track the sensitivityof our 

 

26

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variouscategories of assets and liabilities to changes in interest rates, and we haveincluded an “Interest Sensitivity Analysis Table” to help explain this.  Finally, we have included a number of tablesthat provide detail about our investment securities, our loans, and our deposits.

** **

Naturally,there are risks inherent in all loans, so we maintain an allowance for loanlosses to absorb probable losses on existing loans that may becomeuncollectible.  We establish and maintainthis allowance by charging a provision for loan losses against our operatingearnings.  In the “Provision andAllowance for Loan Loss” section, we have included a detailed discussion ofthis process, as well as several tables describing our allowance for loanlosses and the allocation of this allowance among our various categories ofloans.

 

Inaddition to earning interest on our loans and investments, we earn incomethrough fees and other expenses we charge to our customers.  We describe the various components of thisnoninterest income, as well as our noninterest expense, in the “Noninterest Incomeand Expense” section.

 

Thefollowing discussion and analysis also identifies significant factors that haveaffected our financial position and operating results during the periodsincluded in the accompanying financial statements.  We encourage you to read this discussion andanalysis in conjunction with the financial statements and the related notes andthe other information included in this report.

 

# **Basis of Presentation**

# ** **

The following discussion should be read in conjunction with thepreceding “Selected Financial Data” and the Company’s Financial Statements andthe Notes thereto and the other information included elsewhere in this AnnualReport.  The financial informationprovided below has been rounded in order to simplify its presentation.  However, the ratios and percentages providedbelow are calculated using the detailed financial information contained in theFinancial Statements, the Notes thereto and the other financial data includedelsewhere in this Annual Report.

 

# **General**

# ** **

Atlantic Bancshares, Inc. is a bank holding company headquarteredin Bluffton, South Carolina.  Oursubsidiary, Atlantic Community Bank, opened for business on January 26,2006.  The principal business activity ofthe Bank is to provide banking services to domestic markets, principally in theBeaufort county region of South Carolina. Our deposits are insured by the Federal Deposit Insurance Corporation.

 

Wecompleted an initial public offering of our common stock on March 1, 2006****in which we sold a total of 1,251,577 shares of commonstock at $10 per share.  Proceeds of thestock issuance, net of offering costs totaling $533,648, were used to payorganizational costs and provide the initial capital for the bank.

 

**Resultsof Operations**

** **

#### ***Year ended December 31, 2008, compared with year ended December 31,2007***

#### *** ***

Net interest income increased $640,001, or 27.16%, to $2,996,321, in2008 from $2,356,320 in 2007.  Theincrease in net interest income was due primarily to an increase in averageearning assets, which increased $27,065,774, or 43.99%, mainly due to continuedgrowth in the loan portfolio during our third year of operations.   The primary component of interest income wasinterest on loans, including fees, of $4,847,642 for the year ended December 31,2008.

 

Our net interest spread and net interestmargin were 2.82% and 3.38%, respectively, in 2008 compared to 2.77% and 3.83%,respectively, in 2007.  The increase innet interest spread was primarily the result of loan growth and growth in theinvestment portfolio.  The averagebalance in the loan portfolio increased $17,265,136, or 32.33%, to $70,663,104in 2008, from $53,397,968 in 2007.  Theaverage balance of taxable securities increased $9,802,566, or 139.42%, to$16,833,738 in 2008, from $7,031,172 in 2007. In November 2007 and March 2008, we entered into arbitrageagreements where $5,000,000 Federal Home Loan Bank of Atlanta advances, foreach period, were obtained to purchase the same amount of taxable securitiesavailable for sale.  Yields on averageearning assets decreased from 7.63% in 2007 to 6.54% in 2008.   Yields on average interest-bearingliabilities were 3.72% for 2008 and 4.86% in 2007.

 

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The provision for loan losses was $637,200 in 2008 compared to $291,584in 2007.  We seek to maintain theallowance for loan losses at a level management believes to be sufficient tocover known and inherent losses in the loan portfolio.  The increase was a result of the growth inour loan portfolio and the impairment charge taken on one loan.

 

Noninterest income decreased $68,502 or22.35%, to $238,011 in 2008 from $306,513 in 2007.  Service charges on deposit accounts increased$30,456, or 41.33%, to $104,139 for the year ended December 31, 2008 whencompared to the year ended December 31, 2007.   NSF/overdraft fees on deposit accountsincreased $25,530 to $88,585 for the year ending December 31, 2008compared to $63,055 for the year ended December 31, 2007.  This increase was attributable to increasednumber of accounts and to deteriorating economic conditions which resulted inmore overdrawn accounts.   Bankcard feesincreased $23,208, or 79.95%, to $52,235 for the year ended December 31,2008 compared to $29,027 for the year ended December 31, 2007 produced byincreased bankcard transaction volume. Other income also increased $8,716 or 20.93% to $50,354 for the yearended December 31, 2008 when compared to $41,638 for the year ended December 31,2007 primarily generated by rental income received on Other Real Estate Owned(OREO) in 2008.  No rental income wasreceived on OREO for the year ended December 31, 2007.  These increases in noninterest income weremore than offset by residential mortgage origination fees whichdecreased $130,882 or 80.71%, to $31,283 for the year ended December 31,2008 compared to the year ended December 31, 2007, mainly attributable todeclining mortgage loan sale volume.

 

Total noninterest expense increased $136,634,or 4.27%, to $3,337,752 in 2008 from $3,201,118 in 2007.   Salaries and employee benefits were$1,683,528 and $1,684,220 for the years ended December 31, 2008 and 2007,respectively.  Increased salaries andbenefits expense due to annual merit increases were offset by decreasedsalaries and benefits expense produced by net headcount reductions.   December 31, 2008 full-time headcounttotaled 20 employees compared to 22 full-time employees at December 31,2007.   Net occupancy expense increased$153,539 to $338,251 for the year ended December 31, 2008 compared to$184,712 for the year ended December 31, 2007.  Additional rent expense totaling $89,925 wasincurred for the new main branch since March 2008 when leaseholdimprovements commenced.  Increasedleasehold depreciation expense and non-recurring relocation expenses for theyear ending December 31, 2008 as compared to the year ended December 31,2007, have also resulted from the consolidation and relocation of our originalmain branch and original operations center to the renovated new main branchfacility in the same commercial subdivision in July 2008.  Marketing expense decreased $98,139 to$160,014 for the year ended December 31, 2008, as compared to $258,153 forthe year ended December 31, 2007. Management has restructured the marketing department and is continuallyreviewing marketing initiatives.  As aresult of the restructuring and reviewing of existing initiatives, we havesignificantly reduced marketing expenses compared to the prior year.   Other operating expenses for the year ended December 31,2008 and 2007 was $450,878 and $410,760, respectively.   The increase is mainly attributable to OREOrelated activity for the year ended December 31, 2008 compared to no OREOactivity for the year ended December 31, 2007.   Total OREO expense totaled $44,640 for theyear ended December 31, 2008.  Gain/loss on sale of OREO totaled $29,339 for the year ended December 31,2008.  Our efficiency ratio was 102.29%in 2008 compared to 120.21% in 2007.  Theefficiency ratio is defined as noninterest expense divided by the sum of netinterest income and noninterest income, net of gains and losses on sales ofassets.

 

Net loss was $488,826 in 2008 compared to a net loss of $568,846 in2007.  The decline in net loss reflectsour continued growth, as average earning assets increased from $61,520,306 forthe year ended December 31, 2007 to $88,586,080 for the year ended December 31,2008.  Return on average assets during2008 was (.53)% compared to (.89)% during 2007. Net loss is after the recognition of an income tax benefit of $251,794and $261,023 for the years 2008 and 2007, respectively. The income tax benefitwas based on an effective tax rate of 34%.

 

**NetInterest Income**

** **

***General****.*  Foran established financial institution, the largest component of net income isits net interest income, which is the difference between the income earned onassets and interest paid on deposits and borrowings used to support suchassets.  Net interest income is determinedby the yields earned on our interest-earning assets and the rates paid on itsinterest-bearing liabilities, the relative amounts of interest-earning assetsand interest-bearing liabilities, and the degree of mismatch and the maturityand repricing characteristics of its interest-earning assets andinterest-bearing liabilities.  This netinterest income divided by average interest-earning assets represents our netinterest margin.

 

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***Average Balances, Income and Expenses and Rates****.*  Thefollowing tables set forth, for the period indicated, certain informationrelated to our average balance sheet and our average yields on assets andaverage costs of liabilities.  Suchyields are derived by dividing income or expense by the average balance of thecorresponding assets or liabilities and are then annualized.  Average balances have been derived from thedaily balances throughout the period indicated.

 
| ** **                                     | ** ** | **December 31, 2008** | ** ** | **December 31, 2007** | ** ** |
|------------------------------------------------|------------|---------------------------------|------------|---------------------------------|------------|
| **(Dollars in thousands)**                     | ** ** | **Average  Balance**            | ** ** | **Income/  Expense**            | ** ** | **Yield/  Rate** | ** ** | **Average  Balance** | ** ** | **Income/  Expense** | ** ** | **Yield/  Rate** | ** ** |
| ** **                                     |       |                            |       |                            |       |   |   |   |   |   |   |   |   |
| **Assets:**                                    |       |                            |       |                            |       |   |   |   |   |   |   |   |   |
| Earning assets:                                |       |                            |       |                            |       |   |   |   |   |   |   |   |   |
| Loans (1)                                      |       | $                               | 70,663     |                            | $          | 4,848 |   | 6.86 | % | $ | 53,398 |   | $ | 4,247 |   | 7.95 | % |
| Securities,  taxable                           |       | 16,834                          |       | 910                             |       | 5.41 | % | 7,031 |   | 383 |   | 5.46 | % |
| Nonmarketable  equity securities               |       | 733                             |       | 25                              |       | 3.39 | % | 114 |   | 7 |   | 5.96 | % |
| Federal funds  sold                            |       | 197                             |       | 2                               |       | 1.16 | % | 961 |   | 53 |   | 5.48 | % |
| Time deposits  with other banks                |       | 159                             |       | 4                               |       | 2.87 | % | 16 |   | 1 |   | 4.61 | % |
| ** **                                     | ** ** | ** **                      | ** ** | ** **                      | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Total  earning-assets                          |       | $                               | 88,586     |                            | $          | 5,789 |   | 6.54 | % | $ | 61,520 |   | $ | 4,691 |   | 7.63 | % |
|                                           |       |                            |       |                            |       |   |   |   |   |   |   |   |   |
| Cash and due  from banks                       |       | 1,065                           |       |                            |       |   |   | 844 |   |   |   |   |   |
| Premises and  equipment                        |       | 928                             |       |                            |       |   |   | 406 |   |   |   |   |   |
| Other assets                                   |       | 1,869                           |       |                            |       |   |   | 1,330 |   |   |   |   |   |
| Allowance for  loan losses                     |       | (894                            | )          |                            |       |   |   | (526 | ) |   |   |   |   |
|                                           |       |                            |       |                            |       |   |   |   |   |   |   |   |   |
| Total Assets                                   | ** ** | **$**                           | **91,554** | ** **                      | ** ** |   |   |   | **$** | **63,574** |   |   |   |   |   |
|                                           |       |                            |       |                            |       |   |   |   |   |   |   |   |   |
| **Liabilities:**                               | ** ** | ** **                      | ** ** | ** **                      | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Interest-bearing  liabilities:                 |       |                            |       |                            |       |   |   |   |   |   |   |   |   |
| Interest-bearing  transaction accounts         |       | $                               | 2,484      |                            | $          | 15 |   | .62 | % | $ | 2,037 |   | $ | 23 |   | 1.15 | % |
| Savings and  money market accounts             |       | 17,821                          |       | 502                             |       | 2.82 | % | 17,523 |   | 806 |   | 4.60 | % |
| Time deposits                                  |       | 39,344                          |       | 1,785                           |       | 4.54 | % | 27,382 |   | 1,456 |   | 5.32 | % |
| Federal Home  Loan Bank advances               |       | 13,181                          |       | 431                             |       | 3.27 | % | 452 |   | 16 |   | 3.53 | % |
| Other short term  borrowings                   |       | 2,181                           |       | 60                              |       | 2.76 | % | 665 |   | 34 |   | 5.15 | % |
| ** **                                     | ** ** | ** **                      | ** ** | ** **                      | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Total  interest-bearing deposits               |       | $                               | 75,011     |                            | $          | 2,793 |   | 3.72 | % | $ | 48,059 |   | $ | 2,335 |   | 4.86 | % |
|                                           |       |                            |       |                            |       |   |   |   |   |   |   |   |   |
| Demand deposits                                |       | 6,869                           |       |                            |       |   |   | 5,432 |   |   |   |   |   |
| Accrued interest  and other liabilities        |       | 414                             |       |                            |       |   |   | 331 |   |   |   |   |   |
| Shareholders’  equity                     |       | 9,260                           |       |                            |       |   |   | 9,752 |   |   |   |   |   |
|                                           |       |                            |       |                            |       |   |   |   |   |   |   |   |   |
| Total liabilites and Shareholders’ equity |       | **$**                           | **91,554** |                            |       |   |   |   | **$** | **63,574** |   |   |   |   |   |
|                                           |       |                            |       |                            |       |   |   |   |   |   |   |   |   |
| Net interest  spread                           | ** ** | ** **                      | ** ** | ** **                      | ** ** | **2.82** | **%** | ** ** | ** ** | ** ** | ** ** | **2.77** | **%** |
| Net interest  income                           | ** ** | ** **                      | ** ** | **$**                           | **2,996**  | ** ** | ** ** | ** ** | ** ** | ** ** | **$** | **2,356** | ** ** | ** ** | ** ** |
| Net interest  margin (2)                       | ** ** | ** **                      | ** ** | ** **                      | ** ** | **3.38** | **%** | ** ** | ** ** | ** ** | ** ** | **3.83** | **%** |

 

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 (1)  There were three loans totaling $1,639,092 in nonaccrual status asof December 31, 2008.  The effect offees collected on loans totaling $79,847 increased the annualized yield onloans by .11% from 6.75%.  The effect onthe annualized yield on earning assets was an increase of .09% from 6.45%.  The effect on net interest spread and netinterest margin was an increase of .09% and .09% from 2.73% and 3.29%,respectively.  The net interest spread isthe difference between the yield we earn on our interest-earning assets and therate we pay on our interest-bearing liabilities.

 

There were three loans totaling $528,387 in nonaccrual status as of December 31,2007.   The effect of fees collected onloans totaling $102,029 increased the annualized yield on loans by .19% from7.76%.  The effect on the annualizedyield on earning assets was an increase of .17% from 7.46%.  The effect on net interest spread and netinterest margin was an increase of .17% and .17% from 2.60% and 3.66%,respectively.

 

(2)  Net interestincome divided by average earning assets.

 

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***Analysis of Changes in Net Interest Income.***** **Net interest income can also beanalyzed in terms of the impact of changing rates and changing volume.  The following table reflects the extent towhich changes in interest rates and changes in the volume of earning assets andinterest-bearing liabilities have affected our interest income and interestexpense during the periods indicated. Information on changes in each category attributable to (i) changesdue to volume (change in volume multiplied by prior period rate), (ii) changesdue to rates (changes in rates multiplied by prior period volume) and (iii) changesin rate/volume (change in rate multiplied by the change in volume) is providedas follows:

 
| ** **                                  | ** ** | **2008 compared to 2007** | ** ** |
|---------------------------------------------|------------|------------------------------------------|------------|
| **(Dollars in thousands)**                  | ** ** | **Volume****(1)**                        | ** ** | **Rate (1)** | ** ** | **Volume/Rate(2)** | ** ** | **Total** | ** ** |
|                                        |       |                                     |       |   |   |   |   |   |   |
| Interest Income:                            |       |                                     |       |   |   |   |   |   |   |
| Loans, incuding  fees                       |       | $                                        | 1,373      |   | $ | (584 | ) | $ | (189 | ) | $ | 600 |   |
| Securities,  available for sale, taxable    |       | 534                                      |       | (3 | ) | (5 | ) | 526 |   |
| Nonmarketable  equity securities            |       | 37                                       |       | (3 | ) | (16 | ) | 18 |   |
| Federal funds  sold                         |       | (42                                      | )          | (42 | ) | 33 |   | (51 | ) |
| Interest bearing  deposits with other banks |       | 7                                        |       | — |   | (2 | ) | 5 |   |
|                                        |       |                                     |       |   |   |   |   |   |   |
| Total interest  income                      |       | 1,909                                    |       | (632 | ) | (179 | ) | 1,098 |   |
| ** **                                  | ** ** | ** **                               | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Transaction  accounts                       |       | 5                                        |       | (11 | ) | (2 | ) | (8 | ) |
| Savings and  money market accounts          |       | 14                                       |       | (313 | ) | (5 | ) | (304 | ) |
| Time deposits                               |       | 636                                      |       | (213 | ) | (93 | ) | 330 |   |
| Federal Home  Loan Bank advances            |       | 449                                      |       | (1 | ) | (34 | ) | 414 |   |
| Other short-term  borrowings                |       | 78                                       |       | (16 | ) | (36 | ) | 26 |   |
|                                        |       |                                     |       |   |   |   |   |   |   |
| Total interest expense                      |       | 1,182                                    |       | (554 | ) | (170 | ) | 458 |   |
|                                        |       |                                     |       |   |   |   |   |   |   |
| **Net interest income**                     | ** ** | **$**                                    | **727**    | ** ** | **$** | **(78** | **)** | **$** | **(9** | **)** | **$** | **640** | ** ** |

 

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(1) Volume-ratechanges have been allocated to each category based on a consistent basisbetween rate and volume.

(2)  Changes to both rate and volume, (in (iii) above), which cannot besegregated, have been allocated proportionately.

 

***Interest Sensitivity****.*  Wemonitor and manage the pricing and maturity of our assets and liabilities inorder to diminish the potential adverse impact that changes in interest ratescould have on its net interest income. The principal monitoring technique employed by us is the measurement ofour interest sensitivity “gap”, which is the positive or negative dollardifference between assets and liabilities that are subject to interest raterepricing within a given period of time. Interest rate sensitivity can be managed by repricing assets orliabilities, selling securities available for sale, replacing an asset orliability at maturity, or adjusting the interest rate during the life of anasset or liability.  Managing the amountof assets and liabilities repricing in this same time interval helps to hedgethe risk and minimize the impact on net interest income of rising or fallinginterest rates.

 

30

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The following table sets forth our interestrate sensitivity at December 31, 2008:

 

**Interest Sensitivity Analysis**

 
| **(Dollars in thousands)**                       | ** ** | **Within  Three  Months** | ** ** | **After Three  Through  Twelve  Months** | ** ** | **One  Through  Five Years** | ** ** | **Greater  Than  Five Years  or Non-  sensitive** | ** ** | **Total**  | ** ** |
|--------------------------------------------------|------------|---------------------------|------------|-----------------------------------------------|------------|-----------------------------------|------------|-------------------------------------------------------------|------------|------------|------------|
| * *                                         |       |                      |       |                                          |       |                              |       |                                                        |       |       |       |
| **Assets**                                       |       |                      |       |                                          |       |                              |       |                                                        |       |       |       |
| Earning Assets:                                  |       |                      |       |                                          |       |                              |       |                                                        |       |       |       |
| Loans                                            |       | $                         | 36,457     |                                          | $          | 18,224                            |       | $                                                           | 16,513     |       | $          | 4,169 |   | $ | 75,363 |   |
| Investment securities                            |       | 944                       |       | 2,853                                         |       | 3,216                             |       | 9,376                                                       |       | 16,389     |       |
| Nonmarketable equity securities                  |       | —                    |       | —                                        |       | —                            |       | 891                                                         |       | 891        |       |
| Interest bearing deposits with other banks       |       | 35                        |       | —                                        |       | —                            |       | —                                                      |       | 35         |       |
| Total earning assets                             |       | 37,436                    |       | 21,077                                        |       | 19,729                            |       | 14,436                                                      |       | 92,678     |       |
|                                             |       |                      |       |                                          |       |                              |       |                                                        |       |       |       |
| **Liabilities**                                  |       |                      |       |                                          |       |                              |       |                                                        |       |       |       |
| Interest-bearing liabilities:                    |       |                      |       |                                          |       |                              |       |                                                        |       |       |       |
| Demand deposits                                  |       | 3,023                     |       | —                                        |       | —                            |       | —                                                      |       | 3,023      |       |
| Savings and money market deposits                |       | 20,286                    |       | —                                        |       | —                            |       | —                                                      |       | 20,286     |       |
| Time deposits                                    |       | 11,126                    |       | 23,108                                        |       | 4,702                             |       | —                                                      |       | 38,936     |       |
| Federal funds purchased                          |       | 236                       |       | —                                        |       | —                            |       | —                                                      |       | 236        |       |
| Federal Home Loan Bank advances                  |       | —                    |       | 1,000                                         |       | 10,500                            |       | 5,000                                                       |       | 16,500     |       |
| Total interest-bearing liabilities               |       | 34,671                    |       | 24,108                                        |       | 15,202                            |       | 5,000                                                       |       | 78,981     |       |
|                                             |       |                      |       |                                          |       |                              |       |                                                        |       |       |       |
| Period gap                                       | ** ** | **$**                     | **2,765**  | ** **                                    | **$**      | **(3,031**                        | **)**      | **$**                                                       | **4,527**  | ** ** | **$**      | **9,436** | ** ** | **$** | **13,697** | ** ** |
| Cumulative gap                                   | ** ** | **$**                     | **2,765**  | ** **                                    | **$**      | **(266**                          | **)**      | **$**                                                       | **4,261**  | ** ** | **$**      | **13,697** | ** ** | **$** | **13,697** | ** ** |
|                                             |       |                      |       |                                          |       |                              |       |                                                        |       |       |       |
| Ratio of cumulative gap to total earning  assets |       | 2.98                      | %          | (.29                                          | )%         | 4.60                              | %          | 14.78                                                       | %          | 14.78      | %          |

 

The above table reflects the balances of interest-earning assets andinterest-bearing liabilities at the earlier of their repricing or maturitydates.  Overnight federal funds arereflected at the earliest pricing interval due to the immediately availablenature of the instruments.  Debtsecurities are reflected at each instrument’s ultimate maturity date.  Scheduled payment amounts of fixed rateamortizing loans are reflected at each scheduled payment date.  Scheduled payment amounts of variable rateamortizing loans are reflected at each scheduled payment date until the loanmay be repriced contractually; the unamortized balance is reflected at thatpoint.  Interest-bearing liabilities withno contractual maturity, such as savings deposits and interest-bearingtransaction accounts, are reflected in the earliest repricing period due tocontractual arrangements which give us the opportunity to vary the rates paidon those deposits within a thirty-day or shorter period.  Fixed rate time deposits, principallycertificates of deposit, are reflected at their contractual maturity date.  Overnight federal funds purchased maturedaily and are reflected at the earliest pricing interval.  The Federal Home Loan Bank advances arereflected at their contractual maturity dates.

 

We generally would benefit from increasing marketrates of interest when we have an asset-sensitive gap position and generallywould benefit from decreasing market rates of interest when we areliability-sensitive.  We are cumulativelyliability sensitive through the first twelve months and cumulatively assetsensitive beyond one year.  However, ourgap analysis is not a precise indicator of its interest sensitivityposition.  The analysis presents only astatic view of the timing of maturities and repricing opportunities, withouttaking into consideration that changes in interest rates do not affect allassets and liabilities equally.  Netinterest income may be impacted by other significant factors in a giveninterest rate environment, including changes in the volume and mix of earningassets and interest-bearing liabilities.

 

**Provision and Allowancefor Loan Losses**

** **

***General****.*  Wehave developed policies and procedures for evaluating the overall quality ofits credit portfolio and the timely identification of potential problemcredits.  On a quarterly basis, our Boardof Directors reviews and approves the appropriate level for our allowance forloan losses based upon management’s recommendations, the results of the 

 

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internal monitoring and reporting system, and an analysis of economicconditions in our market.  The provisionfor loan losses reflects the amount deemed appropriate by management toestablish an adequate reserve to meet probable loan losses incurred in the loanportfolio.

 

Additions to the allowance for loan losses, which are expensed as theprovision for loan losses on our income statement, are made periodically tomaintain the allowance at an appropriate level based on management’s analysisof the risk inherent in the loan portfolio. Loan losses and recoveries are charged or credited directly to theallowance.  The amount of the provisionis a function of the level of loans outstanding, the level of nonperformingloans, the amount of loan losses actually charged against the reserve during agiven period, and current and anticipated economic conditions.

 

Our allowance for loan losses is based upon judgments and assumptionsabout risk elements in the portfolio, future economic conditions, and otherfactors affecting borrowers.  The processincludes identification and analysis of loss potential in various portfolio segmentsutilizing a credit risk grading process and specific reviews and evaluations ofsignificant problem credits.  Ourdetermination of the allowance for loan losses is based on evaluations of thecollectability of loans, including consideration of factors such as the balanceof impaired loans, the quality, mix, and size of our overall loan portfolio,economic conditions that may affect the borrower’s ability to repay, the amountand quality of collateral securing the loans, our historical loan lossexperience, and a review of specific problem loans.  We also consider subjective issues such aschanges in the lending policies and procedures, changes in the local/nationaleconomy, changes in volume or type of credits, changes in volume/severity ofproblem loans, quality of loan review and board of director oversight,concentrations of credit, and peer group comparisons.  The adequacy of the allowance for loan lossesand the effectiveness of our monitoring and analysis system are also reviewedperiodically by the banking regulators.

 

Due to our limited operating history, to date the provision for loanlosses has been made primarily as a result of our assessment of general loanloss risk compared to banks of similar size and maturity.  Due to our short operating history, the loansin our loan portfolio and our lending relationships are of very recentorigin.  In general, loans do not beginto show signs of credit deterioration or default until they have beenoutstanding for some period of time, a process known as seasoning.  As a result, a portfolio of older loans willusually behave more predictably than a newer portfolio.  Because our loan portfolio is new, thecurrent level of delinquencies and defaults may not be representative of thelevel that will prevail when the portfolio becomes more seasoned, which may behigher than current levels.

 

Based on present information and an ongoing evaluation, we consider theallowance for loan losses to be adequate to meet presently known and inherentrisks in the loan portfolio.  Ourjudgment about the adequacy of the allowance is based upon a number ofassumptions about future events which we believe to be reasonable but which mayor may not be accurate.  Thus, there canbe no assurance that charge-offs in future periods will not exceed theallowance for loan losses or that additional increases in the allowance forloan losses will not be required.  We donot allocate the allowance for loan losses to specific categories of loans butevaluates the adequacy on an overall portfolio basis utilizing a risk gradingsystem.

* *

The following table sets forth certain information with respect to ourallowance for loan losses and the composition of charge-offs and recoveries forthe years ended December 31, 2008 and 2007.

 

**Allowance for Loan Losses**

 
| **(Dollars in thousands)**                         | ** ** | **2008**   | ** ** | **2007**   | ** ** |
|--------------------------------------------------------------|------------|------------|------------|------------|------------|
|                                                         |       |       |       |       |       |
| Total loans outstanding at end of period                     | ** ** | **$**      | **75,363** | ** ** | **$**      | **65,764** | ** ** |
| ** **                                                   | ** ** | ** ** | ** ** | ** ** | ** ** |
| Average loans outstanding                                    | ** ** | **$**      | **70,663** | ** ** | **$**      | **53,398** | ** ** |
|                                                         |       |       |       |       |       |
| Balance of allowance for loan losses at  beginning of period |       | $          | 677        |       | $          | 389 |   |
|                                                         |       |       |       |       |       |
| Net loan losses                                              |       | (238       | )          | (3         | )          |
| Provision for loan losses                                    |       | 637        |       | 291        |       |
| Balance of allowance for loan losses at end  of year         | ** ** | **$**      | **1,076**  | ** ** | **$**      | **677** | ** ** |
|                                                         |       |       |       |       |       |
| Allowance for loan losses to period end  loans               |       | 1.43       | %          | 1.03       | %          |

 

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**NonperformingAssets**

** **

***Nonperforming Assets****.* There were three loans totaling $1,639,092which were nonperforming assets at December 31, 2008.  There were three loans totaling $528,387which were nonperforming assets at December 31, 2007.  There was one loan totaling $31,363 which was90 days or more past due and still accruing interest as of December 31,2008 which was facilitated by the bankruptcy court.  As of December 31, 2007, the Bank had noloans 90 days or more past due and still accruing interest.   Realestate acquired through foreclosure totaled $162,000 at December 31,2008.  There was no real estate acquiredthrough foreclosure at December 31, 2007.

 

Our policy with respect to nonperforming assets is as follows.  Accrual of interest will be discontinued on aloan when we believe, after considering economic and business conditions andcollection efforts that the borrower’s financial condition is such that thecollection of interest is doubtful.  Adelinquent loan will generally be placed in nonaccrual status when it becomes90 days or more past due.  When a loan isplaced in nonaccrual status, all interest which has been accrued on the loanbut remains unpaid will be reversed and deducted from current earnings as areduction of reported interest income. No additional interest will be accruedon the loan balance until the collection of both principal and interest becomesreasonably certain.  When a problem loanis finally resolved, there may ultimately be an actual write-down or charge-offof the principal balance of the loan which would necessitate additional chargesto earnings.

 

***Potential Problem Loans****.*  At December 31,2008, loans totaling $5,269,128 as compared to $2,267,869 for the prior yearwere criticized.  Loans totaling$2,462,246 and $528,387 were classified or impaired by our internal reviewmechanisms as of December 31, 2008 and 2007, respectively.  The impaired loans include a $684,000 loansecured by real estate for which management has not set aside a specificreserve due to our belief that a full recovery is likely pursuant to the legalactions which we are pursuing.  Theimpaired loans also include a $837,359 participation loan we hold on acommercial real estate development on the South Carolina coast.  The amount of the impairment on this loan isnot easily determinable.  Based uponcalculations of the present value of the collateral supporting this loan, webelieve our loan on this development is impaired by approximately $223,291, andwe have increased our reserves to reflect this impairment.  However, the actual impairment on this loanmay be greater than this amount and it is likely to increase.  Principal payments on this loan totaling$161,417 have been received during the year ended December 31, 2008.  The results of this internal review processare considered in determining our assessment of the adequacy of the allowancefor loan losses.  Included in theallowance for loan losses at December 31, 2008 and 2007 was $456,667 and$162,775, respectively, related to impaired loans.

 

# **Noninterest Income andExpense**

# ** **

***Noninterest Income****.* The largest component of noninterest income was service charges ondeposit accounts for the year ended December 31, 2008 which totaled$104,139 as compared to $73,683 in 2007. This increase was attributable to increased number of accounts and alsoto deteriorating economic conditions which increased NSF/overdraft feeincome.   Bankcard transaction feesincreased $23,208 to $52,235 for the year ended December 31, 2008attributable to increased transaction volume. Mortgage origination fee incometotaled $31,283 for the year ended December 31, 2008 and $162,165 for theyear ended December 31, 2007.  Unfavorable economic and industry conditions have decreased mortgageloan sales volume which has negatively impacted our mortgage origination feeincome.

 

The following table sets forth the principal components of noninterestincome for the years ended December 31, 2008 and 2007.

 
| **(Dollars in thousands)** | ** ** | **2008** | ** ** | **2007**   | ** ** |
|--------------------------------------|------------|----------|------------|------------|------------|
|                                 |       |     |       |       |       |
| Service charges on deposit accounts  |       | $        | 104        |       | $          | 74 |   |
| Mortgage origination fees            |       | 31       |       | 162        |       |
| Bankcard transaction fees            |       | 52       |       | 29         |       |
| Other                                |       | 51       |       | 41         |       |
|                                 |       |     |       |       |       |
| Total noninterest income             | ** ** | **$**    | **238**    | ** ** | **$**      | **306** | ** ** |

 

***Noninterest Expense****.  *Salaries and employee benefitscomprised the largest component of noninterest expense each year, totaling$1,683,528 and $1,684,220 for the years ended December 31, 2008 and 2007,respectively.   Occupancy 

 

33

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expense totaled $338,251 and $184,712 for theyears ended December 31, 2008 and 2007, respectively.   Increased occupancy expense of $153,539 in2008 from 2007 reflects costs resulting from the consolidation and relocationof our original main branch and original operations center to the renovated newmain branch facility in the same commercial subdivision in July 2008.  As a result of successful brand recognitionin our marketplace and management’s efforts to increase operationalefficiencies in the marketing area, marketing expenses decreased $98,139 to$160,014 from $258,153 for the years ended December 31, 2008 and 2007.

 

The following table sets forth the primary components of noninterestexpense for the years ended December 31, 2008 and 2007.

 
| **(Dollars in thousands)**     | ** ** | **2008** | ** ** | **2007**   | ** ** |
|------------------------------------------|------------|----------|------------|------------|------------|
|                                     |       |     |       |       |       |
| Salaries and employee benefits           |       | $        | 1,684      |       | $          | 1,684 |   |
| Net occupancy expense                    |       | 338      |       | 185        |       |
| Insurance                                |       | 32       |       | 22         |       |
| Advertising and marketing expense        |       | 160      |       | 258        |       |
| Office supplies, stationary and printing |       | 57       |       | 63         |       |
| Data processing                          |       | 298      |       | 265        |       |
| Professional fees                        |       | 187      |       | 197        |       |
| Furniture and equipment expense          |       | 220      |       | 201        |       |
| Telephone                                |       | 60       |       | 71         |       |
| Postage                                  |       | 15       |       | 13         |       |
| FDIC assessment expense                  |       | 58       |       | 41         |       |
| Other                                    |       | 229      |       | 201        |       |
|                                     |       |     |       |       |       |
| Total noninterest expense                | ** ** | **$**    | **3,338**  | ** ** | **$**      | **3,201** | ** ** |

 

**EarningAssets**

** **

***Loans****. *Loans are the largest category of earningassets and typically provide higher yields than the other types of earningassets.  Associated with the higher loanyields are the inherent credit and liquidity risks which we attempt to controland counterbalance.  Loans averaged$70,663,104 and $53,397,968 in 2008 and 2007, respectively.  At December 31, 2008 and 2007, totalloans were $75,363,221 and $65,764,459, respectively.

 

The following table sets forth the composition of the loan portfolio bycategory at December 31, 2008 and 2007 and highlights our general emphasison real-estate lending.

 

**Composition of Loan Portfolio**

 
| ** **                                                | ** ** | **2008**   | ** ** | **2007**             | ** ** |
|-----------------------------------------------------------|------------|------------|------------|----------------------|------------|
| **December 31,****(Dollars in thousands)** | ** ** | **Amount** | ** ** | **% of  Total** | ** ** | **Amount** | ** ** | **% of  Total** | ** ** |
| Commerical and industrial                                 |       | $          | 4,793      |                 | 6.35       | % | $ | 4,562 |   | 6.92 | % |
| Real estate:                                              |       |       |       |                 |       |   |   |   |   |
| Mortgage                                                  |       | 50,807     |       | 67.36                | %          | 42,690 |   | 64.81 | % |
| Construction, land development  and other land loans      |       | 17,995     |       | 23.86                | %          | 18,028 |   | 27.37 | % |
| Agriculture                                               |       | 850        |       | 1.13                 | %          | — |   | — |   |
| Consumer                                                  |       | 984        |       | 1.30                 | %          | 592 |   | .90 | % |
| Total loans                                               | ** ** | **$**      | **75,429** | ** **           | **100.00** | **%** | **$** | **65,872** | ** ** | **100.00** | **%** |
|                                                      |       |       |       |                 |       |   |   |   |   |
| Allowance for loan losses                                 |       | 1,076      |       |                 |       | 677 |   |   |   |
| Deferred loan origination fees,  net                      |       | 66         |       |                 |       | 108 |   |   |   |
|                                                      |       |       |       |                 |       |   |   |   |   |
| Net loans                                                 | ** ** | **$**      | **74,287** | ** **           | ** ** |   | **$** | **65,087** |   |   |   |

 

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The largest component of loans in our loan portfolio is real estatemortgage loans.  At December 31,2008, real estate mortgage loans totaled $50,806,898, or 67.36% of our totalloan portfolio, compared to $42,690,242, or 64.81%, in 2007.

 

In the context of this discussion, a “real estate mortgage loan” isdefined as any loan, other than a loan for construction, land development andother land, secured by real estate, regardless of the purpose of the loan.  It is common practice for financialinstitutions in our market area to obtain a security interest in real estatewhenever possible, in addition to any other available collateral. Thiscollateral is taken to reinforce the likelihood of the ultimate repayment ofthe loan and tends to increase the magnitude of the real estate loan portfoliocomponent.

 

Residential mortgage loans totaled $27,517,513 at December 31,2008, compared to $21,886,078 in 2007. Residential real estate loans consist offirst and second mortgages on single or multi-family residentialdwellings.   Nonresidential mortgageloans, which include commercial loans, other loans secured by multi-familyproperties and farmland, totaled $23,289,385 at December 31, 2008 and$20,804,164 in 2007.  Commercial realestate loans are generally viewed as having more risk of default thanresidential real estate loans.  They arealso typically larger than residential real estate loans and consumer loans anddepend on cash flows from the owner’s business or the property to service thedebt.  Cash flows may be affectedsignificantly by general economic conditions (including rising interest rates)and a downturn in the local economy or in occupancy rates in the local economywhere the property is located could increase the likelihood of default.  Because our loan portfolio contains a numberof commercial real estate loans with relatively large balances, thedeterioration of one or a few of these loans could cause a significant increasein our level of non-performing loans.  Anincrease in non-performing loans could result in a loss of earnings from theseloans, an increase in the related provision for loan losses and an increase incharge-offs, all of which could have a material adverse effect on our financialcondition and results of operations.

 

Construction, land development and other land loans totaled $17,995,142at December 31, 2008 and $18,027,664 in 2007.  The demand for this type of loan has beenstrong due to the amount of new development in our market area in recent years.

 

Commercial and industrial loans totaled $4,793,257 at December 31,2008 and $4,561,846 in 2007 and comprised 6.35% and 6.92%, respectively, of ourtotal portfolio.

 

At December 31, 2008, there was one agriculture loan totaling$850,000.  There were no agricultureloans as of December 31, 2007.

 

Our loan portfolio also includes consumer loans.  At December 31, 2008, consumer loanstotaled $984,411, compared to $592,378 in 2007, and represented 1.30% and .90%,respectively, of the total loan portfolio on such dates.

 

Our loan portfolio reflects the diversity of our market.  Our home office is located in Bluffton, SouthCarolina.   We expanded our existing loanproduction office on Hilton Head Island, South Carolina, into a full-servicebranch in October 2007.  We believethe diversity of the economy in our market creates opportunities for varioustypes of lending.  We do not engage inforeign lending.

 

35

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The repayment of loans in the loan portfolio as they mature is also asource of liquidity for us.  The followingtable sets forth our loans maturing within specified intervals at December 31,2008.

 

**Loan Maturity Schedule and Sensitivity to Changes inInterest Rates**

 
| **December 31, 2008****(Dollars in thousands)** | ** ** | **One Year  or Less** | ** ** | **Over One  Year  Through  Five Years** | ** ** | **Over  Five years** | ** ** | **Total** | ** ** |
|---------------------------------------------------------------------|------------|---------------------------------|------------|---------------------------------------------------|------------|---------------------------|------------|-----------|------------|
|                                                                |       |                            |       |                                              |       |                      |       |      |       |
| Commerical and industrial                                           |       | $                               | 2,344      |                                              | $          | 1,848                     |       | $         | 601        |   | $ | 4,793 |   |
| Real estate-mortgage                                                |       | 11,108                          |       | 28,688                                            |       | 11,011                    |       | 50,807    |       |
| Real estate-construction, land development  and other land          |       | 7,064                           |       | 10,754                                            |       | 177                       |       | 17,995    |       |
| Agriculure                                                          |       | 850                             |       | —                                            |       | —                    |       | 850       |       |
| Consumer and other                                                  |       | 282                             |       | 658                                               |       | 44                        |       | 984       |       |
| ** **                                                          | ** ** | **$**                           | **21,648** | ** **                                        | **$**      | **41,948**                | ** ** | **$**     | **11,833** | ** ** | **$** | **75,429** | ** ** |
|                                                                |       |                            |       |                                              |       |                      |       |      |       |
| Loans maturing after one year  with:                                |       |                            |       |                                              |       |                      |       |      |       |
| Fixed interest rates                                                |       |                            |       |                                              |       |                      |       | $         | 37,108     |   |
| Floating interest rates                                             |       |                            |       |                                              |       |                      |       | 16,673    |       |
| ** **                                                          | ** ** | ** **                      | ** ** | ** **                                        | ** ** | ** **                | ** ** | **$**     | **53,781** | ** ** |

 

The information presented in the above table is based on thecontractual maturities of the individual loans, including loans which may besubject to renewal at their contractual maturity.  Renewal of such loans is subject to reviewand credit approval as well as modification of terms upon their maturity.  Consequently, we believe this treatmentpresents fairly the maturity and repricing structure of the loan portfolioshown in the above table.

 

**Investments**

** **

***Investment Securities****.* The investment securities portfolio is alsoa component of our total earning assets. Total securities available for saleaveraged $16,833,738 in 2008 and $7,031,172 in 2007.  At December 31, 2008, the securitiesavailable for sale portfolio totaled $16,388,747 and $13,599,116 in 2007.  All securities designated as available forsale were recorded at market value.

 

The following table sets forth the scheduled maturities and averageyields of securities available for sale at December 31, 2008.

 

**Investment Securities Maturity Distribution and Yields**

** **
| **December 31, 2008**      | ** ** | **One Year  or Less** | ** ** | **Over One Year  Through  Five Years** | ** ** | **Over Five Years  Through  Ten years** | ** ** | **Over  Ten Years** | ** ** | **Total**  | ** ** |
|--------------------------------------|------------|---------------------------------|------------|-------------------------------------------------------|------------|--------------------------------------------------------|------------|--------------------------|------------|------------|------------|
| **(Dollars in thousands)** | ** ** | **Amount**                      | ** ** | **Yield**                                             | ** ** | **Amount**                                             | ** ** | **Yield**                | ** ** | **Amount** | ** ** | **Yield** | ** ** | **Amount** | ** ** | **Yield** | ** ** | **Amount** | ** ** | **Yield** | ** ** |
|                                 |       |                            |       |                                                  |       |                                                   |       |                     |       |       |       |   |   |   |   |   |   |   |   |   |   |
| Mortgage-backed Securities           |       | —                          |       | —                                                |       | —                                                 |       | —                   |       | $          | 1,280      |   | 5.36 | % | $ | 15,109 |   | 5.01 | % | $ | 16,389 |   | 5.04 | % |
| Total                                | ** ** | —                          | ** ** | —                                                | ** ** | —                                                 | ** ** | —                   | ** ** | **$**      | **1,280**  | ** ** | **5.36** | **%** | **$** | **15,109** | ** ** | **5.01** | **%** | **$** | **16,389** | ** ** | **5.04** | **%** |

 

Nonmarketable equity securities totaled$891,200 and $318,400 and had a yield of 3.39% and 5.96% at December 31,2008 and 2007, respectively.

 

Other attributes of the securities portfolio, including yields andmaturities, are discussed above in “—Net Interest Income— Interest Sensitivity.”

 

***Short-Term Investments****.* Short-term investments, which consistprimarily of federal funds sold and time deposits with other banks, averaged$356,270 in 2008 and $977,470 in 2007. At December 31, 2008 and 2007, we had no federal funds sold.  Federal funds are generally invested in anearning capacity on an overnight basis.

 

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# ** **

# **Deposits and OtherInterest-Bearing Liabilities**

# ** **

***Deposits****.* Average total deposits totaled $66,518,436during 2008 and $52,374,427 during 2007. At December 31, 2008, total deposits were $67,967,234 and$63,469,102 in 2007.  Averageinterest-bearing liabilities totaled $75,011,115 in 2008 and $48,058,601 in2007.

 

The following table sets forth our deposits by category as of December 31,2008 and 2007.

 

**Deposits**

 
| ** **                                              | ** ** | **2008**   | ** ** | **2007**                | ** ** |
|---------------------------------------------------------|------------|------------|------------|-------------------------|------------|
| **December 31,  (Dollars in thousands)** | ** ** | **Amount** | ** ** | **% of  Deposits** | ** ** | **Amount** | ** ** | **% of  Deposits** | ** ** |
| Demand deposit accounts                                 |       | $          | 5,722      |                    | 8.42       | % | $ | 5,952 |   | 9.38 | % |
| NOW accounts                                            |       | 3,023      |       | 4.45                    | %          | 2,536 |   | 4.00 | % |
| Savings and money market accounts                       |       | 20,286     |       | 29.85                   | %          | 17,713 |   | 27.91 | % |
| Time deposits of $100 or over                           |       | 20,195     |       | 29.71                   | %          | 9,956 |   | 15.68 | % |
| Other time deposits                                     |       | 18,741     |       | 27.57                   | %          | 27,312 |   | 43.03 | % |
| Total deposits                                          | ** ** | **$**      | **67,967** | ** **              | **100.00** | **%** | **$** | **63,469** | ** ** | **100.00** | **%** |

 

Core deposits, which exclude certificates of deposit of $100,000 ormore, provide a relatively stable funding source for our loan portfolio andother earning assets.  Our core depositswere $47,772,197 at December 31, 2008 and $53,512,720 in 2007.

 

Deposits, and particularly core deposits, have been a primary source offunding and have enabled us to meet successfully both our short-term andlong-term liquidity needs.  Competitionfor core deposits is intense in our market and we expect the depositcompetition to remain in the near future. Our loan-to-deposit ratio was 110.88% and 103.62% at December 31,2008 and 2007, respectively.

 

The maturity distribution of our time deposits over $100,000 at December 31,2008, is set forth in the following table:

 

**Maturities of Certificates of Deposit of $100,000 orMore**

 
| **(Dollars in thousands)**    | ** ** | **Within  Three  Months** | ** ** | **After Three  Through  Twelve  Months** | ** ** | **One  Through  Five Years** | ** ** | **Greater  Than  Five Years** | ** ** | **Total** | ** ** |
|-----------------------------------------|------------|---------------------------|------------|-----------------------------------------------|------------|-----------------------------------|------------|------------------------------------|------------|-----------|------------|
|                                    |       |                      |       |                                          |       |                              |       |                               |       |      |       |
| Certificates of deposit of $100 or more |       | $                         | 6,036      |                                          | $          | 13,134                            |       | $                                  | 1,025      |      | $          | — |   | $ | 20,195 |   |
|                                         |            |                           |            |                                               |            |                                   |            |                                    |            |           |            |  |  |  |  |  |

 

Of our time deposits over $100,000, 29.89% had scheduled maturitieswithin three months, 65.04% had maturities after three through twelve monthsand 5.07% had maturities of one year to five years.  Large certificate of deposit customers may beextremely sensitive to interest rate levels, making these deposits lessreliable sources of funding for liquidity planning purposes than coredeposits.  At December 31, 2008,$3,700,000 of our time deposits over $100,000 was public deposits secured bypledged investments.  There were nopublic deposits as of December 31, 2007.

 

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***Other Borrowings.***The following table summarizes our borrowingsfor the year ended December 31, 2008. At December 31, 2008, there were $16,500,000 advances from theFederal Home Loan Bank of Atlanta.  Theseadvances are discussed in the footnotes to the financial statements and aresecured by a portion of our investment portfolio, our investment in FederalHome Loan Bank stock and certain commercial and residential loans, includinglines of credit.    Federal funds areshort-term borrowings from other financial institutions that mature daily.  Of the federal funds purchased at December 31,2008, $236,500 was secured by a portion of our investment portfolio.  In 2008, we have also utilized short-termborrowings from the Federal Reserve discount window which are secured by aportion of our lot loan portfolio.  Therewere no Federal Reserve discount window advances as of December 31,2008.  There was one $5,000,000 advancefrom the Federal Home Loan Bank and $3,838,200 federal funds purchased as of December 31,2007.  Of the federal funds purchased at December 31,2007, $2,800,000 was secured by a portion of our investment portfolio.  The remaining balance of federal fundspurchased at December 31, 2007 was unsecured.

 
| **(Dollars in thousands)**     | ** ** | **Maximum  Outstanding  at any  Month End** | ** ** | **Average  Balance** | ** ** | **Weighted  Average  Interest  Rate** | ** ** | **Balance  December 31,** | ** ** | **Interest  Rate at  December 31,** | ** ** |
|------------------------------------------|------------|-------------------------------------------------------|------------|----------------------|------------|---------------------------------------|------------|--------------------------------|------------|-----------------------------------------------|------------|
|                                     |       |                                                  |       |                 |       |                                  |       |                           |       |                                          |       |
| Advances from the Federal Home Loan Bank |       | $                                                     | 16,500     |                 | $          | 13,181                                |       | 3.27                           | %          | $                                             | 16,500     |   | 3.32 | % |
|                                     |       |                                                  |       |                 |       |                                  |       |                           |       |                                          |       |
| Federal funds purchased                  |       | 4,044                                                 |       | 2,036                |       | 2.84                                  | %          | 236                            |       | .75                                           | %          |
|                                     |       |                                                  |       |                 |       |                                  |       |                           |       |                                          |       |
| Federal Reserve discount window          |       | 2,000                                                 |       | 145                  |       | 1.65                                  | %          | —                         |       | —                                        |       |
|                                          |            |                                                       |            |                      |            |                                       |            |                                |            |                                               |            |  |  |  |

 

**Capital**

** **

The Federal Reserve and bank regulatory agencies require bank holdingcompanies and financial institutions to maintain capital at adequate levelsbased on a percentage of assets and off balance sheet exposures, adjusted forrisk weights ranging from 0% to 100%.

 

The Federal Reserve guidelines contain an exemption from the capitalrequirements for “small bank holding companies,” which in 2006 were amended tocover most bank holding companies with less than $500 million in total assetsthat do not have a material amount of debt or equity securities outstandingregistered with the SEC.  Although wefile periodic reports with the SEC, we believe that because our stock is notregistered under Section 12 of the Securities Exchange Act and is notlisted on any exchange or otherwise actively traded, the Federal Reserve Boardwill interpret its new guidelines to mean that we qualify as a small bankholding company.  Nevertheless, our bankremains subject to these capital requirements.

 

Failure to meet minimum capital requirements can initiate certainmandatory and possibly additional discretionary actions by regulators that, ifundertaken, could have a material effect on the bank’s financialstatements.  Under capital adequacyguidelines and the regulatory framework for prompt corrective action, the bankmust meet specific capital guidelines that involve quantitative measures of thebank’s assets, liabilities, and certain off-balance-sheet items as calculatedunder regulatory accounting practices. The bank’s capital amounts and classifications are also subject toqualitative judgments by the regulators about components, risk weightings, andother factors.

 

Quantitative measures established by regulation to ensure capitaladequacy require the bank to maintain minimum ratios of Tier 1 and totalcapital as a percentage of assets and off-balance-sheet exposures, adjusted forrisk weights ranging from 0% to 100%. Tier 1 capital of the bank consists of common shareholders’ equity,excluding the unrealized gain or loss on securities available-for-sale, minuscertain intangible assets.  The bank’sTier 2 capital consists of the allowance for loan losses subject to certainlimitations.  Total capital for purposesof computing the capital ratios consists of the sum of Tier 1 and Tier 2capital.  The regulatory minimum requirementsare 4% for Tier 1 capital and 8% for total risk-based capital.

 

The bank is also required to maintain capital at a minimum level basedon quarterly average assets, which is known as the leverage ratio.  Only the strongest banks are allowed tomaintain capital at the minimum requirement of 3%.  All others are subject to maintaining ratios1% to 2% above the minimum.

 

38

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The bank exceeded the regulatory capital requirements at December 31as set forth in the following table.

 

**Analysis of Capital and Capital Ratios**

 
| **December 31,****(Dollars in thousands)**           | ** ** | **2008**   | ** ** | **2007**   | ** ** |
|---------------------------------------------------------------------|------------|------------|------------|------------|------------|
| ** **                                                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Tier 1 capital                                                      |       | $          | 8,099      |       | $          | 8,495 |   |
| Tier 2 capital                                                      |       | 873        |       | 677        |       |
| Total qualifying capital                                            | ** ** | **$**      | **8,972**  | ** ** | **$**      | **9,172** | ** ** |
|                                                                |       |       |       |       |       |
| Risk-adjusted total assets  (including off-balance-sheet-exposures) | ** ** | **$**      | **69,648** | ** ** | **$**      | **62,589** | ** ** |
|                                                                |       |       |       |       |       |
| Tier 1 risk-based capital ratio                                     | ** ** | **11.63**  | **%**      | **13.57**  | **%**      |
| Total risk-based capital ratio                                      | ** ** | **12.88**  | **%**      | **14.65**  | **%**      |
| Tier 1 leverage ratio                                               | ** ** | **8.61**   | **%**      | **11.26**  | **%**      |

 

**Off-BalanceSheet Risk**

** **

Through our operations, wehave made contractual commitments to extend credit in the ordinary course ofour business activities. These commitments are legally binding agreements tolend money to our customers at predetermined interest rates for a specifiedperiod of time.  At December 31,2008, we had issued commitments to extend credit of $11,500,006 through varioustypes of lending arrangements.  Therewere also $360,073 outstanding commercial letters of credit at December 31,2008.

 

The following table setsforth the length of time until maturity for unused commitments to extend creditand standby letters of credit at December 31, 2008.

 
| **(Dollars in thousands)** | ** ** | **Within  Three  Months** | ** ** | **After Three  Through  Twelve  Months** | ** ** | **One  Through  Five Years** | ** ** | **Greater  Than  Five Years** | ** ** | **Total** | ** ** |
|--------------------------------------|------------|---------------------------|------------|-----------------------------------------------|------------|-----------------------------------|------------|------------------------------------|------------|-----------|------------|
|                                 |       |                      |       |                                          |       |                              |       |                               |       |      |       |
| Unused commitments to extend credit  |       | $                         | 1,620      |                                          | $          | 4,989                             |       | $                                  | 2,953      |      | $          | 2,298 |   | $ | 11,860 |   |
|                                      |            |                           |            |                                               |            |                                   |            |                                    |            |           |            |  |  |  |  |  |

 

We evaluate each customer’scredit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by us uponextension of credit, is based on its credit evaluation of the borrower.  Collateral varies but may include accountsreceivable, inventory, property, plant and equipment, commercial andresidential real estate.

 

**Critical Accounting Policies**

** **

We have adopted variousaccounting policies which govern the application of accounting principlesgenerally accepted in the United States in the preparation of our financialstatements.  Our significant accountingpolicies are described in the footnotes to the consolidated financialstatements at December 31, 2008 as included in Item 7 of this annualreport on Form 10-K.  Certainaccounting policies involve significant judgments and assumptions which have amaterial impact on the carrying value of certain assets and liabilities.  These accounting policies are considered tobe critical accounting policies.  Thejudgments and assumptions used are based on historical experience and otherfactors, which are believed to be reasonable under the circumstances.  Because of the nature of the judgments andassumptions, actual results could differ from these judgments and estimateswhich could have a material impact on the carrying values of assets andliabilities and results of operations.

 

Webelieve the allowance for loan losses is a critical accounting policy thatrequires the most significant judgments and estimates used in preparation ofthe consolidated financial statements. Refer to the portion of the discussion above that addresses theallowance for loan losses for a description of our processes and methodologyfor determining our allowance for loan losses.

 

39

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** **

**Liquidity Management and Capital Resources**

** **

Liquidity management involves monitoring our sources and uses of fundsin order to meet our day-to-day cash flow requirements while maximizing profits.  Liquidity represents the ability of us toconvert assets into cash or cash equivalents without significant loss and toraise additional funds by increasing liabilities.  Without proper liquidity management, we wouldnot be able to perform the primary function of a financial intermediary andwould, therefore, not be able to meet the needs of the communities it serves.

 

Liquidity management is made more complex because different balancesheet components are subject to varying degrees of management control.  For example, the timing of maturities of theinvestment portfolio is very predictable and subject to a high degree ofcontrol at the time investment decisions are made.  However, net deposit inflows and outflows arefar less predictable and are not subject to nearly the same degree ofcontrol.  We also have the ability toobtain funds from various financial institutions should the need arise.

 

As discussed in Note 17 in the consolidated financial statements, theCompany has the ability to obtain additional federal funds in the amount of$8,263,000 as of December 31, 2008.  Inaddition, the Company has the ability to borrow additional funds from theFederal Home Loan Bank of $1,355,073 as of December 31, 2008.  At December 31, 2008 the Company also had $6,903,991available for short term advances at the Discount Window with the FederalReserve Bank of Richmond.   The Companyalso has $4,868,434 in securities available for sale that are not pledged atDecember 31, 2008.

 

**Impactof Inflation**

** **

Unlike most industrial companies, the assets and liabilities offinancial institutions such as the bank are primarily monetary in nature.  Therefore, interest rates have a moresignificant effect on the bank’s performance than do the effects of changes inthe general rate of inflation and change in prices.  In addition, interest rates do notnecessarily move in the same direction or in the same magnitude as the pricesof goods and services.  As discussedpreviously, management seeks to manage the relationships between interestsensitive assets and liabilities in order to protect against wide interest ratefluctuations, including those resulting from inflation.

 
| ** **                              | ** ** | **2008** | ** ** | **2007** | ** ** |
|-----------------------------------------|------------|----------|------------|----------|------------|
|                                    |       |     |       |     |       |
| Return on average assets                |       | (.53     | )%         | (.89     | )%         |
| Return on average equity                |       | (5.28    | )%         | (5.83    | )%         |
| Average equity to average assets  ratio |       | 10.11    | %          | 15.34    | %          |

 

40

----

** **

**Item 8— Financial Statements**

** **

**ATLANTIC BANCSHARES, INC.**

 

Consolidated Financial Statements

 

#### **and**

#### ** **

#### **Report of Independent Registered Public AccountingFirm**

#### ** **

#### **December 31, 2008 and 2007**

 

F-1

----

 

**ATLANTIC BANCSHARES, INC.**

** **

#### **Table of Contents**

#### ** **

| ** **                                                                                | ** ** | **Page No.** |
|-------------------------------------------------------------------------------------------|------------|-------------------|
| ** **                                                                                | ** ** | ** **        |
| Report  of Independent Registered Public Accounting Firm                                  |       | F-3               |
| Consolidated Balance Sheets                                                               |       | F-4               |
| Consolidated Statements of Operations                                                     |       | F-5               |
| Consolidated Statements of Changes in Shareholders’  Equity and Comprehensive Income |       | F-6               |
| Consolidated Statements of Cash Flows                                                     |       | F-7               |
| Notes to Consolidated Financial Statements                                                |       | F-8-F-28          |
| Corporate  Data                                                                           |       | 41                |

 

F-2

----

 

Elliott Davis

1901 Main Street, Suite 1650

PO Box 2227

Columbia, South Carolina 29202-2227

 

## **REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM**

##  

The Board of Directors

Atlantic Bancshares, Inc.

Bluffton, South Carolina

 

We have audited the accompanying consolidated balance sheets ofAtlantic Bancshares, Inc. and Subsidiary as of December 31, 2008 and2007, and the related consolidated statements of operations, changes inshareholders’ equity and comprehensive income, and cash flows for the yearsthen ended.  These consolidated financialstatements are the responsibility of the Company’s management.  Our responsibility is to express an opinionon these consolidated financial statements based on our audits.

 

We conducted our audits in accordance with the standards of the PublicCompany Accounting Oversight Board (United States). Those standards requirethat we plan and perform the audit to obtain reasonable assurance about whetherthe financial statements are free of material misstatement.  An audit includes examining, on a test basis,evidence supporting the amounts and disclosures in the financial statements.  An audit also includes assessing theaccounting principles used and significant estimates made by management, aswell as evaluating the overall financial statement presentation.  We believe that our audits provide areasonable basis for our opinion.

 

In our opinion, the consolidated financial statements referred to abovepresent fairly, in all material respects, the financial position of AtlanticBancshares, Inc. and Subsidiary, at December 31, 2008 and 2007, andthe results of their operations and cash flows for the years then ended, inconformity with accounting principles generally accepted in the United Statesof America.

 

We were not engaged to examine management’s assertion about theeffectiveness of Atlantic Bancshares, Inc. and Subsidiary’s internalcontrol over financial reporting as of December 31, 2008 included in theaccompanying Management’s Report on Internal Control over Financial Reportingand, accordingly, we do not express an opinion thereon.

 

 

s/Elliott Davis, LLC

 

Elliott Davis, LLC

Columbia, South Carolina

March 16, 2009

 

F-3

----

 

**ATLANTIC BANCSHARES, INC.**

** **

**Consolidated Balance Sheets**

** **
| ** **                                                                                         | ** ** | **December 31,** | ** **     |
|----------------------------------------------------------------------------------------------------|------------|-----------------------|----------------|
| ** **                                                                                         | ** ** | **2008**              | ** **     | **2007** | ** ** |
| **Assets:**                                                                                        | ** ** | ** **            | ** **     | ** ** | ** ** |
| Cash and cash equivalents:                                                                         |       |                  |           |   |   |
| Cash and due from banks                                                                            |       | $                     | 577,915        |   | $ | 1,630,198 |   |
| Total cash and cash equivalents                                                                    |       | 577,915               |           | 1,630,198 |   |
|                                                                                               |       |                  |           |   |   |
| Securities available for sale                                                                      |       | 16,388,747            |           | 13,599,116 |   |
| Nonmarketable equity securities                                                                    |       | 891,200               |           | 318,400 |   |
|                                                                                               |       |                  |           |   |   |
| Loans receivable                                                                                   |       | 75,363,221            |           | 65,764,459 |   |
| Less allowance for loan losses                                                                     |       | (1,075,776            | )              | (677,850 | ) |
| Loans, net                                                                                         |       | 74,287,445            |           | 65,086,609 |   |
|                                                                                               |       |                  |           |   |   |
| Accrued interest receivable                                                                        |       | 319,048               |           | 369,775 |   |
| Premises, furniture and  equipment, net                                                            |       | 1,177,974             |           | 397,451 |   |
| Deferred tax asset                                                                                 |       | 1,137,312             |           | 1,073,313 |   |
| Other assets                                                                                       |       | 365,190               |           | 157,878 |   |
| Total assets                                                                                       | ** ** | **$**                 | **95,144,831** | ** ** | **$** | **82,632,740** | ** ** |
|                                                                                               |       |                  |           |   |   |
| **Liabilities:**                                                                                   | ** ** | ** **            | ** **     | ** ** | ** ** |
| Deposits:                                                                                          |       |                  |           |   |   |
| Noninterest bearing transaction  accounts                                                          |       | $                     | 5,722,426      |   | $ | 5,951,955 |   |
| Interest-bearing transaction  accounts                                                             |       | 3,023,016             |           | 2,536,183 |   |
| Savings and money market                                                                           |       | 20,285,985            |           | 17,712,595 |   |
| Time deposits $100,000 and over                                                                    |       | 20,195,037            |           | 9,956,382 |   |
| Other time deposits                                                                                |       | 18,740,770            |           | 27,311,987 |   |
| Total deposits                                                                                     |       | 67,967,234            |           | 63,469,102 |   |
|                                                                                               |       |                  |           |   |   |
| Advances from Federal Home Loan  Bank                                                              |       | 16,500,000            |           | 5,000,000 |   |
| Federal funds purchased                                                                            |       | 236,500               |           | 3,838,200 |   |
| Accrued interest payable                                                                           |       | 290,791               |           | 196,852 |   |
| Other liabilities                                                                                  |       | 180,302               |           | 146,328 |   |
| Total liabilities                                                                                  |       | 85,174,827            |           | 72,650,482 |   |
|                                                                                               |       |                  |           |   |   |
| Commitments and contingencies  (Notes 12 and 14)                                                   |       |                  |           |   |   |
|                                                                                               |       |                  |           |   |   |
| **Shareholders’ equity:**                                                                     | ** ** | ** **            | ** **     | ** ** | ** ** |
| Preferred stock, no par value;  10,000,000 shares authorized; no shares issued and outstanding     |       | —                |           | — |   |
| Common stock, no par value;  10,000,000 shares authorized; 1,251,577 shares issued and outstanding |       | 11,982,122            |           | 11,982,122 |   |
| Capital surplus                                                                                    |       | 271,806               |           | 159,781 |   |
| Accumulated other comprehensive  income                                                            |       | 385,065               |           | 20,518 |   |
| Deficit                                                                                            |       | (2,668,989            | )              | (2,180,163 | ) |
| Total shareholders’ equity                                                                    |       | 9,970,004             |           | 9,982,258 |   |
| Total liabilities and  shareholders’ equity                                                   | ** ** | **$**                 | **95,144,831** | ** ** | **$** | **82,632,740** | ** ** |

 

The accompanying notes are an integral part of theconsolidated financial statements.

 

F-4

----

 

**ATLANTIC BANCSHARES, INC.**

** **

**Consolidated Statements of OperationsFor the years ended December 31, 2008 and 2007**

*** ***
| ** **                                               | ** ** | **2008**   | ** **   | **2007**   | ** ** |
|----------------------------------------------------------|------------|------------|--------------|------------|------------|
| ** **                                               | ** ** | ** ** | ** **   | ** ** | ** ** |
| **Interest income:**                                     | ** ** | ** ** | ** **   | ** ** | ** ** |
| Loans, including fees                                    |       | $          | 4,847,642    |       | $          | 4,247,639 |   |
| Securities, available for sale,  taxable                 |       | 910,359    |         | 383,615    |       |
| Nonmarketable equity securities                          |       | 24,846     |         | 6,778      |       |
| Federal funds sold                                       |       | 2,291      |         | 52,711     |       |
| Interest bearing deposits with  other banks              |       | 4,557      |         | 756        |       |
| Total                                                    |       | 5,789,695  |         | 4,691,499  |       |
| ** **                                               | ** ** | ** ** | ** **   | ** ** | ** ** |
| **Interest expense:**                                    | ** ** | ** ** | ** **   | ** ** | ** ** |
| Time deposits $100,000 and over                          |       | 669,038    |         | 496,289    |       |
| Other deposits                                           |       | 1,633,378  |         | 1,788,674  |       |
| Other borrowings                                         |       | 490,958    |         | 50,216     |       |
| Total                                                    |       | 2,793,374  |         | 2,335,179  |       |
|                                                     |       |       |         |       |       |
| **Net interest income**                                  |       | 2,996,321  |         | 2,356,320  |       |
|                                                     |       |       |         |       |       |
| Provision for loan losses                                |       | 637,200    |         | 291,584    |       |
| **Net interest income after  provision for loan losses** |       | 2,359,121  |         | 2,064,736  |       |
|                                                     |       |       |         |       |       |
| **Noninterest income:**                                  | ** ** | ** ** | ** **   | ** ** | ** ** |
| Service fees on deposit accounts                         |       | 104,139    |         | 73,683     |       |
| Residential mortgage origination  fees                   |       | 31,283     |         | 162,165    |       |
| Other income                                             |       | 102,589    |         | 70,665     |       |
| Total noninterest income                                 |       | 238,011    |         | 306,513    |       |
| ** **                                               | ** ** | ** ** | ** **   | ** ** | ** ** |
| **Noninterest expenses:**                                | ** ** | ** ** | ** **   | ** ** | ** ** |
| Salaries and employee benefits                           |       | 1,683,528  |         | 1,684,220  |       |
| Net occupancy                                            |       | 338,251    |         | 184,712    |       |
| Professional fees                                        |       | 186,844    |         | 197,192    |       |
| Marketing                                                |       | 160,014    |         | 258,153    |       |
| Furniture and equipment                                  |       | 220,191    |         | 201,437    |       |
| Data processing and related costs                        |       | 298,046    |         | 264,644    |       |
| Other operating                                          |       | 450,878    |         | 410,760    |       |
| Total noninterest expenses                               |       | 3,337,752  |         | 3,201,118  |       |
|                                                     |       |       |         |       |       |
| **Loss before income tax  benefit**                      |       | (740,620   | )            | (829,869   | )          |
|                                                     |       |       |         |       |       |
| Income tax benefit                                       |       | (251,794   | )            | (261,023   | )          |
|                                                     |       |       |         |       |       |
| **Net loss**                                             | ** ** | **$**      | **(488,826** | **)**      | **$**      | **(568,846** | **)** |
| ** **                                               | ** ** | ** ** | ** **   | ** ** | ** ** |
| Basic loss per common share                              | ** ** | **$**      | **(.39**     | **)**      | **$**      | **(.45** | **)** |
|                                                     |       |       |         |       |       |
| Diluted loss per common share                            | ** ** | **$**      | **(.39**     | **)**      | **$**      | **(.45** | **)** |
|                                                     |       |       |         |       |       |
| Average common shares outstanding                        |       | 1,251,577  |         | 1,251,577  |       |

 

The accompanying notes are an integral part of theconsolidated financial statements.

 

F-5

----

 

**ATLANTIC BANCSHARES, INC.**

** **

**Consolidated Statements of Changes in Shareholders’ Equity andComprehensive IncomeFor the years ended December 31, 2008 and 2007**

** **
| ** **                                          | ** ** | ** **            | ** ** | ** **  | ** ** | ** **        | ** ** | **Accumulated** | ** ** | ** **  | ** ** | **Total**              | ** ** |
|-----------------------------------------------------|------------|-----------------------|------------|-------------|------------|-------------------|------------|-----------------|------------|-------------|------------|------------------------|------------|
| ** **                                          | ** ** | ** **            | ** ** | ** **  | ** ** | **Additional**    | ** ** | **other**       | ** ** | ** **  | ** ** | **Shareholders’** | ** ** |
| ** **                                          | ** ** | **Common stock** | ** ** | **Paid-in** | ** ** | **comprehensive** | ** ** | ** **      | ** ** | **Equity**  | ** ** |
| ** **                                          | ** ** | **Shares**            | ** ** | **Amount**  | ** ** | **Capital**       | ** ** | **income**      | ** ** | **Deficit** | ** ** | **(deficit)**          | ** ** |
| ** **                                          | ** ** | ** **            | ** ** | ** **  | ** ** | ** **        | ** ** | ** **      | ** ** | ** **  | ** ** | ** **             | ** ** |
| **December 31, 2006**                          |       | 1,251,577             |       | $           | 11,982,122 |              | $          | 62,373          |       | $           | 9,794      |                   | $          | (1,611,317 | ) | $ | 10,442,972 |   |
|                                                |       |                  |       |        |       |              |       |            |       |        |       |                   |       |
| Net loss                                            |       | —                |       | —      |       | —            |       | —          |       | (568,846    | )          | (568,846               | )          |
|                                                |       |                  |       |        |       |              |       |            |       |        |       |                   |       |
| Other comprehensive income, net of tax Of  $5,524   |       | —                |       | —      |       | —            |       | 10,724          |       | —      |       | 10,724                 |       |
|                                                |       |                  |       |        |       |              |       |            |       |        |       |                   |       |
| Total comprehensive loss                            |       | —                |       | —      |       | —            |       | —          |       | —      |       | (558,122               | )          |
|                                                |       |                  |       |        |       |              |       |            |       |        |       |                   |       |
| Stock based compensation                            |       | —                |       | —      |       | 97,408            |       | —          |       | —      |       | 97,408                 |       |
|                                                |       |                  |       |        |       |              |       |            |       |        |       |                   |       |
| **December 31, 2007**                          |       | 1,251,577             |       | 11,982,122  |       | 159,781           |       | 20,518          |       | (2,180,163  | )          | 9,982,258              |       |
|                                                |       |                  |       |        |       |              |       |            |       |        |       |                   |       |
| Net loss                                            |       | —                |       | —      |       | —            |       | —          |       | (488,826    | )          | (488,826               | )          |
|                                                |       |                  |       |        |       |              |       |            |       |        |       |                   |       |
| Other comprehensive income, net of tax Of  $187,796 |       | —                |       | —      |       | —            |       | 364,547         |       | —      |       | 364,547                |       |
|                                                |       |                  |       |        |       |              |       |            |       |        |       |                   |       |
| Total comprehensive loss                            |       | —                |       | —      |       | —            |       | —          |       | —      |       | (124,279               | )          |
|                                                |       |                  |       |        |       |              |       |            |       |        |       |                   |       |
| Stock based compensation                            |       | —                |       | —      |       | 112,025           |       | —          |       | —      |       | 112,025                |       |
|                                                |       |                  |       |        |       |              |       |            |       |        |       |                   |       |
| **December 31, 2008**                          |       | 1,251,577             |       | $           | 11,982,122 |              | $          | 271,806         |       | $           | 385,065    |                   | $          | (2,668,989 | ) | $ | 9,970,004 |   |

 

The accompanying notes are an integral part of theconsolidated financial statements.

 

F-6

----

 

**ATLANTIC BANCSHARES, INC.**

** **

**Consolidated Statements of Cash Flows**

**For the years ended December 31, 2008 and 2007**

** **
| ** **                                                                                   | ** ** | **2008**    | ** **  | **2007**    | ** ** |
|----------------------------------------------------------------------------------------------|------------|-------------|-------------|-------------|------------|
|                                                                                         |       |        |        |        |       |
| **Cash flows from operating  activities:**                                                   |       |        |        |        |       |
| Net loss                                                                                     |       | $           | (488,826    | )           | $          | (568,846 | ) |
| Adjustments to reconcile net loss  to net cash provided (used) by operating activities:      |       |        |        |        |       |
| Provision for loan losses                                                                    |       | 637,200     |        | 291,584     |       |
| Provision for OREO                                                                           |       | 29,287      |        | —      |       |
| Depreciation and amortization  expense                                                       |       | 195,418     |        | 170,977     |       |
| Loss on sale of fixed assets                                                                 |       | 12,110      |        | —      |       |
| Accretion on securities available  for sale                                                  |       | (100,627    | )           | (35,670     | )          |
| Stock-based compensation expense                                                             |       | 112,025     |        | 97,408      |       |
| Deferred income tax benefit                                                                  |       | (251,795    | )           | (261,024    | )          |
| Decrease (increase) in interest  receivable                                                  |       | 50,727      |        | (138,216    | )          |
| Increase in interest payable                                                                 |       | 93,939      |        | 51,195      |       |
| Increase in other assets                                                                     |       | (45,312     | )           | (47,784     | )          |
| Increase in other liabilities                                                                |       | 33,974      |        | 24,056      |       |
| Net cash provided (used) by  operating activities                                            |       | 278,120     |        | (416,320    | )          |
|                                                                                         |       |        |        |        |       |
| **Cash flows from investing  activities:**                                                   | ** ** | ** **  | ** **  | ** **  | ** ** |
| Net increase in loans receivable                                                             |       | (10,029,324 | )           | (26,947,898 | )          |
| Purchase of premises, furniture  and equipment                                               |       | (988,375    | )           | (122,552    | )          |
| Proceeds from sales of fixed  assets                                                         |       | 325         |        | —      |       |
| Purchase of securities available  for sale                                                   |       | (8,436,871  | )           | (10,539,784 | )          |
| Repayments of securities  available for sale                                                 |       | 6,300,210   |        | 553,395     |       |
| Purchase of nonmarketable equity  securities                                                 |       | (730,300    | )           | (225,200    | )          |
| Repayments of nonmarketable  equity securities                                               |       | 157,500     |        | —      |       |
| Net cash used by investing  activities                                                       |       | (13,726,835 | )           | (37,282,039 | )          |
|                                                                                         |       |        |        |        |       |
| **Cash flows from financing  activities:**                                                   | ** ** | ** **  | ** **  | ** **  | ** ** |
| Net increase in demand deposits,  interest-bearing transaction accounts and savings accounts |       | 2,830,694   |        | 2,111,869   |       |
| Net increase in certificate of  deposit and other time deposits                              |       | 1,667,438   |        | 20,146,089  |       |
| Net increase (decrease) in  federal funds purchased                                          |       | (3,601,700  | )           | 3,838,200   |       |
| Net increase in FHLB advances                                                                |       | 11,500,000  |        | 5,000,000   |       |
| Net cash provided by financing  activities                                                   |       | 12,396,432  |        | 31,096,158  |       |
|                                                                                         |       |        |        |        |       |
| **Net decrease in cash and cash  equivalents**                                               |       | (1,052,283  | )           | (6,202,201  | )          |
|                                                                                         |       |        |        |        |       |
| **Cash and cash equivalents,  beginning of the period**                                      |       | 1,630,198   |        | 8,232,399   |       |
|                                                                                         |       |        |        |        |       |
| **Cash and cash equivalents,  end of the period**                                            | ** ** | **$**       | **577,915** | ** **  | **$**      | **1,630,198** | ** ** |
|                                                                                         |       |        |        |        |       |
| **Cash paid for:**                                                                           |       |        |        |        |       |
| Interest                                                                                     |       | $           | 2,699,435   |        | $          | 2,283,984 |   |
|                                                                                         |       |        |        |        |       |
| Income taxes                                                                                 |       | $           | —      |        | $          | — |   |
|                                                                                         |       |        |        |        |       |
| **Supplemental disclosures of  noncash activities:**                                         |       |        |        |        |       |
| Other real estate acquired in  settlement of loans                                           |       | $           | 582,427     |        | $          | — |   |

 

The accompanying notes are an integral part of theconsolidated financial statements

 

F-7

----

 

**ATLANTIC BANCSHARES, INC**.

 

**Notes to Consolidated Financial Statements**

** **

### **NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES**

### ** **

**Organization** - Atlantic Bancshares, Inc. (theCompany) was incorporated to serve as a bank holding company for itssubsidiary, Atlantic Community Bank (the Bank). Atlantic Community Bank commenced business on January 26,2006.  The principal business activity ofthe Bank is to provide banking services to domestic markets, principally in theBeaufort County region of South Carolina. The Bank is a state-chartered commercial bank, and its deposits areinsured by the Federal Deposit Insurance Corporation.  The consolidated financial statements includethe accounts of the parent company and its wholly-owned subsidiary afterelimination of all significant intercompany balances and transactions.

 

**Management’s Estimates** - The preparation of consolidated financialstatements in conformity with accounting principles generally accepted in theUnited States of America requires management to make estimates and assumptionsthat affect the reported amounts of assets and liabilities and disclosure ofcontingent assets and liabilities at the date of the financial statements andthe reported amounts of income and expenses during the reporting period.  Actual results could differ from thoseestimates.

 

Materialestimates that are particularly susceptible to significant change relate to thedetermination of the allowance for losses on loans, including valuationallowances for impaired loans, the valuation of real estate acquired inconnection with foreclosures or in satisfaction of loans, and income tax assetsand liabilities.  In connection with thedetermination of the allowances for losses on loans and foreclosed real estate,management obtains independent appraisals for significant properties.  Management must also make estimates indetermining the estimated useful lives and methods for depreciating premisesand equipment.

 

Whilemanagement uses available information to recognize losses on loans and foreclosedreal estate, future additions to the allowances may be necessary based onchanges in local economic conditions.  Inaddition, regulatory agencies, as an integral part of their examinationprocess, periodically review the Company’s allowances for losses on loans andforeclosed real estate.  Such agenciesmay require the Company to recognize additions to the allowances based on theirjudgments about information available to them at the time of their examination.  Because of these factors, it is reasonablypossible that the allowances for losses on loans and foreclosed real estate maychange materially in the near term.

 

**Concentrations of Credit Risk** - Financial instruments, which potentiallysubject the Company to concentrations of credit risk, consist principally ofloans receivable, investment securities, federal funds sold and amounts duefrom banks.

 

TheCompany makes loans to individuals and small businesses for various personaland commercial purposes primarily in the Beaufort County region of SouthCarolina.  The Company’s loan portfoliois not concentrated in loans to any single borrower or a relatively smallnumber of borrowers.  The Company has aconcentration of construction, land and land development loans****which totaled $17,995,142 at December 31, 2008,representing 180% of total equity and 24% of net loans receivable**. **Within this loancategory, the collateral, purpose and structure of the loans varysubstantially.    Historically, economicgrowth and a low interest rate environment have created opportunities for landacquisition and development activities in the Company’s market area.  During fiscal 2007 and 2008, adverse changesin such factors slowed the absorption of developing projects and moderated marketvalues of land and developed lots. Management continues to monitor this concentration of credit risk atthis time and has considered this concentration in its evaluation of theallowance for loan losses.  As of December 31,2008, the Company identified one impaired loan related to this concentration.  Included in the allowance for loan losses at December 31,2008 was approximately $4,000 related to this impaired loan.  The Company experienced no significant lossesrelated to this identified risk during the years ended December 31, 2008and 2007.**  **Managementis not aware of any other concentrations of loans to classes of borrowers orindustries that would be similarly affected by these economic conditions.

 

Inaddition to monitoring potential concentrations of loans to particularborrowers or groups of borrowers, industries and geographic regions, managementmonitors exposure to credit risk from concentrations of lending products andpractices such as loans that subject borrowers to substantial payment increases(e.g. principal deferral periods, loans with initial interest-only periods,etc), and loans with high loan-to-value ratios. Additionally, there are industry 

 

F-8

----

 

practicesthat could subject the Company to increased credit risk should economicconditions change over the course of a loan’s life. For example, the Companymakes variable rate loans and fixed rate principal-amortizing loans withmaturities prior to the loan being fully paid (i.e. balloon payment loans).  These loans are underwritten and monitored tomanage the associated risks.  Therefore,management believes that these particular practices do not subject the Companyto unusual credit risk.

 

TheCompany’s investment portfolio consists principally of obligations of the UnitedStates, its agencies or its corporations. In the opinion of management, there is no concentration of credit riskin its investment portfolio.  The Companyplaces its deposits with correspondent accounts and sells its federal funds tohigh quality institutions. Management believes credit risk associated withcorrespondent accounts is not significant.

 

**Securities Available for Sale******- Securities available for sale are carriedat amortized cost and adjusted to estimated market value by recognizing the aggregateunrealized gains or losses in a valuation account.  Aggregate market valuation adjustments arerecorded in shareholders’ equity net of deferred income taxes.  Reductions in market value considered bymanagement to be other than temporary are reported as a realized loss and areduction in the cost basis of the security. The adjusted cost basis ofinvestments available for sale is determined by specific identification and isused in computing the gain or loss upon sale. Interest income is recognized when earned.

 

**NonmarketableEquity Securities******- Nonmarketable equitysecurities consist of the cost of the Company’s investment in the stock ofFederal Home Loan Bank.  This stock hasno quoted market value and no ready market for it exists**. **The Company has determined it isnot practicable to estimate the fair value of these investments and,accordingly, uses cost as fair value. Investment****in the Federal Home Loan Bank isa condition of borrowing from the Federal Home Loan Bank, and the stock ispledged to collateralize such borrowings. At December 31, 2008 and 2007, the Company’s investment in FederalHome Loan Bank stock was $891,200 and $318,400, respectively**. **Dividends arerecognized when earned.

 

**Loans Receivable** - Loans are stated at their unpaid principal balance adjusted forunamortized premiums and unearned discounts and deferred loan fees andcosts.  Interest income is computed usingthe simple interest method and is recorded in the period earned.

 

Whenserious doubt exists as to the collectability of a loan or when a loan becomescontractually 90 days past due as to principal or interest, recognition of****interest income is generally discontinued unless theestimated net realizable value of collateral exceeds the unpaid principalbalance and accrued interest.  Whenrecognition of****interest income is****discontinued, interest****earned but notcollected since the last payment received****is reversed.

 

Loansare charged off when the amount of loss is reasonably quantifiable and the lossis likely to occur.  Interest paymentsreceived after a loan is placed in nonaccrual are applied as a principalreduction until such time as the loan is returned to accrual status.  Generally, loans are returned to accrualstatus when the loan is brought current and the ultimate collectability ofprincipal and interest is no longer in doubt. The amount of unrecognized interest income on nonaccrual loans at December 31,2008 and 2007 is $56,324 and $27,759, respectively.

 

TheCompany follows SFAS No. 114 “Accounting by Creditors for Impairment of aLoan,” for determining impairment on certain loans.  SFAS No. 114 requires that nonhomogenousimpaired loans and certain restructured loans be measured at the present valueof expected future cash flows discounted at the loan’s effective interest rate,at the loan’s observable market price or at the fair value of the collateral ifthe loan is collateral dependent.  Aspecific reserve, if deemed necessary, is set up for each impaired loan.  Accrual of interest income on impaired loansis suspended when, in management’s judgment, doubt exists as to thecollectability of principal and interest. Loans are not considered impaired if a minimal payment delay occurs andall amounts due, including accrued interest at the contractual interest rate forthe period of delay, are expected to be collected.  If amounts are received on impaired orrestructured loans for which the accrual of interest has been discontinued, adetermination is made as to whether payments received should be recorded as areduction of the principal balance or as interest income depending onmanagement’s judgment as to the collectability of principal.  The loan is returned to accrual status when,in management’s judgment, the borrower has demonstrated the ability to makeperiodic interest and principal payments on a timely basis.

 

Loanorigination and commitment fees and certain direct loan origination costs(principally salaries and employee benefits) are deferred and amortized toincome over the contractual life of the related loans or commitments, adjustedfor prepayments, using a method approximating a level yield.

 

F-9

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** **

**Allowancefor Loan Losses** -The provision for loan losses charged to operating expenses reflects the amountdeemed appropriate by management to establish an adequate reserve to meet theprobable loan losses incurred in the current loan portfolio.  Management’s judgment is based on periodicand regular evaluation of individual loans, the overall risk characteristics ofthe various portfolio segments, and prevailing economic conditions.  Loans that are determined to be uncollectibleare charged against the allowance. Provisions for loan losses and recoveries on loans previously chargedoff are added to the allowance.

 

Whilemanagement uses the best information available to make evaluations, futureadjustments may be necessary if economic conditions differ substantially fromthe assumptions used in making the evaluation. The allowance for loan losses is subject to periodic evaluation byvarious regulatory authorities and may be subject to adjustment uponexamination.

 

**Premises, Furniture and Equipment** - Premises, furniture and equipment arestated at cost, less accumulated depreciation. The provision for depreciation is computed by the straight-line method,based on the estimated useful lives for furniture and equipment of 3 to 10years and software of 1 year.  Leaseholdimprovements are amortized over the lesser of the asset’s useful life or thelife of the lease.  The cost of assetssold or otherwise disposed of and the related allowance for depreciation areeliminated from the accounts and the resulting gains or losses are reflected inthe income statement when incurred. Maintenance and repairs are charged to current expense. The costs ofmajor renewals and improvements are capitalized.

 

**Income Taxes** - Income taxes are the sum of amounts currently payable to taxingauthorities and the net changes in income taxes payable or refundable in futureyears.  Income taxes deferred to futureyears are determined utilizing a liability approach.  This method gives consideration to the futuretax consequences associated with differences between financial accounting andtax bases of certain assets and liabilities which are principally the allowancefor loan losses, depreciable premises and equipment, and the net operating losscarryforward.

 

In2007, the Financial Accounting Standards Board (“FASB”) issued Interpretation No. 48(FIN 48), “Accounting for Uncertainty in Income Taxes – an Interpretationof Statement of Financial Accounting Standards (“SFAS”) No. 109.”FIN 48 clarifies the accounting for uncertainty in income taxes recognizedin an enterprise’s financial statements in accordance with SFAS No. 109,“Accounting for Income Taxes.” FIN 48 also prescribes a recognitionthreshold and measurement of a tax position taken or expected to be taken in anenterprise’s tax return. FIN 48 is effective for fiscal years beginningafter December 15, 2007. Accordingly, the Company****adoptedFIN 48 effective January 1, 2007. The adoption of FIN 48 did nothave any impact on the Company’s consolidated financial position.

 

**AdvertisingExpense** -Advertising and public relations costs are generally expensed as incurred andare included in marketing expense in the accompanying consolidated statementsof operations.  External costs incurredin producing media advertising are expensed the first time the advertisingtakes place.  External costs relating todirect mailing costs are expensed****in the periodin which the direct mailings are sent.

 

**Loss Per Share** - Basic loss per share is computed by dividing the net loss by theweighted-average number of common shares outstanding during the period.  Dilutive loss per share is computed bydividing net loss by the weighted average number of common shares and potentialcommon shares outstanding.   Potentialcommon share equivalents consist of****stock optionsand warrants determined using the treasury stock method and the average marketprice of the common stock.  At December 31,2008 and 2007, there were no dilutive stock options or warrants.

 

**Stock-BasedCompensation** -The Company accounts for options and warrants under the fair value recognitionprovisions of FASB SFAS No. 123(R), Accounting for Stock-Based Compensation.  Compensation expense is recognized in theconsolidated statement of operations.

 

In calculating thecompensation expense for stock options, the fair value of options granted isestimated as of the date granted using the Black-Scholes option pricing modelwith the following weighted-average assumptions were used for grants in 2008:dividend yield of 0 percent; expected volatility of 20.57% percent based onforecasted future volatility because there is limited historical data****available; risk-free interest rates that range from 3.17%to 3.20%****based on a risk free rate of returncorresponding to the estimated life of the option; and expected life of 7.50years using the “simplified method” described in SAB Topic 14.D because thereis no historical data available. For purposes of this calculation, compensationexpense is recognized on a straight-line basis over the vesting period.

 

F-10

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In calculating thecompensation expense for stock options, the fair value of options granted isestimated as of the date granted using the Black-Scholes option pricing modelwith the following weighted-average assumptions were used for grants in 2007:dividend yield of 0 percent; expected volatility of 15 percent based on forecastedfuture volatility because there is limited historical data****available;risk-free interest rates that range from 4.66% to 4.94%****basedon a risk free rate of return corresponding to the estimated life of theoption; and expected life of 7.50 years using the “simplified method” describedin SAB Topic 14.D because there is no historical data available. For purposesof this calculation, compensation expense is recognized on a straight-linebasis over the vesting period.

 

The Company’s stockoption plan, which is stockholder approved, provides for stock options to begranted primarily to directors, officers and key employees.  Options granted under the stock option planmay be incentive stock options or non-incentive stock options.  Share option awards are generally grantedwith an exercise price equal to, or in excess of, the market price of theCompany’s shares at the date of grant. Options vest ratably over a five-year period and expire after ten yearsfrom the date of grant.  Share optionsawards provide for accelerated vesting if there is a change in control, asdefined in the stock option plan.  Theremaining shares of stock reserved under the option plan at December 31,2008 amounted to approximately 158,002 shares.

 

The Company intends toissue authorized but previously unissued shares to satisfy option exercises.

 

**Comprehensive Income** – SFAS No 130, “Reporting Comprehensive Income” established standardsfor the reporting and presentation of comprehensive income and its componentsin a full set of financial statements. Comprehensive income consists of net income (loss) and net unrealizedgains (losses) on securities and is presented in the consolidated statements ofchanges in shareholders’ equity and comprehensive income.

 

**Statement of Cash Flows** – For purposes of reporting cash flows inthe financial statements, the Company considers certain highly liquid debtinstruments purchased with a maturity of three months or less to be cashequivalents.  Cash equivalents includeamounts due from banks and federal funds sold. Generally, federal funds are sold for one-day periods.

 

**Off-Balance-Sheet Financial Instruments** – In the ordinary course of business, theCompany enters into off-balance-sheet financial instruments consisting ofcommitments to extend credit and letters of credit.  These financial instruments are recorded inthe financial statements when they become payable by the customer.

 

**Recently Issued Accounting Pronouncements**- The following is a summary of recent authoritative pronouncements that mayaffect accounting, reporting, and disclosure of financial information by theCompany:

 

In December 2007, FASB issued SFAS No. 141(R), “BusinessCombinations,” SFAS 141(R) which replaces SFAS 141.  SFAS 141(R) establishes principles andrequirements for how an acquirer in a business combination recognizes andmeasures in its financial statements the identifiable assets acquired, theliabilities assumed, and any controlling interest; recognizes and measuresgoodwill acquired in the business combination or a gain from a bargainpurchase; and determines what information to disclose to enable users of thefinancial statements to evaluate the nature and financial effects of thebusiness combination. SFAS 141(R) is effective for acquisitions by theCompany taking place on or after January 1, 2009. Early adoption isprohibited. Accordingly, a calendar year-end company was required to record anddisclose business combinations following existing accounting guidance until January 1,2009. The Company will assess the impact of SFAS 141(R) if and when afuture acquisition occurs.

 

Also, in December 2007, the FASB issued SFAS No. 160,“Noncontrolling Interests in Consolidated Financial Statements – an amendmentof ARB No. 51,” (“SFAS 160”). SFAS 160 establishes new accounting andreporting standards for the noncontrolling interest in a subsidiary and for thedeconsolidation of a subsidiary. Before this statement, limited guidanceexisted for reporting noncontrolling interests (minority interest). As aresult, diversity in practice exists. In some cases minority interest isreported as a liability and in others it is reported in the mezzanine sectionbetween liabilities and equity. Specifically, SFAS 160 requires the recognitionof a noncontrolling interest (minority interest) as equity in the consolidatedfinancials statements and separate from the parent’s equity. The amount of netincome attributable to the noncontrolling interest will be included inconsolidated net income on the face of the income statement. SFAS 160 clarifiesthat changes in a parent’s ownership interest in a subsidiary that do notresult in deconsolidation are equity transactions if the parent retains itscontrolling financial interest. In addition, this statement requires that aparent recognize gain or loss in net income when a subsidiary isdeconsolidated. Such gain or loss will be measured using the fair value of thenoncontrolling equity investment on the deconsolidation date. SFAS 160 alsoincludes expanded disclosure requirements regarding the interests of the parentand its noncontrolling 

 

F-11

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interests. SFAS 160 was effective for the Company on January 1,2009.  SFAS 160 had no impact on theCompany’s financial position, results of operations or cash flows.

 

In February 2008, the FASB issued FASBStaff Position No. 140-3, “Accounting for Transfers of Financial Assetsand Repurchase Financing Transactions,” (“FSP 140-3”).  This FSP providesguidance on accounting for a transfer of a financial asset and the transferor’srepurchase financing of the asset.  This FSP presumes that an initialtransfer of a financial asset and a repurchase financing are considered part ofthe same arrangement (linked transaction) under SFAS 140. However, if certaincriteria are met, the initial transfer and repurchase financing are notevaluated as a linked transaction and are evaluated separately under SFAS 140. FSP 140-3 was effective for the Company on January 1, 2009. The adoption of FSP 140-3 had no impact on the Company’s financial position,results of operations or cash flows.

 

In March 2008, the FASB issued SFAS No. 161, “Disclosuresabout Derivative Instruments and Hedging Activities,” (“SFAS 161”).  SFAS 161 requires enhanced disclosures aboutan entity’s derivative and hedging activities, thereby improving thetransparency of financial reporting.  Itis intended to enhance the current disclosure framework in SFAS 133 byrequiring that objectives for using derivative instruments be disclosed interms of underlying risk and accounting designation. This disclosure isintended to convey the purpose of derivative use in terms of the risks that theentity is intending to manage.  SFAS 161was effective for the Company on January 1, 2009*. *The Company has no derivativefinancial instruments; therefore, there is no impact on the Company’s financialposition, results of operations, or cash flows.

 

In April 2008, the FASB issued FASB StaffPosition No. 142-3, “Determination of the Useful Life of IntangibleAssets,” (“FSP 142-3”).  This FSP amendsthe factors that should be considered in developing renewal or extensionassumptions used to determine the useful life of a recognized intangible assetunder SFAS No. 142, “Goodwill andOther Intangible Assets,” (“SFAS 142”). The intent of this FSP is to improve the consistency between the usefullife of a recognized intangible asset under SFAS 142 and the period of expectedcash flows used to measure the fair value of the asset under SFAS 141(R) andother U.S. generally accepted accounting principles.  This FSP was effective for the Company on January 1,2009 and had no material impact on the Company’s financial position, results ofoperations or cash flows.

 

InMay, 2008, the FASB issued SFAS No. 162, “The Hierarchy of Generally AcceptedAccounting Principles,” (“SFAS 162”). SFAS 162 identifies the sources of accounting principles and theframework for selecting the principles used in the preparation of financialstatements of nongovernmental entities that are presented in conformity withgenerally accepted accounting principles (GAAP) in the United States (the GAAPhierarchy).  SFAS 162 was effective November 15,2008.  The FASB has stated that it doesnot expect SFAS 162 will result in a change in current practice. The applicationof SFAS 162 had no effect on the Company’s financial position, results ofoperations or cash flows.

 

The FASB issued FASB Staff Position No. APB14-1, “Accounting for Convertible Debt Instruments That May Be Settled inCash upon Conversion (Including Partial Cash Settlement),” (“FSP APB 14-1”).The Staff Position specifies that issuers of convertible debt instruments thatmay be settled in cash upon conversion should separately account for theliability and equity components in a manner that will reflect the entity’snonconvertible debt borrowing rate when interest cost is recognized insubsequent periods.  FSP APB 14-1provides guidance for initial and subsequent measurement as well asderecognition provisions.  The StaffPosition was effective as of January 1, 2009 and had no material effect onthe Company’s financial position, results of operations or cash flows.

 

In June, 2008, the FASB issued FASB StaffPosition No. EITF 03-6-1, “Determining Whether Instruments Granted inShare-Based Payment Transactions are Participating Securities,” (“FSP EITF03-6-1”).  The Staff Position providesthat unvested share-based paymentawards that contain nonforfeitable rights to dividends or dividend equivalentsare participating securities and must be included in the earnings per sharecomputation.  FSP EITF 03-6-1 waseffective January 1, 2009 and had no effect on the Company’s financialposition, results of operations, earnings per share or cash flows.

 

FSP SFAS 133-1 and FIN 45-4, “Disclosures aboutCredit Derivatives and Certain Guarantees: An Amendment of FASB Statement No. 133and FASB Interpretation No. 45; and Clarification of the Effective Date ofFASB Statement No. 161,” (“FSP SFAS 133-1 and FIN 45-4”) was issued September 2008,effective for reporting periods (annual or interim) ending after November 15,2008.  FSP SFAS 133-1 and FIN 45-4 amendsSFAS 133 to require the seller ofcredit derivatives to disclose the nature of the credit derivative, the maximumpotential amount of future payments, 

 

F-12

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fair value of thederivative, and the nature of any recourse provisions.  Disclosures must be made for entire hybridinstruments that have embedded credit derivatives.

 

The Staff Position also amends FASBInterpretation No. (“FIN”) 45 to require disclosure of the current statusof the payment/performance risk of the credit derivative guarantee.  If an entity utilizes internal groupings as abasis for the risk, how the groupings are determined must be disclosed as wellas how the risk is managed.

 

The Staff Position encourages that theamendments be applied in periods earlier than the effective date to facilitatecomparisons at initial adoption.  Afterinitial adoption, comparative disclosures are required only for subsequentperiods.

 

FSP SFAS 133-1 and FIN 45-4 clarifies theeffective date of SFAS 161 such that required disclosures should be providedfor any reporting period (annual or quarterly interim) beginning after November 15,2008.  The adoption of thisStaff Position had no material effect on the Company’s financial position,results of operations or cash flows.

 

The SEC’s Office of the Chief Accountant and the staff of the FASBissued press release 2008-234 on September 30, 2008 (“Press Release”) toprovide clarifications on fair value accounting.  The Press Release includes guidance on theuse of management’s internal assumptions and the use of “market” quotes.  It also reiterates the factors in SEC StaffAccounting Bulletin (“SAB”) Topic 5M which should be considered whendetermining other-than-temporary impairment: the length of time and extent towhich the market value has been less than cost; financial condition andnear-term prospects of the issuer; and the intent and ability of the holder toretain its investment for a period of time sufficient to allow for anyanticipated recovery in market value.

 

On October 10, 2008, the FASB issued FSP SFAS 157-3, “Determiningthe Fair Value of a Financial Asset When the Market for That Asset Is NotActive” (“FSP SFAS 157-3”). This FSP clarifies the application of SFAS No. 157,“Fair Value Measurements” (see Note 20) in a market that is not active andprovides an example to illustrate key considerations in determining the fairvalue of a financial asset when the market for that asset is not active.  The FSP is effective upon issuance, includingprior periods for which financial statements have not been issued. For theCompany, this FSP was effective for the quarter ended September 30, 2008.

 

The Company considered the guidance in the Press Release and in FSPSFAS 157-3 when conducting its review for other-than-temporary impairment as ofDecember 31, 2008 as discussed in Note 3.

 

FSP SFAS 140-4 and FIN 46(R)-8, “Disclosures by Public Entities(Enterprises) about Transfers of Financial Assets and Interests in VariableInterest Entities,” (“FSP SFAS 140-4 and FIN 46(R)-8”) was issued in December 2008to require public entities to disclose additional information about transfersof financial assets and to require public enterprises to provide additionaldisclosures about their involvement with variable interest entities.  The FSP also requires certain disclosures forpublic enterprises that are sponsors and servicers of qualifying special purposeentities.  The FSP is effective for thefirst reporting period ending after December 15, 2008.  This FSP had no material impact on thefinancial position of the Company.

 

FSP EITF 99-20-1, “Amendments to the Impairment Guidance of EITF Issue No. 99-20,”(“FSP EITF 99-20-1”) was issued in January 2009.  Prior to the Staff Position,other-than-temporary impairment was determined by using either EITF Issue No. 99-20,“Recognition of Interest Income and Impairment on Purchased BeneficialInterests and Beneficial Interests that Continue to be Held by a Transferor inSecuritized Financial Assets,” (“EITF 99-20”) or SFAS No. 115, “Accountingfor Certain Investments in Debt and Equity Securities,” (“SFAS 115”) dependingon the type of security.  EITF 99-20required the use of market participant assumptions regarding future cash flowsregarding the probability of collecting all cash flows previouslyprojected.  SFAS 115 determinedimpairment to be other than temporary if it was probable that the holder wouldbe unable to collect all amounts due according to the contractual terms. Toachieve a more consistent determination of other-than-temporary impairment, theStaff Position amends EITF 99-20 to determine any other-than-temporaryimpairment based on the guidance in SFAS 115, allowing management to use morejudgment in determining any other-than-temporary impairment.  The Staff Position is effective for interimand annual reporting periods ending after December 15, 2008 and shall beapplied prospectively.  Retroactiveapplication is not permitted.  Managementhas reviewed the Company’s security portfolio and evaluated the portfolio forany other-than-temporary impairments as discussed in Note 3.

 

Other accounting standards that have been issued or proposed by theFASB or other standards-setting bodies are not expected to have a materialimpact on the Company’s financial position, results of operations or cashflows.

 

F-13

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**Risksand Uncertainties**– In the normal course of its business, the Company encounters two significanttypes of risks: economic and regulatory. There are three main components of economic risk:  interest rate risk, credit risk and marketrisk.  The Company is subject to interestrate risk to the degree that its interest-bearing liabilities mature or repriceat different speeds, or on different bases, than its interest-earningassets.  Credit risk is the risk of defaulton the Company’s loan portfolio that results from borrower’s inability orunwillingness to make contractually required payments.  Market risk reflects changes in the value ofcollateral underlying loans receivable and the valuation of real estate held bythe Company.

 

TheCompany is subject to the regulations of various governmental agencies.  These regulations can and do changesignificantly from period to period.  TheCompany also undergoes periodic examinations by the regulatory agencies, whichmay subject it to further changes with respect to asset valuations, amounts ofrequired loss allowances and operating restrictions from the regulators’judgments based on information available to them at the time of theirexamination.

 

**Reclassifications** – Certain captions and amounts in the 2007financial statements were reclassified to conform with the 2008 presentation.

 

**NOTE 2 –CASH AND DUE FROM BANKS**

** **

AtDecember 31, 2008 and 2007, the Company is not required to maintain cashbalances with its correspondent banks to cover cash letter transactions.

 

**NOTE 3 –INVESTMENT SECURITIES**

** **

The amortized costs and fair value of investmentsecurities available for sale are as follows for the years ended December 31:

 
| ** **                  | ** ** | **December 31, 2008** | ** **     |
|-----------------------------|------------|---------------------------------|----------------|
| ** **                  | ** ** | **Amortized**                   | ** **     | **Gross Unrealized** | ** ** | **Fair** | ** ** |
| ** **                  | ** ** | **Cost**                        | ** **     | **Gains** | ** ** | **Losses** | ** ** | **Value** | ** ** |
| Mortgage-backed securities  |       | $                               | 15,805,316     |   | $ | 583,431 |   | $ | — |   | $ | 16,388,747 |   |
| Total investment securities | ** ** | **$**                           | **15,805,316** | ** ** | **$** | **583,431** |   | $ | — | ** ** | **$** | **16,388,747** | ** ** |

 
| ** **                       | ** ** | **December 31, 2007** | ** **     |
|----------------------------------|------------|---------------------------------|----------------|
| ** **                       | ** ** | **Amortized**                   | ** **     | **Gross Unrealized** | ** ** | **Fair** | ** ** |
| ** **                       | ** ** | **Cost**                        | ** **     | **Gains** | ** ** | **Losses** | ** ** | **Value** | ** ** |
| Government-sponsored enterprises |       | $                               | 3,537,088      |   | $ | 63,332 |   | $ | — |   | $ | 3,600,420 |   |
| Mortgage-backed securities       |       | 10,030,940                      |           | 14,378 |   | (46,622 | ) | 9,998,696 |   |
| Total investment securities      | ** ** | **$**                           | **13,568,028** | ** ** | **$** | **77,710** | ** ** | **$** | **(46,622** | **)** | **$** | **13,599,116** | ** ** |

** **

The amortized costs and fair values of investmentsecurities available for sale at December 31, 2008 and 2007, bycontractual maturity, are shown below. Mortgage-backed securities are included in the maturity schedulebelow.  The maturities related to thesemortgage-backed securities have been allocated based on their scheduledrepayment terms.**  **Expectedmaturities may differ from contractual maturities because issuers have theright to prepay the obligations with or without call or prepayment penalties.

** **
| ** **                       | ** ** | **2008**      | ** **     | **2007**   | ** ** |
|----------------------------------|------------|---------------|----------------|------------|------------|
| ** **                       | ** ** | **Amortized** | ** **     | **Fair**   | ** ** | **Amortized** | ** ** | **Fair** | ** ** |
| ** **                       | ** ** | **Cost**      | ** **     | **Value**  | ** ** | **Cost** | ** ** | **Value** | ** ** |
| Due after one through five years |       | —        |           | —     |       | 990,690 |   | 1,001,500 |   |
| Due after five through ten years |       | 1,212,701     |           | 1,280,047  |       | 1,989,425 |   | 2,020,662 |   |
| Due after ten years              |       | 14,592,615    |           | 15,108,700 |       | 10,587,913 |   | 10,576,954 |   |
| Total investment securities      | ** ** | **$**         | **15,805,316** | ** ** | **$**      | **16,388,747** | ** ** | **$** | **13,568,028** | ** ** | **$** | **13,599,116** | ** ** |
|                                  |            |               |                |            |            |  |  |  |  |  |  |  |  |

 

F-14

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The Company sold no investment securities in 2008 or2007.  Accordingly, no gains or losseswere recorded.  At December 31, 2008and 2007, securities with a market value of approximately $3,727,924 and$8,696,853, respectively, were pledged as collateral for lines of credit andadvances with correspondent banks.  At December 31,2008 and 2007, securities with a market value of approximately $4,638,464 and$0, respectively, were pledged as collateral for public deposits in accordancewith the collateral agreement.

 

The following table shows gross unrealized losses and fair value,aggregated by investment category, and length of time that individualsecurities have been in a continuous unrealized loss position, at December 31,2007.  The Company had no unrealizedlosses as of December 31, 2008.

 
| ** **                 | ** ** | **December 31, 2007**        | ** **    |
|----------------------------|------------|----------------------------------------|---------------|
| ** **                 | ** ** | **Less than 12 months** | ** **    | **12 months or more** | ** ** | **Total** | ** ** |
| ** **                 | ** ** | **Fair Value**                    | ** **    | **Unrealized  Losses** | ** ** | **Fair Value** | ** ** | **Unrealized  Losses** | ** ** | **Fair Value** | ** ** | **Unrealized  Losses** | ** ** |
| Mortgage-backed Securities |       | $                                      | 4,715,487     |   | $ | (38,576 | ) | $ | 420,402 |   | $ | (8,046 | ) | $ | 5,135,889 |   | $ | (46,622 | ) |
| ** **                 | ** ** | **$**                                  | **4,715,847** | ** ** | **$** | **(38,576** | **)** | **$** | **420,402** | ** ** | **$** | **(8,046** | **)** | **$** | **5,135,889** | ** ** | **$** | **(46,622** | **)** |

 

Theunrealized losses on investments were attributable to increases in interestrates, rather than credit quality.  At December 31,2007, unrealized losses are comprised of five securities that have hadcontinuous losses of less than 12 months totaling $38,576 and one security thathas had a continuous loss of 12 months or more totaling $8,046.    None of the Company’s securities wereconsidered impaired at December 31, 2008. The Company has the intent and ability to hold these investments until arecovery of fair value, which may be at maturity.

 

**NOTE 4 –LOANS RECEIVABLE**

** **

The composition of net loans by major loan categories is as follows forthe years ended December 31:

 
| ** **                              | ** ** | **2008**   | ** **     | **2007**   | ** ** |
|-----------------------------------------|------------|------------|----------------|------------|------------|
| Real estate:                            | ** ** | ** ** | ** **     | ** ** | ** ** |
| Mortgage                                |       | $          | 50,806,898     |       | $          | 42,690,242 |   |
| Construction, land and land development |       | 17,995,142 |           | 18,027,664 |       |
| Total real estate loans                 |       | 68,802,040 |           | 60,717,906 |       |
| Commercial and industrial               |       | 4,793,257  |           | 4,561,846  |       |
| Consumer and other                      |       | 984,411    |           | 592,378    |       |
| Agriculture                             |       | 850,000    |           | —     |       |
| Deferred origination fees, net          |       | (66,487    | )              | (107,671   | )          |
| Gross loans receivable                  |       | 75,363,221 |           | 65,764,459 |       |
| Less allowance for loan losses          |       | (1,075,776 | )              | (677,850   | )          |
| Loans receivable, net                   | ** ** | **$**      | **74,287,445** | ** ** | **$**      | **65,086,609** | ** ** |

 

TheCompany has pledged certain loans as collateral to secure its borrowings fromthe Federal Home Loan Bank of Atlanta. The total of loans pledged was $25,065,657 as of December 31, 2008.

 

Nonaccrualloans, which are all loans ninety days or more delinquent, totaled $1,639,092and $528,387 at December 31, 2008 and 2007, respectively.  For the years ended December 31, 2008and 2007, interest income which would have been recorded would have been$56,324 and $27,759, respectively, had nonaccruing loans been current inaccordance with their original terms.  Additionally, as of December 31, 2008, the Bank had one loantotaling $31,363 which was ninety days or more past due and still accruinginterest.   As of December 31, 2007,the Bank had no loans ninety days or more past due and still accruing interest.

 

AtDecember 31, 2008, the Bank had fifteen loans to eleven borrowers thatwere impaired totaling $2,462,246.  Nineof these loans totaling $2,206,339 are secured by real estate, three loanstotaling $45,607 are secured by automobiles, one loan totaling $172,640 issecured by business assets including accounts receivable, inventory, furniture,fixtures and equipment and two loans totaling $37,660 are unsecured.  Three of these impaired loans to one borrowerwere 

 

F-15

----

 

performing troubled debt restructured loans totaling $414,369 for whichno specific reserve has been set aside**. **At December 31, 2007,the Bank had three loans that were impaired totaling $528,387.  All of these loans were secured by realestate.

 

Includedin the allowance for loan losses at December 31, 2008 and December 31,2007 was $456,667 and $162,775, respectively, related to impaired loans.  The average recorded investment in impairedloans for the year ended December 31, 2008 and December 31, 2007 was****$1,483,392 and $142,588, respectively.** **  The Bank recognized interest income totaling$2,733 related to one impaired loan during fiscal 2008.  The Bank recognized no interest income onimpaired loans during fiscal 2007.

 

Under current Federal Reserve regulations, the Bankis limited to the amount it may loan to the Company.  Loans made by the Bank may not exceed 10% andloans to all affiliates may not exceed 20% of the bank’s capital, surplus andundivided profits, after adding back the allowance for loan losses. There wereno loans outstanding between the Bank and the Company at December 31, 2008and 2007.

 

The composition of gross loans by rate type is asfollows for the years ended December 31:

 
| ** **                     | ** ** | **2008**   | ** **     | **2007**   | ** ** |
|--------------------------------|------------|------------|----------------|------------|------------|
| ** **                     | ** ** | ** ** | ** **     | ** ** | ** ** |
| Variable rate loans            |       | $          | 26,752,383     |       | $          | 17,747,240 |   |
| Fixed rate loans               |       | 48,677,325 |           | 48,124,890 |       |
| Deferred origination fees, net |       | (66,487    | )              | (107,671   | )          |
|                           |       |       |           |       |       |
| Gross loans                    | ** ** | **$**      | **75,363,221** | ** ** | **$**      | **65,764,459** | ** ** |

 

The allowance for loanlosses is available to absorb future loan charge-offs.  The allowance is increased by provisionscharged to operating income and by recoveries of loans that were previouslywritten-off.  The allowance is decreasedby the aggregate loan balances, if any, that were deemed uncollectible duringthe year.

 

Transactions in theallowance for loan losses for the years ended December 31 are summarizedbelow:

 
| ** **                      | ** ** | **2008**   | ** **    | **2007**   | ** ** |
|---------------------------------|------------|------------|---------------|------------|------------|
| ** **                      | ** ** | ** ** | ** **    | ** ** | ** ** |
| Balance, beginning of year      |       | $          | 677,850       |       | $          | 389,340 |   |
| Provision charged to operations |       | 637,200    |          | 291,584    |       |
| Charge-offs                     |       | (239,412   | )             | (5,230     | )          |
| Recoveries                      |       | 138        |          | 2,156      |       |
|                            |       |       |          |       |       |
| Balance, end of year            | ** ** | **$**      | **1,075,776** | ** ** | **$**      | **677,850** | ** ** |

** **

**NOTE 5 - PREMISES,FURNITURE AND EQUIPMENT**

** **

Property and equipment are stated at cost less accumulateddepreciation.  Components of property andequipment included in the consolidated balance sheets are as follows at December 31:

 
| ** **                   | ** ** | **2008**   | ** **    | **2007**   | ** ** |
|------------------------------|------------|------------|---------------|------------|------------|
| ** **                   | ** ** | ** ** | ** **    | ** ** | ** ** |
| Leasehold improvements       |       | $          | 1,041,832     |       | $          | 236,549 |   |
| Furniture and equipment      |       | 657,214    |          | 491,727    |       |
| Accumulated depreciation     |       | (521,072   | )             | (330,825   | )          |
|                         |       |       |          |       |       |
| Total property and equipment | ** ** | **$**      | **1,177,974** | ** ** | **$**      | **397,451** | ** ** |

 

Depreciation expense for the years ended December 31, 2008 and2007 was $195,418 and $170,977, respectively.

 

F-16

----

** **

**NOTE 6 - DEPOSITS**

** **

At December 31, 2008 the scheduled maturities of certificates ofdeposit are as follows:

 
| 2009       |       | $         | 34,233,579     |       |
|------------|------------|-----------|----------------|------------|
| 2010       |       | 3,384,429 |           |
| 2011       |       | 1,203,136 |           |
| 2012       |       | 114,663   |           |
| ** ** | ** ** | **$**     | **38,935,807** | ** ** |

** **

Included in the maturity schedule is$10,426,000 of brokered CDs with a weighted average interest rate at December 31,2008 of 4.09%.

 

**NOTE 7– ADVANCES FROM THE FEDERAL HOME LOAN BANK**

** **

Asof December 31, 2008 and 2007, the Bank had advances from the Federal HomeLoan Bank of Atlanta (“FHLBA”) in the amount of $16,500,000 and $5,000,000,respectively.  FHLBA advances arecollateralized by pledged FHLBA stock, certain commercial and residentialloans, including home equity lines of credit and by a portion of our investmentportfolio.   The $5,000,000 advance whosescheduled maturity is November 29, 2017 pays interest quarterly andcontains conversion options.   Theremaining advances have fixed interest rates, bullet maturities, pay interestmonthly and do not have conversion options. All FHLBA advances are subject to prepayment penalties.

 

FHLBA advances as of December 31:

 
| **Maturity**              | ** ** | **Rate**   | ** ** | **2008**  | ** **     | **2007**   | ** ** |
|---------------------------|------------|------------|------------|-----------|----------------|------------|------------|
| 11/30/2009                |       | 3.3400     |       | 1,000,000 |           | —     |       |
| 03/12/2010                |       | 2.6400     |       | 5,000,000 |           | —     |       |
| 05/28/2010                |       | 3.5800     |       | 1,000,000 |           | —     |       |
| 05/31/2011                |       | 3.9300     |       | 1,000,000 |           | —     |       |
| 07/11/2011                |       | 3.6675     |       | 1,000,000 |           | —     |       |
| 07/10/2012                |       | 3.8990     |       | 1,000,000 |           | —     |       |
| 09/12/2012                |       | 3.7000     |       | 750,000   |           | —     |       |
| 09/12/2013                |       | 3.8500     |       | 750,000   |           | —     |       |
| 11/29/2017                |       | 3.4840     |       | 5,000,000 |           | 5,000,000  |       |
|                      |       |       |       |      |           |       |       |
| Total advances from FHLBA | ** ** | ** ** | ** ** | **$**     | **16,500,000** | ** ** | **$**      | **5,000,000** | ** ** |
|                           |            |            |            |           |                |            |            |  |  |

 

**NOTE 8 - STOCK COMPENSATION PLAN**

** **

Under the terms of the original employment agreements with theCompany’s Chief Executive Officer (“CEO”), Chief Credit Officer (“CCO”), ChiefOperating Officer (“COO”) and the Company’s Chief Financial Officer (“CFO”),stock options were granted to each as part of their compensation and benefitspackage.  Under these agreements, the CEOwas granted options to purchase common stock equal to 2% of the shares sold inthe initial offering or 25,031 options. The CCO and the COO were granted options to purchase common stock equalto 1% of the shares sold in the initial offering or 12,516 options toeach.  The CFO was granted 10,000 stockoptions.   These options vest over a fiveyear period.  The options have anexercise price of $10 per share and terminate ten years after the date ofgrant.

 

The Company has alsogranted a total of 49,250 stock options to its employees.  Of these, 23,500 were granted in 2008 and7,750 were granted in 2007.   Theseoptions vest over a five year period.  Years will be measured from the grant dates.   The options have an exercise price of $8.85to $11 per share and terminate ten years after the date of grant.  The weighted average grant date fair valuewas $8.85 and $11 per share in 2008 and 2007, respectively.   No options have been exercised.  Of these, 17,000 have been forfeited****As of December 31, 2008 there was $164,658 of totalunrecognized compensation cost related to non-vested share-based compensationarrangements granted under the plan. That cost is expected to be recognized over a weighted average period of2.92 years.  The total fair value of theshares vested during the years ended December 31, 2008 and 2007 was$60,916 and $46,439, respectively.

 

F-17

----

 

Asummary of the status of the Company’s stock options as of December 31,and changes during the year are presented below:

 
| ** **                       | ** ** | **2008**   | ** ** | **2007**                                   | ** ** |
|----------------------------------|------------|------------|------------|--------------------------------------------|------------|
| ** **                       | ** ** | **Shares** | ** ** | **Weighted  Average  Exercise Price** | ** ** | **Shares** | ** ** | **Weighted  Average  Exercise Price** | ** ** |
| Outstanding at January 1,   |       | 69,813     |       | $                                          | 10.11      |   | 69,563 |   | $ | 10.00 |   |
| Granted                          |       | 23,500     |       | 8.85                                       |       | 7,750 |   | 11.00 |   |
| Exercised                        |       | —     |       | —                                     |       | — |   | — |   |
| Forfeited                        |       | (1,000     | )          | 11.00                                      |       | (7,500 | ) | 10.00 |   |
| Expired                          | ** ** | **—** | ** ** | **—**                                 | ** ** | **—** | ** ** | **—** | ** ** |
| Outstanding at December 31, | ** ** | **92,313** | ** ** | **$**                                      | **9.78**   | ** ** | **69,813** | ** ** | **$** | **10.11** | ** ** |

** **

At December 31, 2008 and 2007, 26,175 and 12,413 of these optionswere exercisable.

 

The following table summarizes information about the stock optionsoutstanding under the Company’s Plan at December 31, 2008:

* *
| ** **                      | ** ** | **Outstanding** | ** ** | **Exercisable** | ** ** |
|---------------------------------|------------|-----------------|------------|-----------------|------------|
| Number of options               |       | 92,313          |       | 26,175          |       |
| Weighted average remaining life |       | 8.00 years      |       | 7.56 years      |       |
| Weighted average exercise price |       | $               | 9.78       |            | $          | 10.05 |   |
| High exercise price             |       | $               | 11.00      |            | $          | 11.00 |   |
| Low exercise price              |       | $               | 8.85       |            | $          | 10.00 |   |
| Aggregate intrinsic value       |       | $               | 0.00       |            | $          | 0.00 |   |

** **
| ** **                          | ** ** | **Shares** | ** ** | **Weighted  Average  Grant-Date  Fair Value** | ** ** |
|-------------------------------------|------------|------------|------------|----------------------------------------------------|------------|
| Nonvested at January 1, 2008   |       | 57,400     |       | $                                                  | 3.26       |   |
| Granted                             |       | 23,500     |       | $                                                  | 2.84       |   |
| Vested                              |       | (13,762    | )          | $                                                  | 3.31       |   |
| Forfeited                           |       | (1,000     | )          | $                                                  | 3.78       |   |
| Nonvested at December 31, 2008 | ** ** | **66,138** | ** ** | **$**                                              | **3.20**   | ** ** |

** **

**NOTE 9 - STOCK WARRANTS**

** **

The organizers of theCompany received stock warrants giving them the right to purchase one share ofcommon stock for every share they purchased in the initial offering of theCompany’s common stock up to 10,000 shares at a price of $10 per share.   A total of 80,000 warrants were granted in2006.  The warrants vest over a five yearperiod.   All unexercised organizerwarrants expire on the tenth anniversary of the opening date of the bank,subject to earlier termination in certain circumstances pursuant to individualstock warrant agreements.  There were nowarrants granted, exercised or forfeited in 2008 or 2007.

 

At December 31, 2008 and 2007, 32,000 and 16,000 warrants wereexercisable, respectively.

 

F-18

----

 

**NOTE 10 - INCOME TAXES**

** **

Income tax benefit for the years ended December 31, is summarizedas follows:

 
| ** **                                             | ** ** | **2008**   | ** **  | **2007**   | ** ** |
|--------------------------------------------------------|------------|------------|-------------|------------|------------|
| Current portion                                        | ** ** | ** ** | ** **  | ** ** | ** ** |
| Federal                                                |       | $          | —      |       | $          | — |   |
| State                                                  |       | —     |        | —     |       |
| Total current                                          |       | —     |        | —     |       |
| Deferred income tax provision (benefit)                |       | (63,998    | )           | (250,453   | )          |
|                                                   |       |       |        |       |       |
| Income tax expense (benefit)                           |       | (63,998    | )           | (250,453   | )          |
|                                                   |       |       |        |       |       |
| Income tax expense (benefit) is allocated  as follows: |       |       |        |       |       |
| To continuing operations                               |       | (251,794   | )           | (261,023   | )          |
| To shareholders’ equity                           |       | 187,796    |        | 10,570     |       |
|                                                   |       |       |        |       |       |
| Income tax expense (benefit)                           | ** ** | **$**      | **(63,998** | **)**      | **$**      | **(250,453** | **)** |

 

The gross amounts of deferred tax assets and deferred tax liabilitiesare as follows:

 
| ** **                                        | ** ** | **2008**   | ** **    | **2007**   | ** ** |
|---------------------------------------------------|------------|------------|---------------|------------|------------|
| **Deferred tax assets:**                          | ** ** | ** ** | ** **    | ** ** | ** ** |
| Allowance for loan losses                         |       | $          | 299,802       |       | $          | 164,507 |   |
| Net operating loss carryforward                   |       | 790,164    |          | 655,137    |       |
| Organizational and start-up costs                 |       | 198,734    |          | 215,308    |       |
| Accumulated depreciation                          |       | —     |          | 31,248     |       |
| Other                                             |       | 56,207     |          | 49,491     |       |
| New jobs tax credit carryforwards                 |       | 57,750     |          | —     |       |
| Total deferred tax assets                         |       | 1,402,657  |          | 1,115,691  |       |
|                                              |       |       |          |       |       |
| **Deferred tax liabilities:**                     |       |       |          |       |       |
| Accumulated depreciation                          |       | 21,520     |          | —     |       |
| Unrealized gain on securities available for  sale |       | 198,366    |          | 10,570     |       |
| Net capitalized loan costs and fees               |       | 12,909     |          | 16,493     |       |
| Prepaid expenses                                  |       | 32,550     |          | 15,315     |       |
| Total deferred tax liabilities                    |       | 265,345    |          | 42,378     |       |
|                                              |       |       |          |       |       |
| Net deferred tax asset                            | ** ** | **$**      | **1,137,312** | ** ** | **$**      | **1,073,313** | ** ** |

 

Deferred tax assets represent the future tax benefit of deductibledifferences and, if it is more likely than not that a tax asset will not berealized, a valuation allowance is required to reduce the recorded deferred taxassets to net realizable value.  As of December 31,2008 and 2007, management has not recorded a valuation allowance.  Net deferred tax assets are recorded in otherassets on the Company’s consolidated balance sheets.

 

The Company has a net operating loss for Federal income tax purposes of$2,324,012 as of December 31, 2008. This net operating loss begins toexpire in the year 2026**.**

** **

A reconciliation between the income tax expense and the amount computedby applying the Federal statutory rate of 34% for 2008 and 2007 to incomebefore income taxes follows:

 
| ** **                      | ** ** | **2008** | ** **   | **2007** | ** ** |
|---------------------------------|------------|----------|--------------|----------|------------|
| Tax benefit at a statutory rate |       | $        | (251,811     | )        | $          | (282,155 | ) |
| Stock-based compensation        |       | 38,089   |         | 33,118   |       |
| Other                           |       | (38,072  | )            | (11,986  | )          |
| Income tax benefit              | ** ** | **$**    | **(251,794** | **)**    | **$**      | **(261,023** | **)** |

 

TheCompany has analyzed the tax positions taken or expected to be taken in its taxreturns and concluded it has no liability related to uncertain tax positions inaccordance with FIN 48.   The Company’spolicy is to classify any 

 

F-19

----

 

interestor penalties recognized in accordance with FIN 48 as interest expense ornoninterest expense, respectively.  Yearsended December 31, 2005 through December 31, 2007 remain open foraudit for all major jurisdictions.

 

**NOTE 11 – BENEFIT PLAN**

** **

During fiscal 2007, the Company established a defined contribution plancovering substantially all employees. The Company contributes a matching contribution of 100% of employeesalary deferral contributions up to 3% of salary, plus 50% of employee salarydeferral contributions from 3% to 5% of salary for the plan year.   Matching contribution expense was $ 49,762and $39,363 for fiscal 2008 and 2007, respectively.

 

**NOTE 12 - LEASES**

** **

TheCompany has entered into various lease agreements which are more fullydescribed below.

 

The Company entered into a lease agreement for a minimum term ofthirty-six months which ended on October 15, 2007.  This lease was amended on January 24,2007.  On March 27, 2007, this leaseagreement was extended for an additional three-year term, ending in October 14,2010 with a monthly rental amount of $4,928. This lease provides for one additional three-year renewal term withmonthly rental amounts $5,292.   Thisspace served as the main branch location for the Bank until it was consolidatedwith the operations center into a new location in July 2008.  The Bank is attempting to sub-lease thisspace for the duration of the current option extension and does not intend torenew beyond the expiration of the current option period.

 

On January 1, 2007, the Company opened a loan production office onHilton Head Island, South Carolina.  Thislocation was converted to a full-service branch on October 26, 2007.  The leased facility was sold in August 2007to a limited liability corporation owned primarily by directors of theCompany.  The Company entered into a newlease agreement beginning August 1, 2007 for a minimum of ten years.   The lease agreement provides for two tenyear renewal terms.  Monthly rentalexpense for the first two years of the lease is $2,000.  At the end of the second year of the initialterm, and at the end of each subsequent two year period and of any renewal termof this lease, the base rent may be adjusted according to the provisions in thelease.

 

The Company has assumed liability for a lease agreement for anautomobile.  The lease terms call formonthly payments of $400.  On January 3,2008, this lease was extended for an additional year with the same leasepayment, terms and conditions contained in the original agreement.    On August 21, 2008, the Companyexchanged the leased automobile and entered into a new lease agreement on thenew automobile.   The lease terms callfor monthly payments of $400 and expires on August 20, 2011.

 

The Bank entered into a lease agreement on February 5, 2008 for aminimum term of fifteen years, ending on December 31, 2022.  The lease agreement provides for two fiveyear renewal terms.    Monthly rentalexpense for the first year of the lease is $9,572.  At the end of the first year of the initialterm, and at the end of each subsequent year, the base rent will be adjustedaccording to the provisions in the lease. A Commercial Lease Addendum was signed on March 25, 2008 whichadjusted the monthly rental expense for the first year of the lease to$8,993.  The Addendum also adjusted themonthly base rent due after the first year for the duration of the lease.  This space consolidated the existing main branchlocation and the Operations Department in July 2008.

 

Rental expense for the year ending December 31, 2008 totaled$220,934.  Rental expense for the yearending December 31, 2007 totaled $127,815.

 

Under these assumptions, minimum future rental payments undernon-cancelable operating leases having remaining terms in excess of one yearfor each of the next five years in the aggregate are:

 
| 2009 |   | $ | 199,077 |   |
|------|--------|---|---------|--------|
| 2010 |   | $ | 189,897 |   |
| 2011 |   | $ | 144,979 |   |
| 2012 |   | $ | 145,454 |   |
| 2013 |   | $ | 149,097 |   |

 

F-20

----

** **

**NOTE 13**-**RELATED PARTY TRANSACTIONS**

** **

Certain parties (principally certain directors andexecutive officers of the Company, their immediate families and businessinterests) were loan customers of and had other transactions in the normalcourse of business with the Company. Related party loans are made on substantially the same terms, includinginterest rates and collateral, as those prevailing at the time for comparabletransactions with unrelated persons and do not involve more than the normalrisk of collectability.  As of December 31,2008, the Company had related party loans totaling $2,727,054.  Advances made totaled $3,855,629 andrepayments totaled $3,822,702 during the year ended December 31,2008.   The Company had related partyloans totaling $2,694,127 as of December 31, 2007.  Advances made totaled $2,628,123 andrepayments totaled $717,664 during the year ended December 31, 2007.

 

Deposits by directors, including their affiliatesand executive officers, at December 31, 2008 and 2007 were $7,839,413 and$4,668,086, respectively.

 

Oneof the leases described in Note 12 is with a limited liability corporation thatis owned primarily by the directors of the Company.  The expense associated with this leasetotaled $36,439 and $34,459 for the years ended December 31, 2008 and2007, respectively.

 

**NOTE 14 - COMMITMENTS AND CONTINGENCIES**

** **

The Company is subject to claims and lawsuits which arise primarily inthe ordinary course of business. Management is not aware of any legal proceedings which would have amaterial adverse effect on the financial position or operating results of theCompany.

 

**NOTE 15**-**LOSS PER SHARE**

** **

Basic loss per share iscomputed by dividing net loss by the weighted-average number of common shares outstanding.  Diluted loss per share is computed bydividing net income (loss) by the weighted-average number of common sharesoutstanding and dilutive common share equivalents using the treasury stockmethod.  Due to the net loss, there wereno dilutive common share equivalents outstanding during 2008 or 2007;therefore, basic loss per share and diluted earnings per share were the same.

 
| ** **                                       | ** ** | **2008**   | ** ** | **2007**   | ** ** |
|--------------------------------------------------|------------|------------|------------|------------|------------|
| **Net loss per share – basic computation:** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Net loss to common shareholders                  |       | $          | (488,826   | )          | $          | (568,846 | ) |
| Average common shares outstanding – basic   |       | 1,251,577  |       | 1,251,577  |       |
| Basic loss per share                             |       | $          | (.39       | )          | $          | (.45 | ) |

 

**NOTE 16- REGULATORY MATTERS**

** **

TheBank is subject to various regulatory capital requirements administered by thefederal banking agencies.  Failure tomeet minimum capital requirements can initiate certain mandatory, and possiblyadditional discretionary actions by regulators that, if undertaken, could havea direct adverse material effect on the Bank’s financial statements.  Under capital adequacy guidelines and theregulatory framework for prompt corrective action, the Bank must meet specificcapital guidelines that involve quantitative measures of the Bank’s assets,liabilities, and certain off-balance-sheet items as calculated under regulatoryaccounting practices.  The Bank’s capitalamounts and classification are also subject to qualitative judgments by theregulators about components, risk weightings, and other factors.

 

Quantitative measures established by regulation toensure capital adequacy require the Bank to maintain minimum ratios of Tier 1and total capital as a percentage of assets and off-balance-sheet exposures,adjusted for risk weights ranging from 0% to 100%.  Tier 1 capital consists of commonshareholders’ equity, excluding the unrealized gain or loss on securitiesavailable-for-sale, minus certain intangible assets.  Tier 2 capital consists of the allowance forloan losses subject to certain limitations. Total capital for purposes of computing the capital ratios consists ofthe sum of Tier 1 and Tier 2 capital. The regulatory minimum requirements are 4% for Tier 1 and 8% for totalrisk-based capital.

 

F-21

----

 

TheBank is also required to maintain capital at a minimum level based on totalaverage assets, which is known as the leverage ratio.  Only the strongest banks are allowed tomaintain capital at the minimum requirement of 3%.  All others are subject to maintaining ratios1% to 2% above the minimum.

 

As of December 31, 2008 and 2007, the Bankexceeded its minimum regulatory capital ratios, as well as the ratios to beconsidered “well-capitalized”.

 

As of the most recent regulatory examination, theBank was deemed well-capitalized under the regulatory framework for promptcorrective action.  To be categorizedwell-capitalized, the Bank must maintain total risk-based, Tier 1 risk-based,and Tier 1 leverage ratios as set forth in the table below.  There are no conditions or events thatmanagement believes have changed the Bank’s categories.

 

The following table summarizes the capital amountsand ratios of the Bank and the regulatory minimum requirements at December 31,2008 and 2007:

 
| ** **                               | ** ** | ** ** | ** ** | ** **  | ** ** | ** **                 | ** ** | ** **                 | ** ** | **To be well capitalized** | ** ** |
|------------------------------------------|------------|------------|------------|-------------|------------|----------------------------|------------|----------------------------|------------|-------------------------------------------|------------|
| ** **                               | ** ** | ** ** | ** ** | ** **  | ** ** | ** **                 | ** ** | ** **                 | ** ** | **under prompt**                     | ** ** |
| ** **                               | ** ** | ** ** | ** ** | ** **  | ** ** | **For capital**       | ** ** | **corrective**             | ** ** |
| ** **                               | ** ** | ** ** | ** ** | ** **  | ** ** | **adequacy purposes** | ** ** | **action provisions** | ** ** |
| ** **                               | ** ** | **Actual** | ** ** | **Minimum** | ** ** | **Minimum**                | ** ** |
| **(Dollars  in thousands)**              | ** ** | **Amount** | ** ** | **Ratio**   | ** ** | **Amount**                 | ** ** | **Ratio**                  | ** ** | **Amount**                                | ** ** | **Ratio** | ** ** |
| * *                                 |       |       |       |        |       |                       |       |                       |       |                                      |       |   |   |
| **As of December 31, 2008**         |       |       |       |        |       |                       |       |                       |       |                                      |       |   |   |
| Total Capital (to risk weighted assets)  |       | $          | 8,972      |        | 12.88      | %                          | $          | 5,572                      |       | 8.0                                       | %          | $ | 6,965 |   | 10.0 | % |
| Tier 1 Capital (to risk weighted assets) |       | 8,099      |       | 11.63       | %          | 2,786                      |       | 4.0                        | %          | 4,179                                     |       | 6.0 | % |
| Tier 1 Capital (to average assets)       |       | 8,099      |       | 8.61        | %          | 3,765                      |       | 4.0                        | %          | 4,706                                     |       | 5.0 | % |
| **As of December 31, 2007**         |       |       |       |        |       |                       |       |                       |       |                                      |       |   |   |
| Total Capital (to risk weighted assets)  |       | $          | 9,172      |        | 14.65      | %                          | $          | 5,007                      |       | 8.0                                       | %          | $ | 6,258 |   | 10.0 | % |
| Tier 1 Capital (to risk weighted assets) |       | 8,495      |       | 13.57       | %          | 2,503                      |       | 4.0                        | %          | 3,755                                     |       | 6.0 | % |
| Tier 1 Capital (to average assets)       |       | 8,495      |       | 11.26       | %          | 3,017                      |       | 4.0                        | %          | 3,771                                     |       | 5.0 | % |

 

TheFederal Reserve guidelines contain an exemption from the capital requirementsfor “small bank holding companies.”  On March 31,2007, the Federal Reserve changed the definition of a small bank holdingcompany to bank holding companies with less than $500 million in total assets(an increase from $150 million under the prior rule).  However, bank holding companies will notqualify under the new definition if they (i) are engaged in significantnonbanking activities either directly or indirectly through a subsidiary, (ii) conductsignificant off-balance sheet activities, including securitizations or managingor administering assets for third parties, or (iii) have a material amountof debt or equity securities (including trust preferred securities) outstandingthat are registered with the SEC. Although we have less than $500 million in assets, it is unclear at thispoint whether we otherwise meet the requirements for qualifying as a “smallbank holding company.”  According to theFederal Reserve Board, the revision of the criterion to exclude any bankholding company that has outstanding a material amount of SEC-registered debtor equity securities reflects the fact that SEC registrants typically exhibit adegree of complexity of operations and access to multiple funding sources thatwarrants excluding them from the new policy statement and subjecting them tothe capital guidelines.  In the adoptingrelease for the new rule, the Federal Reserve Board stated that whatconstitutes a “material” amount of SEC-registered debt or equity for aparticular bank holding company depends on the size, activities and conditionof the relevant bank holding company.  Inlieu of using fixed measurable parameters of materiality across all institutions,the rule provides the Federal Reserve with supervisory flexibility indetermining, on a case-by-case basis, the significance or materiality ofactivities or securities outstanding such that a bank holding company should beexcluded from the policy statement and subject to the capital guidelines.  Prior to adoption of this new rule, ourholding company was not subject to these capital guidelines, as it had lessthan $150 million in assets.  Until theFederal Reserve provides further guidance on the new rules, it will be unclearwhether our holding company will be subject to the exemption from the capitalrequirements for small bank holding companies. Regardless, the****Bank issubject to, and complies with, these minimum capital requirements as set perbank regulatory agencies.

 

F-22

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** **

**NOTE17- LINES OF CREDIT**

** **

Asof December 31, 2008, the Company had lines of credit to purchase federalfunds from unrelated banks totaling $8,500,000, consisting of a $2,800,000 linesecured by $3,153,875 of pledged investment securities, and $5,700,000 ofunsecured lines. As of December 31, 2008, $236,500 was outstanding on thesecured line of credit and $8,263,500 remained unused on lines of credit.  The lenders have reserved the right towithdraw the unsecured lines at their option. These lines of credit are available on various structures for generalcorporate purposes.

 

AtDecember 31, 2008, we had remaining available credit from FHLBA totaling$934,927 based upon existing pledged investment and loan collateral.  At December 31, 2008, an additional$1,355,073 of credit was also available to the bank upon the receipt ofadditional collateral pledged to FHLBA.

 

As of December 31, 2008, we had $11,506,651 of lot loans pledgedto Federal Reserve Bank of Richmond which produced lendable collateral valuetotaling $6,903,991 available for short-term advances at the DiscountWindow.   For advances with maturities oftwenty-eight days or less, the total lendable collateral value was available tothe Bank.  Seventy-five percent of theBank’s lendable collateral value was available for advances with maturitiesfrom twenty-nine to ninety days.  Therate on the advances from the Discount Window is the Federal Reserve DiscountWindow rate.   Advances from the FederalReserve Discount Window are not subject to prepayment penalties.  No advances from the Federal Reserve Bankwere outstanding as of December 31, 2008.

 

###### **NOTE 18 - RESTRICTIONS ONSUBSIDIARY DIVIDENDS, LOANS, OR ADVANCES**

###### ** **

Theability of the Company to pay cash dividends to stockholders is dependent uponreceiving cash in the form of dividends from its banking subsidiary.  However, certain restrictions exist regardingthe ability of the subsidiary to transfer funds in the form of cash dividendsto the Company.  State chartered banksare authorized to pay cash dividends up to 100% of net income in any calendaryear without obtaining the prior approval of the State Board of FinancialInstitutions or the Commissioner of Banking provided that the Bank received acomposite rating of one or two at the last examination conducted by the Stateor Federal regulatory authority. Otherwise, the Bank must file an income and expense report and obtainthe specific approval of the State Board.

 

UnderFederal Reserve Board regulations, the amount of loans or advances from thebanking subsidiary to the parent company is also restricted as discussed inNote 4.

 

**NOTE 19- FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK**

** **

TheCompany is a party to financial instruments with off-balance-sheet risk in thenormal course of business to meet the financing needs of its customers.  These financial instruments consist ofcommitments to extend credit and standby letters of credit.  Commitments to extend credit are agreementsto lend to a customer as long as there is no violation of any conditionestablished in the contract.  Commitmentsgenerally have fixed expiration dates or other termination clauses and mayrequire payment of a fee.  A commitmentinvolves, to varying degrees, elements of credit and interest rate risk inexcess of the amount recognized in the balance sheet.  The Company’s exposure to credit loss in theevent of nonperformance by the other party to the instrument is represented bythe contractual notional amount of the instrument.  Since certain commitments are expected toexpire without being drawn upon, the total commitment amounts do notnecessarily represent future cash requirements. The Company uses the same credit policies in making commitments toextend credit as it does for on-balance-sheet instruments.  Letters of credit are conditional commitmentsissued to guarantee a customer’s performance to a third party and haveessentially the same credit risk as other lending facilities.

 

Collateralheld for commitments to extend credit and letters of credit varies but mayinclude accounts receivable, inventory, property, plant, equipment andincome-producing commercial properties.

 

F-23

----

 

Thefollowing table summarizes the Bank’s off-balance-sheet financial instrumentswhose contract amounts represent credit risk at December 31:

 
| ** **                   | ** ** | **2008** | ** **     | **2007**   | ** ** |
|------------------------------|------------|----------|----------------|------------|------------|
| Commitments to extend credit |       | $        | 11,500,006     |       | $          | 12,891,632 |   |
| Commercial letters of credit |       | 360,073  |           | 205,073    |       |
| ** **                   | ** ** | **$**    | **11,860,079** | ** ** | **$**      | **13,096,705** | ** ** |

** **

**NOTE 20– FAIR VALUE OF FINANCIAL INSTRUMENTS**

 

Thefair value of a financial instrument is the amount at which the asset orobligation could be exchanged in a current transaction between willing parties,other than in a forced or liquidation sale. Fair value estimates are made at a specific point in time based onrelevant market information and information about the financialinstruments.  Because no market valueexists for a significant portion of the financial instruments, fair valueestimates are based on judgments regarding future expected loss experience,current economic conditions, risk characteristics of various financialinstruments, and other factors.

 

Thefollowing methods and assumptions were used to estimate the fair value ofsignificant financial instruments:

 

**Cashand Due from Banks** -The carrying amount is a reasonable estimate of fair value.

 

**InvestmentSecurities** - Forsecurities available for sale, fair value equals the carrying amount which isthe quoted market price.

 

**NonmarketableEquity Securities** –The carrying value of nonmarketable equity securities approximates the fairvalue since no ready market exists for the stocks.

 

**Loansreceivable** - Forcertain categories of loans, such as variable rate loans which are repricedfrequently and have no significant change in credit risk, fair values are basedon the carrying amounts.  The fair valueof other types of loans is estimated by discounting the future cash flows usingthe current rates at which similar loans would be made to borrowers with similarcredit ratings and for the same remaining maturities.

 

**Deposits** - The fair value of demand deposits,savings, and money market accounts is the amount payable on demand at thereporting date.  The fair values ofcertificates of deposit are estimated using a discounted cash flow calculationthat applies current interest rates to a schedule of aggregated expectedmaturities.

 

**Advancesfrom Federal Home Loan Bank** - The fair value of fixed rate borrowings are estimated using adiscounted cash flow calculation that applies the Company’s current borrowingrate from the Federal Home Loan Bank. The carrying amounts of variable rate borrowings are reasonableestimates of fair value because they can be repriced frequently.

 

**FederalFunds Purchased** -Federal funds purchased are for a term of one day, and the carrying amountapproximates the fair value.

 

**AccruedInterest Receivable and Payable** - The carrying value of these instruments is a reasonable estimate offair value.

 

**Off-Balance-SheetFinancial Instruments**- The carrying amount for loan commitments and standby letters of credit whichare off-balance-sheet financial instruments approximates the fair value sincethe obligations are typically based on current market rates.

 

TheCompany has used management’s best estimate of fair value based on the aboveassumptions.  Thus, the fair valuespresented may not be the amounts that could be realized in an immediate sale orsettlement of the instrument.  Inaddition, any income taxes or other expenses, which would be incurred in anactual sale or settlement, are not taken into consideration in the fair valuepresented.

 

F-24

----

** **

**NOTE 20— FAIR VALUE OF FINANCIAL INSTRUMENTS (continued)**

 

The estimated fair values of the Company’s financial instruments at December 31,2008 and 2007 are as follows:

 
| ** **                                                          | ** ** | **December 31, 2008** | ** ** | **December 31, 2007** | ** ** |
|---------------------------------------------------------------------|------------|---------------------------------|------------|---------------------------------|------------|
| ** **                                                          | ** ** | **Carrying**                    | ** ** | **Fair**                        | ** ** | **Carrying** | ** ** | **Fair** | ** ** |
| ** **                                                          | ** ** | **Amount**                      | ** ** | **Value**                       | ** ** | **Amount** | ** ** | **Value** | ** ** |
| **Financial Assets:**                                               |       |                            |       |                            |       |   |   |   |   |
| Cash and due from banks                                             |       | $                               | 577,915    |                            | $          | 577,915 |   | $ | 1,630,198 |   | $ | 1,630,198 |   |
| Securities available for sale                                       |       | 16,388,747                      |       | 16,388,747                      |       | 13,599,116 |   | 13,599,116 |   |
| Nonmarketable equity securities                                     |       | 891,200                         |       | 891,200                         |       | 318,400 |   | 318,400 |   |
| Loans receivable                                                    |       | 75,363,221                      |       | 74,841,000                      |       | 65,086,609 |   | 65,874,000 |   |
| Accrued interest receivable                                         |       | 319,048                         |       | 319,048                         |       | 369,775 |   | 369,775 |   |
|                                                                |       |                            |       |                            |       |   |   |   |   |
| **Financial Liabilities:**                                          |       |                            |       |                            |       |   |   |   |   |
| Demand deposits, interest-bearing transaction  and savings accounts |       | 29,031,427                      |       | 29,031,427                      |       | 26,200,733 |   | 26,200,733 |   |
| Time deposits                                                       |       | 38,935,807                      |       | 39,448,000                      |       | 37,268,369 |   | 36,284,034 |   |
| Advances from Federal Home Loan Bank                                |       | 16,500,000                      |       | 17,365,000                      |       | 5,000,000 |   | 5,000,000 |   |
| Federal funds purchased                                             |       | 236,500                         |       | 236,500                         |       | 3,838,200 |   | 3,383,200 |   |
| Accrued interest payable                                            |       | 290,791                         |       | 290,791                         |       | 196,852 |   | 196,852 |   |
|                                                                     |            |                                 |            |                                 |            |  |  |  |  |  |  |  |  |

 
| ** **                   | ** ** | **Notional** | ** ** | **Fair**  | ** ** | **Notional** | ** ** | **Fair**  | ** ** |
|------------------------------|------------|--------------|------------|-----------|------------|--------------|------------|-----------|------------|
| ** **                   | ** ** | **Amount**   | ** ** | **Value** | ** ** | **Amount**   | ** ** | **Value** | ** ** |
| Commitments to extend credit |       | $            | 11,500,006 |      | $          |  — |       | $         | 12,891,632 |   | $ | — |   |
| Standby letters of credit    |       | 360,073      |       | —    |       | 205,073      |       | —    |       |
|                              |            |              |            |           |            |              |            |           |            |  |  |  |  |

*** ***

Effective January 1, 2008, the Company adopted SFAS No. 157,“Fair Value Measurements” (“SFAS 157”) which provides a framework for measuringand disclosing fair value under generally accepted accounting principles. SFAS157 requires disclosures about the fair value of assets and liabilitiesrecognized in the balance sheet in periods subsequent to initial recognition,whether the measurements are made on a recurring basis (for example, availablefor sale investment securities) or on a nonrecurring basis (for example,impaired loans).

 

SFAS 157 defines fair value as the exchange price that would bereceived for an asset or paid to transfer a liability (an exit price) in theprincipal or most advantageous market for the asset or liability in an orderlytransaction between market participants on the measurement date. SFAS 157 alsoestablishes a fair value hierarchy which requires an entity to maximize the useof observable inputs and minimize the use of unobservable inputs when measuringfair value. The standard describes three levels of inputs that may be used tomeasure fair value:

 

**Level 1**-Quoted prices in active markets for identical assets or liabilities. Level 1assets and liabilities include debt and equity securities and derivativecontracts that are traded in an active exchange market, as well as U.S.Treasuries, and money market funds.

 

**Level 2**-Observable inputs other than Level 1 prices such as quoted prices for similarassets or liabilities; quoted prices in markets that are not active; or otherinputs that are observable or can be corroborated by observable market data forsubstantially the full term of the assets or liabilities. Level 2 assets andliabilities include debt securities with quoted prices that are traded lessfrequently than exchange-traded instruments, mortgage- backed securities,municipal bonds, corporate debt securities, and derivative contracts whosevalue is determined using a pricing model with inputs that are observable inthe market or can be derived principally from or corroborated by observablemarket data. This category generally includes certain derivative contracts andimpaired loans.

 

**Level 3** - Unobservable inputs that aresupported by little or no market activity and that are significant to the fairvalue of the assets or liabilities. Level 3 assets and liabilities includefinancial instruments whose value is determined using pricing models,discounted cash flow methodologies, or similar techniques, as well asinstruments for which the determination of fair value requires significantmanagement judgment or estimation. For example, this category generallyincludes certain private equity investments, retained residual interests insecuritizations, residential mortgage servicing rights, and highly-structuredor long-term derivative contracts.

 

F-25

----

 

Assets and liabilities measured at fair value on a recurring basis areas follows as of December 31, 2008:

 
| ** **                    | ** ** | **Quoted  Market Price  in active  markets  (Level 1)** | ** ** | **Significant  Other  Observable  Inputs  (Level 2)** | ** ** | **Significant  Unobservable  Inputs  (Level 3)** | ** ** |
|-------------------------------|------------|------------------------------------------------------------------------|------------|------------------------------------------------------------|------------|-------------------------------------------------------|------------|
| Available for Sale Securities |       | $                                                                      | —     |                                                       | $          | 16,388,747                                            |       | $ | — |   |
| Total                         |       | $                                                                      | —     |                                                       | $          | 16,388,747                                            |       | $ | — |   |

 

The Company has $2,462,246 of impaired loans measured at fair value asof December 31, 2008 on a nonrecurring basis.  These loans are at a Level 2 input.

 

F-26

----

 

**NOTE 21 — PARENT COMPANY FINANCIAL INFORMATION**

** **

Following is condensed financial information of Atlantic Bancshares, Inc.(parent company only):

 

**CondensedBalance Sheets**

**December 31, 2008 and 2007**

 
| ** **                                      | ** ** | **December 31,** | ** **    |
|-------------------------------------------------|------------|-----------------------|---------------|
| ** **                                      | ** ** | **2008**              | ** **    | **2007** | ** ** |
| **Assets:**                                     |       |                  |          |   |   |
| Cash and cash equivalents                       |       | $                     | 348,985       |   | $ | 394,130 |   |
| Deferred tax benefit                            |       | 108,411               |          | 54,989 |   |
| Investment in subsidiary                        |       | 9,512,608             |          | 9,533,139 |   |
| Total assets                                    | ** ** | **$**                 | **9,970,004** | ** ** | **$** | **9,982,258** | ** ** |
|                                            |       |                  |          |   |   |
| **Liabilities and Shareholders’ Equity**   | ** ** | ** **            | ** **    | ** ** | ** ** |
|                                            |       |                  |          |   |   |
| Shareholders’ equity                       |       | 9,970,004             |          | 9,982,258 |   |
| Total liabilities and shareholders’ equity | ** ** | **$**                 | **9,970,004** | ** ** | **$** | **9,982,258** | ** ** |

 

**CondensedStatements of Operations**

**For the years ended December 31, 2008 and 2007**

 
| ** **                                                                         | ** ** | **2008**   | ** **   | **2007**   | ** ** |
|------------------------------------------------------------------------------------|------------|------------|--------------|------------|------------|
|                                                                               |       |       |         |       |       |
| Salaries and benefits                                                              |       | $          | 112,025      |       | $          | 97,408 |   |
| Other expense                                                                      |       | 45,145     |         | 45,089     |       |
| Total expense                                                                      |       | 157,170    |         | 142,497    |       |
| ** **                                                                         | ** ** | ** ** | ** **   | ** ** | ** ** |
| Loss before income tax benefit and equity  in undistributed net loss of subsidiary |       | (157,170   | )            | (142,497   | )          |
|                                                                               |       |       |         |       |       |
| Income tax benefit                                                                 |       | (53,421    | )            | (12,549    | )          |
|                                                                               |       |       |         |       |       |
| Equity in undistributed net loss of  subsidiary                                    |       | (385,077   | )            | (438,898   | )          |
|                                                                               |       |       |         |       |       |
| Net loss                                                                           | ** ** | **$**      | **(488,826** | **)**      | **$**      | **(568,846** | **)** |

 

F-27

----

 

**NOTE 21 — PARENT COMPANY FINANCIAL INFORMATION (continued)**

# ** **

**Condensed Statements of Cash Flows**

**For the years ended December 31, 2008 and 2007**

 
| ** **                                                                  | ** ** | **2008**   | ** **  | **2007**   | ** ** |
|-----------------------------------------------------------------------------|------------|------------|-------------|------------|------------|
| **Operating activities**                                                    |       |       |        |       |       |
| Net loss                                                                    |       | $          | (488,826    | )          | $          | (568,846 | ) |
| Adjustments to reconcile net loss to net  cash used by operating activities |       |       |        |       |       |
| Equity in undistributed net loss of  subsidiary                             |       | 385,077    |        | 438,897    |       |
| Stock based compensation expense                                            |       | 112,025    |        | 97,408     |       |
| Increase in other assets                                                    |       | (53,421    | )           | (12,549    | )          |
| Net cash used by operating activities                                       |       | (45,145    | )           | (45,090    | )          |
| ** **                                                                  | ** ** | ** ** | ** **  | ** ** | ** ** |
| Net decrease in cash and cash equivalents                                   |       | (45,145    | )           | (45,090    | )          |
|                                                                        |       |       |        |       |       |
| **Cash and cash equivalents, beginning of  year**                           |       | 394,130    |        | 439,220    |       |
| ** **                                                                  | ** ** | ** ** | ** **  | ** ** | ** ** |
| **Cash and cash equivalents, end of year**                                  | ** ** | **$**      | **348,985** | ** ** | **$**      | **394,130** | ** ** |

 

F-28

----

 

**CORPORATE DATA**

** **

**ANNUAL MEETING:**

** **

The Annual Meeting of Shareholders of Atlantic Bancshares, Inc.will be held on May 22, 2009 at 10:00 AM at the Community Center, OscarFrazier Park, 77 Shults Road, Bluffton, South Carolina 29910.

 
| **CORPORATE  OFFICE:**             | **CORPORATE  COUNSEL:**                           |
|------------------------------------|---------------------------------------------------|
| ** **                         | ** **                                        |
| One  Sheridan Park Circle          | Nelson  Mullins Riley & Scarborough, LLP |
| Bluffton,  South Carolina 29910    | Poinsett  Plaza, Suite 900                   |
| Phone:  843.815.7111               | 104  South Main Street                            |
| Fax:  843.815.7112                 | Greenville,  South Carolina 29601                 |
|                               |                                              |
| **INDEPENDENT  AUDITORS:**         | **STOCK  TRANSFER AGENT:**                        |
| ** **                         | ** **                                        |
| Elliott  Davis, LLC                | First  Citizens Bank & Trust Company     |
| 1901  Main Street, Suite 1650 | Institutional  Trust Services Division            |
| Columbia,  South Carolina 29202    | 4300  Six Forks Road                              |
|                               | Raleigh,  North Carolina 27609                    |

 

**STOCKINFORMATION:**

** **

Ourcommon stock is listed on the OTC Bulletin Board under the symbol “ATBA.”  As of March 1, 2009, there were 389shareholders of record.

 

Ourability to pay cash dividends is dependent upon receiving cash in the form ofdividends from Atlantic Community Bank. However, certain restrictions exist regarding the ability of the bank totransfer funds to us in the form of cash dividends.  All of the bank’s dividends to us are payableonly from the undivided profits of the bank.

 
| **LOCATIONS:**                            | ** **                       |
|-------------------------------------------|----------------------------------|
| ** **                                | ** **                       |
| Sheridan  Park Branch                     | mailing:  (all locations)        |
| One  Sheridan Park Circle                 | Post  Office Box 3077            |
| Bluffton,  South Carolina 29910           | Bluffton,  South Carolina 29910  |
| Phone:  843.815.7111                      |                             |
| Fax:  843.815.7112                        |                             |
|                                      |                             |
| Hilton  Head Island Branch                |                             |
| One  Corpus Christi Place, Suite 108 |                             |
| Hilton  Head Island, South Carolina 29928 |                             |
| Phone:  843.785.3400                      |                             |
| Fax:  843.785.3350                        |                             |
|                                      |                             |
| “a”  Online:                    | “a”  Telephone Banking |
| www.atlanticcommunitybank.com             | 877.ACB.2472                     |

 

41

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**Item9.  Changes in and Disagreements withAccountants on Accounting and Financial Disclosure**

** **

None.

 

**Item 9A(T).  Controls and Procedures**

** **

Asof the end of the period covered by this report, we carried out an evaluation,under the supervision and with the participation of our management, includingour chief executive officer and chief financial officer, of the effectivenessof our disclosure controls and procedures as defined in Exchange Act Rule 15d-15(e).  Based upon that evaluation, our chiefexecutive officer and chief financial officer have concluded that our currentdisclosure controls and procedures are effective as of December 31, 2008.  There have been no significant changes in ourinternal controls over financial reporting during the fourth fiscal quarterended December 31, 2008 that have materially affected, or are reasonablylikely to materially affect, our internal controls over financial reporting.

 

Thedesign of any system of controls and procedures is based in part upon certainassumptions about the likelihood of future events.  There can be no assurance that any designwill succeed in achieving its stated goals under all potential futureconditions, regardless of how remote.

 

**Management’s Report on Internal Controls Over FinancialReporting**

** **

Management is responsiblefor establishing and maintaining adequate internal control over financialreporting, as such term is defined in the Exchange Act Rules 15d-15(f).  A system of internal control over financialreporting is a process designed to provide reasonable assurance regarding thereliability of financial reporting and the preparation of financial statementsfor external purposes in accordance with generally accepted accountingprinciples.

 

Under the supervision andwith the participation of management, including the principal executive officerand the principal financial officer, our management has evaluated theeffectiveness of our internal control over financial reporting as of December 31,2008 based on the criteria established in a report entitled “Internal Control —Integrated Framework issued by the Committee of Sponsoring Organizations of theTreadway Commission” and the interpretive guidance issued by the Commission inRelease No. 34-55929.  Based on thisevaluation, our management has evaluated and concluded that our internalcontrol over financial reporting was effective as of December 31, 2008.

 

Weare continuously seeking to improve the efficiency and effectiveness of ouroperations and of our internal controls. This results in modifications to processes throughout the company.  However, there has been no change in ourinternal control over financial reporting that occurred during our most recentfiscal quarter that has materially affected, or is reasonably likely tomaterially affect, our internal control over financial reporting.

 

Thisannual report does not include an attestation report of the company’sregistered public accounting firm regarding internal control over financialreporting.  Management’s report was notsubject to attestation by the company’s registered public accounting firmpursuant to temporary rules of the Securities and Exchange Commission thatpermit the company to provide only management’s report in this annual report.

 

**Item9B.  Other Information.**

** **

None.

 

42

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**Part III.**

 

**Item 10.  Directors, Executive Officers, Promoters andControl Persons; Compliance with Section 16(a) of the Exchange Act**

 

The following sets forth information regarding our executive officersand directors.  Our directors are electedto one year terms.  Our executiveofficers serve at the discretion of our board of directors.

 
| **Name**                           | ** ** | **Age** | ** ** | **Year First  Elected or  Appointed** | ** ** | **Year Term  Expires** | ** ** | **Position(s) Held**          | ** ** |
|------------------------------------|------------|---------|------------|-------------------------------------------------|------------|-----------------------------|------------|------------------------------------|------------|
|                               |       |    |       |                                            |       |                        |       |                               |       |
| Gary C. Davis                      |       | 44      |       | 2005                                            |       | 2009                        |       | Director                           |       |
| Frederick Anthony Nimmer, III |       | 48      |       | 2005                                            |       | 2009                        |       | Director                           |       |
| Robyn Josselson Shirley            |       | 42      |       | 2005                                            |       | 2009                        |       | Director                           |       |
| Mark S. Simpson                    |       | 47      |       | 2005                                            |       | 2009                        |       | Director                           |       |
| Brian J. Smith                     |       | 36      |       | 2005                                            |       | 2009                        |       | Chairman of  the Board, Director   |       |
| Robert P. Trask                    |       | 46      |       | 2005                                            |       | 2009                        |       | Chief  Executive Officer, Director |       |
| Allen B. Ward                      |       | 41      |       | 2005                                            |       | 2009                        |       | Director                           |       |
| Edgar L. Woods                     |       | 48      |       | 2005                                            |       | 2009                        |       | Director                           |       |
| Michelle M. Pennell                |       | 42      |       | 2006                                            |       |                        |       | Chief  Financial Officer, EVP      |       |
| Todd D. Hoke                       |       | 37      |       | 2005                                            |       |                        |       | Chief Credit  Officer, EVP         |       |
| Karen B. Sprague                   |       | 38      |       | 2005                                            |       |                        |       | Chief  Operations Officer, EVP     |       |

 

*Gary C. Davis*, 44, director, is director of sales withTradition National, a residential community in Hardeeville.  Prior to thatposition, Mr. Davis served in 2008 as broker-in-charge of Hilton HeadLakes, a residential community in Hardeeville.  From 2003 - 2006 Mr. Davisserved as broker-in-charge with Hampton Hall Realty, the real estate sales armof the Hampton Hall planned unit residential development located in Bluffton,and as a sales executive for the same residential development from 2006-2007. Mr. Davisalso worked for ten years with the health care manufacturer Johnson &Johnson, the last three as a district sales manager for the southeastern UnitedStates.  Mr. Davis holds a South Carolina real estate brokers license. He is a native of Ridgeland in Jasper County, South Carolina and has beenliving in Bluffton since 1999.  Mr. Davisreceived his bachelor’s degree in business administration from PresbyterianCollege.

 

*Frederick Anthony Nimmer, III*,48, director, is president of both Nimmer Turf + Tree Farm and Nimmer EquipmentRental Company, a position he has held since 1987.  He also serves as vice president ofTurfmasters, Inc., which specializes in the installation of sod.  All of these businesses are based in Ridgelandin Jasper County, South Carolina.  Mr. Nimmerearned a bachelors degree in finance from Clemson University.  Mr. Nimmer formerly served on SouthCarolina Bank & Trust’s Jasper County Advisory Board from January 1999to October 2004.  Mr. Nimmer isa native of Jasper County and has lived in Bluffton since 2001.  He is also past president of the JasperCounty Rotary Club.

 

*Robyn Josselson Shirley*,42, director, has been practice manager for the Southeastern Oral andMaxillofacial Surgery Center, Inc., Bluffton, South Carolina since1999.  She earned a bachelors degree insociology from Furman University.  Shealso holds bachelors and masters degrees in occupational therapy from theMedical University of South Carolina.  Mrs. Shirleyholds a South Carolina license in occupational therapy.  A native of Yemassee, South Carolina, she haslived in Bluffton since 2001 and formerly served on the board of directors ofHeroes on Horseback.

 

*Mark S. Simpson,* 47,director, is an attorney and member of the South Carolina Bar.  He has been in private practice with Jones,Patterson, Simpson & Newton, PA practicing in the fields of realestate and corporate law since 1987.  Mr. Simpsonearned undergraduate and law degrees from the University of SouthCarolina.  Mr. Simpson has lived onHilton Head Island since 1987. Mr. Simpson has served as chair and iscurrently serving as a board member of the United Way of Beaufort County.

 

43

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*Brian J. Smith,*36,**served as chair of the organizing board and is the currentchair of our board of directors.  Anative of Estill, South Carolina, Dr. Smith earned a Bachelors of Sciencefrom Clemson University.  He then went onto earn his post-graduate degree from the Medical University of South Carolina’sCollege of Dental Medicine.  Uponcompletion of a General Practice residency program at Palmetto Richland HealthAlliance in Columbia, South Carolina, Dr. Smith opened his privatepractice.  He has been president andowner of Palmetto Dental Arts, PA since 1999.

 

*Robert P. Trask,*46,**has served as our president and chief executive officersince 2004.  He is**anative of Beaufort and has lived in southern Beaufort County since 1989.  His 20 years of commercial bank experienceare concentrated in the coastal communities of Charleston, Beaufort, HiltonHead Island and Bluffton, South Carolina and Savannah, Georgia.  He earned a bachelors degree in financialmanagement from Clemson University and a masters degree in businessadministration from the University of South Carolina.  Mr. Trask is a trustee for both theCommunity Foundation of the Lowcountry, Inc.****andTechnical College of the Lowcountry Foundation, Inc.  Mr. Trask also serves as Group IDirector of the South Carolina Bankers Association’s Community BankersCouncil.  Mr. Trask is a fellow ofthe Liberty Fellowship Class of 2009. In May 2008, Mr. Trask served as a participant in the AspenSeminar of the Aspen Institute.

 

*Allen B. Ward*, 41,director, has been president of the Bluffton-based engineering firm of WardEdwards Inc., which specializes in land surveying and multi-faceted engineeringservices, since 2000.  Ward Edwards, Inc.also has offices in Savannah and Beaufort. He holds professional engineer licenses from multiple states, includingSouth Carolina.  Mr. Ward earnedboth his bachelors degree in civil engineering and masters degree inenvironmental systems engineering from Clemson University.  Originally from Kingstree, South Carolina, hehas lived in Bluffton since 1998 and Beaufort County since 1992.  Mr. Ward currently serves as a member ofthe Board of Directors of the South Carolina Chamber of Commerce.

 

*Edgar L. Woods,* 48,**director, has been president and owner of Palmetto GrainBrokerage LLC, which specializes in cash grain brokerage, futures/optionstrading and farm management, since 1985. He is also president of Performance Ag, LLC, a licensed South Carolinagrain dealer/merchant, and is also a partner in the Agricultural ProductsExchange, a feed ingredients trading company with offices in New York, Iowa,and South Carolina.  He holds a Futures, Series 3license from the National Futures Association. Mr. Woods earned his bachelors degree in agricultural mechanizationand business from Clemson University.  Heis a native of Jasper County and has lived in Bluffton since 1990.   Mr. Woods serves as chairman of thePalmetto Agribusiness Council and is past president of both the South CarolinaGrain Dealers association and Southeastern Feed and Grain, a group of feed andgrain dealers from four southeastern states.

 

*Michelle M. Pennell*,42, is our chief financial officer and executive vice president.  Ms. Pennellhas been a resident of the low country area for over 17 years.  She earnedher bachelor of business administration degree in finance from James MadisonUniversity in Virginia, graduating magna cum laude.  She joined the bankin January 2006 and was promoted to her current position in May 2006. She served as the Vice President and Treasurer of Atlantic Savings Bank, awholly-owned subsidiary of Wachovia Corporation, on Hilton Head Island for overseven years, from 1991 to 1998.  In addition, Ms. Pennell hassubstantial experience in many levels of accounting and finance across thehotel/restaurant, retail and non-profit sectors.  Ms. Pennell hasparticipated in a variety of leadership positions in community organizationsover the years.****She is a graduate of Hilton HeadIsland/Bluffton Chamber of Commerce Leadership Program.

 

*Todd D. Hoke,*37,is our Chief Credit Officer and Executive Vice President.  Mr. Hoke joined the bank in 2005 duringits formation phase.  From 2004 to 2005,he was the Vice President of Commercial Lending for the Hilton Head Islandbranch of Carolina First charged with managing a substantial commercial loanportfolio.  Prior to that, he was theAssistant Vice President for the Bluffton branch of BB&T.  Mr. Hoke began his employment withBB&T in 1999 and his responsibilities included establishing infrastructureand developing business for BB&T’s de novo Bluffton branch.  From 1996 to 1999, Mr. Hoke was employedby the Wachovia Corporation in Hilton Head Island starting as a commercialcredit analyst and was promoted to commercial lender.  He received his bachelor of science degree inbusiness administration from Bowling Green State University in Ohio.  He is also a graduate of the Risk ManagementAssociation’s Commercial Lending School. Mr. Hoke has been a resident of the low country area for over 14years.  He is a graduate of HiltonHead Island/Bluffton Chamber of Commerce Leadership Program.

 

44

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*Karen B. Sprague,*38, is our Chief Operations Officer and Executive Vice President.  Ms. Sprague has been a resident of thelow country area since 1993.  Ms. Spraguejoined the bank in September 2005 during its formation phase.  Prior to that, she served as Branch Managerof the Hilton Head Island branch of First Federal from 2001 to 2005.  From 1993 to 2005, Ms. Sprague servedLiberty Savings Bank in various capacities ending as Assistant Vice Presidentand Sales Manager.  Ms. Spragueearned her bachelor of arts degree in sociology from The College of Wooster inOhio.  She is past President and currentmember of the Zonta Club of Hilton Head Island.   She currently serves on the South CarolinaBankers Association Disaster Recovery Committee and is Vice President of theLeague of Women Voters of the Bluffton Area. Ms. Sprague is also a graduate of Hilton HeadIsland/Bluffton Chamber of Commerce Leadership Program.

 

**Audit Committee**

 

Our audit committee has five members – DirectorsGary C. Davis, Frederick Anthony Nimmer, III, Mark S. Simpson, Brian J.Smith, and Edgar L. Woods (chair).  Noneof the current members of the audit committee nor any other member of our boardqualifies as an “audit committee financial expert” as defined under the rules ofthe SEC.  As a relatively small publiccompany, it is difficult to identify potential qualified candidates that arewilling to serve on our board and otherwise meet our requirements forservice.  At the present, we do not knowif or when we will appoint a new board member that qualifies as an auditcommittee financial expert.  Althoughnone of audit committee members qualify as “financial experts” as defined inthe SEC rules, each of our members has made valuable contributions to thecompany and its shareholders as members of the audit committee.  The board has determined that each member isfully qualified to monitor the performance of management, the publicdisclosures by the company of its financial condition and performance, ourinternal accounting operations, and our independent auditors.

 

Theaudit committee functions are set forth in its charter, which was most recentlyadopted on January 22, 2009.  A copyof the audit charter is attached hereto as Exhibit 99.1 and incorporatedherein by reference.  The audit committeehas the responsibility for reviewing financial statements, evaluating internalaccounting controls, reviewing reports of regulatory authorities, and determiningthat all audits and examinations required by law are performed. The committeerecommends to the board the appointment of the independent auditors for thenext fiscal year, reviews and approves the auditor’s audit plans, and reviewswith the independent auditors the results of the audit and management’sresponses.  The audit committee isresponsible for overseeing the entire audit function and appraising theeffectiveness of internal and external audit efforts. The audit committeereports its findings to the board of directors.

 

Ourboard of directors has implemented a process for shareholders of the company tosend communications to the board.  Anyshareholder desiring to communicate with the board, or with specific individualdirectors, may so do by writing to the secretary of the company, at AtlanticBancshares, Inc., PO Box 3077, Bluffton, South Carolina 29910.  Thesecretary has been instructed by the board to promptly forward all suchcommunications to the addressees indicated thereon.

 

Wedo not have a class of securities registered under Section 12 of theSecurities Exchange Act of 1934. Therefore, our directors, executive officers, promoters and controlpersons are not required to comply with Section 16(a) of the ExchangeAct.

 

***Code of Ethics***

* *

Wehave adopted a Code of Ethics that applies to our principal executive officer,principal financial officer, principal accounting officer or controller, andpersons performing similar functions. The Code of Ethics is available withoutcharge to shareholders upon request. Shareholders should contact Mark S. Simpson, Secretary, at our mainoffice to obtain a copy.

 

45

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**Item11.  Executive Compensation**

 

**Summary Compensation Table**

 

Thefollowing table shows the compensation we paid to our chief executive officerand all other executive officers who earned over $100,000 for the years ended December 31,2008 and 2007 (collectively, the “named executive officers”).

 
| ** **                                      | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | **Option** | ** ** | **All Other**      | ** ** | ** ** | ** ** |
|-------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|-------------------------|------------|------------|------------|
| **Names and Principal Position** | ** ** | **Year**   | ** ** | **Salary** | ** ** | **Bonus**  | ** ** | **Awards** | ** ** | **Compensation****(1)** | ** ** | **Total**  | ** ** |
| Robert P.  Trask                                |       | 2008       |       | $          | 148,069    |       | $          | 10,000     |       | $                       | 26,667     |       | $          | 34,117 |   | $ | 218,853 |   |
| President and Chief Executive Officer           |       | 2007       |       | $          | 140,423    |       | $          | 10,000     |       | $                       | 24,245     |       | $          | 27,695 |   | $ | 202,363 |   |
|                                            |       |       |       |       |       |       |       |       |       |                    |       |       |       |
| Michelle M.  Pennell                            |       | 2008       |       | $          | 112,455    |       | $          | 5,000      |       | $                       | 9,724      |       | $          | 22,973 |   | $ | 150,152 |   |
| Chief Financial Officer                         |       | 2007       |       | $          | 106,366    |       | $          | 5,000      |       | $                       | 7,141      |       | $          | 19,833 |   | $ | 138,340 |   |
|                                            |       |       |       |       |       |       |       |       |       |                    |       |       |       |
| Todd D. Hoke                                    |       | 2008       |       | $          | 107,366    |       | $          | 5,000      |       | $                       | 11,526     |       | $          | 17,475 |   | $ | 141,367 |   |
| Chief Credit Officer                            |       | 2007       |       | $          | 103,654    |       | $          | 5,000      |       | $                       | 8,937      |       | $          | 13,318 |   | $ | 130,909 |   |
|                                            |       |       |       |       |       |       |       |       |       |                    |       |       |       |
| Karen B.  Sprague                               |       | 2008       |       | $          | 97,146     |       | $          | 5,000      |       | $                       | 11,526     |       | $          | 20,547 |   | $ | 134,219 |   |
| Chief Operating Officer                         |       | 2007       |       | $          | 93,654     |       | $          | 5,000      |       | $                       | 8,937      |       | $          | 16,921 |   | $ | 124,512 |   |

 

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(1)          All Other Compensation includes premiums paid regarding group life,accidental death and dismemberment, disability, medical and dental insurance,auto allowance, employer match for 401k plan and dues.

 

**Employment Agreements**

 

*Robert P. Trask*.  In February 2008, we entered into a new employment agreement with Mr. Trask to serve as president and chief executive officer of Atlantic Bancshares and Atlantic Community Bank.  Unless it is terminated earlier, Mr. Trask’s employment agreement provides a three year term of employment which automatically extends for additional three year renewal terms unless written notice is given by either party 60 days prior to the termination date.  The initial base salary for Mr. Trask will be $135,000, which amount is subject to annual review by the board of directors and may be increased.  Mr. Trask will be eligible to receive bonuses if he meets the goals set forth annually for him by the board of directors.  Furthermore, Mr. Trask will be eligible for our long-term equity incentive program and for the grant of stock options, restricted stock and other similar awards.  Mr. Trask will be provided with membership fees and annual dues not to exceed $1,000 for an area country club and an automobile (including all related expenses) as well as a life insurance policy for the benefit of his spouse and heirs.  Mr. Trask is entitled to participation in our retirement, health, dental, welfare and other benefit plans and programs applicable to employees generally or to senior executives.

 

Mr. Trask’s employment agreement may be terminated for death, disability and with or without cause by us or by Mr. Trask.  If we terminate Mr. Trask without cause, we will make a lump sum payment to Mr. Trask in an amount equal to his then current monthly base salary multiplied by 24 plus any bonus earned or accrued through the date of termination.  Definitions of the term “cause” and “disability” are contained in Mr. Trask’s employment agreement.

 

Upon the occurrence of a change in control, and regardless of whether Mr. Trask remains employed by us or our successor following a change in control, Mr. Trask is entitled to a lump sum cash payment in an amount equal to his then current monthly base salary multiplied by 36 plus any bonus earned or accrued through the date of change in control.  In addition, for a period of 36 months following change in control, Mr. Trask will receive payment of premiums for medical and dental insurance, disability insurance, and life insurance being provided to

 

46

 

him prior to the change in control or to other similarly situated executives who continue their employment with us.  Also, any restrictions on any outstanding incentive awards (including restricted stock) granted to Mr. Trask under any incentive plan or arrangement will lapse and such incentive award or awards will immediately become 100% percent vested; all stock options and stock appreciation rights granted to Mr. Trask will become immediately exercisable and will become 100% vested; and any performance units granted to Mr. Trask will become 100% vested.  A detailed definition of the term “change in control” is contained in Mr. Trask’s employment agreement.

 

The parties intend that the severance payments and other compensation provided for in Mr. Trask’s employment agreement to be reasonable compensation for Mr. Trask’s service to us and shall not constitute “excess parachute payments” within the meaning of Section 280G of the Internal Revenue Code.  However, if our independent accountants determine that the payments provided in his employment agreement constitute “excess parachute payments,” then the compensation paid shall be increased, on a tax gross-up basis, so as to reimburse Mr. Trask for the tax payable by him on such “excess parachute payments.”

 

Mr. Trask’s employment agreement also contains provisions relating to non-solicitation of customers and personnel and non-competition during the term of employment and 12 months thereafter, as well as a provision relating to the protection of confidential information and trade secrets.  These non-solicitation and non-compete provisions do not apply following a change of control.

 

*Todd D. Hoke.*  In February 2008, we entered into a new employment agreement with Mr. Hoke to serve as executive vice president and chief credit officer of Atlantic Bancshares and Atlantic Community Bank.  The initial base salary for Mr. Hoke will be $105,000, which amount is subject to annual review by the board of directors and may be increased.  Mr. Hoke will be eligible to receive bonuses if he meets the goals set forth annually for him by the board of directors.  Furthermore, Mr. Hoke will be eligible for our long-term equity incentive program and for the grant of stock options, restricted stock and other similar awards.  We will pay membership fees and annual dues for various civic organizations subject to approval by our chief executive officer.  Mr. Hoke shall also have available an automobile allowance, dental and health insurance, disability insurance, retirement benefits and such other benefits or plans applicable to our employees generally or to our senior executives.  The provisions in Mr. Hoke’s employment agreement regarding the term and termination of employment, benefits payable upon change of control, and Section 280G gross-up payments as well as the confidentiality, non-solicitation and non-compete provisions are identical to those described above for Mr. Trask’s February 2008 employment agreement.

 

*MichelleM. Pennell. *In February 2008,we entered into a new employment agreement with Ms. Pennell to serve asexecutive vice president and chief financial officer of Atlantic Bancshares and Atlantic CommunityBank.  The initial base salary for Ms. Pennellwill be $110,000, which amount is subject to annual review by the board ofdirectors and may be increased.  Theprovisions in Ms. Pennell’s employment agreement regarding perquisites,term and termination of employment, benefits payable upon change of control,and Section 280G gross-up payments as well as the confidentiality,non-solicitation and non-compete provisions are identical to those describedabove for Mr. Hoke’s February 2008 employment agreement.

 

*KarenB. Sprague.*  In February 2008,we entered into a new employment agreement with Ms. Sprague to serve asexecutive vice president and chief operating officer of Atlantic Bancshares and Atlantic CommunityBank.  The initial base salary for Ms. Spraguewill be $95,000, which amount is subject to annual review by the board ofdirectors and may be increased.  Theprovisions in Ms. Sprague’s employment agreement regarding perquisites,term and termination of employment, benefits payable upon change of control,and Section 280G gross-up payments as well as the confidentiality,non-solicitation and non-compete provisions are identical to those describedabove for Mr. Hoke’s February 2008 employment agreement.

 

47

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###### **OutstandingEquity Awards at Fiscal Year-End**

 
| ** **                            | ** ** | ** ** | ** ** | **Number of**         | ** ** | ** **               | ** ** | ** **             | ** ** |
|---------------------------------------|------------|------------|------------|----------------------------|------------|--------------------------|------------|------------------------|------------|
| ** **                            | ** ** | ** ** | ** ** | **Securities  Underlying** | ** ** | ** **               | ** ** | ** **             | ** ** |
| ** **                            | ** ** | ** ** | ** ** | **Unexercised  Options**   | ** ** | **Option Exercise** | ** ** | **Option  Expiration** | ** ** |
| **Name**                              | ** ** | ** ** | ** ** | **Unexercisable**          | ** ** | **Price ($)**       | ** ** | **Date**               | ** ** |
| Robert P.  Trask                      |       | Options    | ** ** | 25,032                     |       | $                        | 10.00      |                   | 07/01/16   |   |
| President and Chief Executive Officer |       | Warrants   |       | 10,000                     |       | $                        | 10.00      |                   | 01/26/16   |   |
|                                  |       | Options    |       | 5,000                      |       | $                        | 8.85       |                   | 03/05/18   |   |
|                                  |       |       |       |                       |       |                     |       |                   |       |
| Todd D. Hoke                          | ** ** | Options    | ** ** | 12,516                     |       | $                        | 10.00      |                   | 07/01/16   |   |
| Chief Credit  Officer                 | ** ** | Options    | ** ** | 5,000                      |       | $                        | 8.85       |                   | 02/06/18   |   |
|                                  |       |       |       |                       |       |                     |       |                   |       |
| Michelle M.  Pennell                  | ** ** | Options    | ** ** | 10,000                     |       | $                        | 10.00      |                   | 07/01/16   |   |
| Chief  Financial Officer              | ** ** | Options    | ** ** | 5,000                      |       | $                        | 8.85       |                   | 02/06/18   |   |
|                                  |       |       |       |                       |       |                     |       |                   |       |
| Karen B.  Sprague                     | ** ** | Options    | ** ** | 12,516                     |       | $                        | 10.00      |                   | 07/01/16   |   |
| Chief  Operating Officer              | ** ** | Options    | ** ** | 5,000                      |       | $                        | 8.85       |                   | 02/06/18   |   |

 

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(1)          The stock options and the warrants provide that one-fifth of theoptions or warrants, as applicable, will vest on either each of the first fiveanniversaries of the opening date of the bank (January 26, 2006) or oneach of the first five anniversaries of the option grant date, depending on theterms of the grant, but only if the executive remains employed by us.

 

Underthe terms of our 2006 stock incentive plan, upon a change of control of ourcompany after March 28, 2009 all options outstanding but not otherwiseexercisable will generally automatically accelerate and become exercisableimmediately before the effective date of the change of control.

 

Fora description of the employment agreements entered into between the company,the bank, and the named executive officers, please see the discussion aboveentitled “Employment Agreements.”

 

**Director Compensation**

 

Ourbylaws permit our directors to receive reasonable compensation as determined bya resolution of the board of directors. We did not pay any directors’ fees during the fiscal year ended December 31,2008.  We may, pursuant to our bylaws,begin to compensate our directors at some time in the future.  In connection with the formation of our bank,in 2006 each director was issuedwarrants for 10,000 shares.  The warrantsvest over a five-year period from the date of the opening date of the bank (January 26,2006), but only if the director continues to serve as a director.  Allunexercised organizer warrants expire on the tenth anniversary of the openingdate of the bank (January 26, 2016), subject to earlier termination incertain circumstances pursuant to individual stock warrant agreements.

 

48

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**Item12.  Security Ownership of CertainBeneficial Owners and Management and Related Stockholder Matters.**

 

The following table shows how much common stock inour company is owned by the directors, certain executive officers, and ownersof more than 5% of the outstanding common stock, as of March 1, 2009.  Unless otherwise indicated, the address ofeach beneficial owner is c/o Atlantic Bancshares, Inc., PO Box 3077, Bluffton,South Carolina 29910.

 
| **Name of Beneficial Owner**                 | ** ** | **Number of  Shares Owned (1)** | ** ** | **Right to Acquire (2)** | ** ** | **% of Beneficial  Ownership(3)** | ** ** |
|-------------------------------------------------------------|------------|------------------------------------------------|------------|-----------------------------------------|------------|---------------------------------------------|------------|
| Gary C. Davis                                               |       | 10,000                                         |       | 6,000                                   |       | 1.2                                         | %          |
| Frederick Anthony Nimmer, III                          |       | 13,000                                         |       | 6,000                                   |       | 1.4                                         | %          |
| Robyn Josselson Shirley                                     |       | 12,500                                         |       | 6,000                                   |       | 1.4                                         | %          |
| Mark S. Simpson                                             |       | 12,600                                         |       | 6,000                                   |       | 1.4                                         | %          |
| Brian J. Smith                                              |       | 12,500                                         |       | 6,000                                   |       | 1.4                                         | %          |
| Robert P. Trask                                             |       | 15,499                                         |       | 21,019                                  |       | 2.7                                         | %          |
| Allen B. Ward                                               |       | 10,000                                         |       | 6,000                                   |       | 1.2                                         | %          |
| Edgar L. Woods                                              |       | 20,500                                         |       | 6,000                                   |       | 2.0                                         | %          |
| Michelle M. Pennell                                         |       | 3,000                                          |       | 7,000                                   |       | *                                           |       |
| Todd D. Hoke                                                |       | 11,000                                         |       | 8,510                                   |       | 1.5                                         | %          |
| Karen B. Sprague                                            |       | 5,594                                          |       | 8,510                                   |       | 1.1                                         | %          |
| First Clearing, LLC  PO Box 6570  Glen Allen, VA 23058-6570 |       | 208,097                                        |       | —                                  |       | 15.5                                        | %          |
|                                                        |       |                                           |       |                                    |       |                                        |       |
| All executive officers and directors(11  persons)           |       | 126,193                                        |       | 87,039                                  |       | 15.9                                        | %          |

 

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*Indicatesless than 1% ownership.

 
| (1) |   | Includes shares for which  the named person has sole voting and investment power, has shared voting and  investment power, or holds in an IRA or other retirement plan program, and  includes shares held by a spouse, unless otherwise indicated in these  footnotes.                                                                                                                                                                                                                                                                                                                                                               |
|-----|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (2) |   | Includes shares that may  be acquired within the next 60 days of March 1, 2009 by exercising  vested stock options or warrants but does not include any unvested stock  options or warrants.                                                                                                                                                                                                                                                                                                                                                                                                                                    |
| (3) |   | For each individual, this  percentage is determined by assuming the named person exercises all options  and warrants which he or she has the right to acquire within 60 days, but  that no other persons exercise any options or warrants. For the directors and  executive officers as a group, this percentage is determined by assuming that  each director and executive officer exercises all options or warrants which  he or she has the right to acquire within 60 days, but that no other persons  exercise any options. The calculations are based on 1,251,577 shares of  common stock outstanding on March 1, 2009. |

 

49

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**Equity Compensation PlanInformation**

 

The following table sets forth the equitycompensation plan information at December 31, 2009.

 
| ** **                                                  | ** ** | ** **                                                                             | ** ** | ** **                                        | ** ** | **Number of securities  remaining available  for**            | ** ** |
|-------------------------------------------------------------|------------|----------------------------------------------------------------------------------------|------------|---------------------------------------------------|------------|------------------------------------------------------------------------------|------------|
| ** **                                                  | ** ** | **Number of securities  to be issued  upon exercise of** | ** ** | **Weighted-average  exercise price of** | ** ** | **future issuance under  equity compensation  plan (c)** | ** ** |
| ** **                                                  | ** ** | **Outstanding options,**                                                          | ** ** | **outstanding options,**                     | ** ** | **(excluding securities**                                               | ** ** |
| **Plan Category**                                      | ** ** | **warrants and rights  (a)**                                                 | ** ** | **warrants and rights  (b)**            | ** ** | **reflected in column  (a))**                                      | ** ** |
| ** **                                                  | ** ** | ** **                                                                             | ** ** | ** **                                        | ** ** | ** **                                                                   | ** ** |
| Equity compensation plans approved by  security holders     |       | 92,313                                                                                 |       | $                                                 | 9.78       |                                                                         | 158,002    |   |
|                                                        |       |                                                                                   |       |                                              |       |                                                                         |       |
| Equity compensation plans not approved by  security holders |       | 80,000                                                                                 |       | $                                                 | 10.00      |                                                                         | 0          |   |
|                                                        |       |                                                                                   |       |                                              |       |                                                                         |       |
| Total                                                       |       | 172,313                                                                                |       | $                                                 | 9.88       |                                                                         | 158,002    |   |

 

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(1)         Each of our organizers received, for no additional consideration, awarrant to purchase one share of common stock for every share they purchased inthe initial offering of the company’s common stock up to 10,000 shares at aprice of $10 per share.  The warrants arerepresented by separate warrant agreements. The warrants vest over a five-year period.  All unexercised organizer warrants expire onthe tenth anniversary of the opening date of the bank, subject to earliertermination in certain circumstances pursuant to individual stock warrantagreements.

 

**Item 13.  Certain Relationshipsand Related Transactions, and Director Independence**

 

Weenter into banking and other transactions in the ordinary course of businesswith our directors and officers and their affiliates.  It is our policy that these transactions beon substantially the same terms (including price, or interest rates andcollateral) as those prevailing at the time for comparable transactions withunrelated parties.  We do not expectthese transactions to involve more than the normal risk of collectability norpresent other unfavorable features to us. Loans to individual directors and officers must also comply with ourbank’s lending policies and statutory lending limits, and directors with apersonal interest in any loan application are excluded from the considerationof the loan application.  We intend forall of our transactions with our affiliates to be on terms no less favorable tous than could be obtained from an unaffiliated third party and to be approvedby a majority of disinterested directors.

 

OnJanuary 1, 2006 we opened a loan production office on the south end ofHilton Head Island. In October 2007, this location was converted into afull service branch.  We leased afacility at 1 Corpus Christi Place, Suite 108, Hilton Head Island, SouthCarolina that has a total of 1,837 square feet for a period of one year with aone-year option to renew.  In August 2006,the organizers of the company, along with other non-organizers, formed aseparate corporate entity which purchased this location that we lease.  The current lease is for a minimum of 10years and provides two 10-year renewal terms.

 

Ourboard of directors has determined that Mr. Davis, Mr. Nimmer, Ms. Shirley,Mr. Simpson, Dr. Smith, Mr. Ward and Mr. Woods are “independent”directors, based upon the independence criteria set forth in the corporategovernance listing standards of The NASDAQ Stock Market, the exchange that weselected in order to determine whether its directors and committee members meetthe independence criteria of a national securities exchange, as required byItem 407(a) of Regulation S-K.

 

50

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Ourboard of directors has created an audit committee, a nominating committee and acompensation committee of the board.  Theboard of directors has determined that the members of each of these committeesare “independent” as contemplated in the listing standards of The NASDAQStock Market.

 

**Item 14.  Principal Accountant Fees and Services**

 

ElliottDavis LLC was our auditor during the fiscal years ended December 31, 2008and 2007.  The following table shows thefees that we paid for services performed in the fiscal years ended December 31,2008 and 2007:

 
| ** **     | ** ** | **Year Ended  December 31, 2008** | ** ** | **Year Ended  December 31, 2007** | ** ** |
|----------------|------------|--------------------------------------------------|------------|--------------------------------------------------|------------|
| ** **     | ** ** | ** **                                       | ** ** | ** **                                       | ** ** |
| Audit Fees     |       | $                                                | 49,350     |                                             | $          | 37,200 |   |
| Tax Fees       |       | 4,870                                            |       | 3,000                                            |       |
| All Other Fees |       | —                                           |       | 375                                              |       |
| Total          | ** ** | **$**                                            | **54,220** | ** **                                       | **$**      | **40,575** | ** ** |

 

*Audit Fees.*This category consists of the audit of the Company’s annual consolidatedfinancial statements and for reviews of the condensed consolidated financialstatements included in the Company’s quarterly reports on Form 10-QSB.

 

*Tax Fees.*    Thiscategory includes the aggregate fees billed for professional services renderedby the principal accountant for tax compliance, tax advice, and tax planning.

 

*All Other Fees. *This category consists of fees billed toassist in payroll-related matters.

 

*Oversight of Accountants; Approval of Accounting Fees**.*Under the provisions of its charter, theaudit committee is responsible for the retention, compensation, and oversightof the work of the independent auditors. The charter provides that the audit committee must pre-approve the feespaid for the audit.  The policyspecifically prohibits certain non-audit services that are prohibited bysecurities laws from being provided by an independent auditor.  All of the accounting services and feesreflected in the table above were reviewed and approved by the audit committee,and none of the services were performed by individuals who were not employeesof the independent auditor.

 

**Item15.  Exhibits.**

 

(a)(1)  Financial Statements

 

The following consolidated financial statements are located in Item 8 of this report.

 
|   |   | Report of Independent Registered Public Accounting Firm                                                                                             |
|--------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   | Consolidated Balance Sheets as of December 31, 2008 and 2007                                                                                   |
|   |   | Consolidated Statements of Operations for the years ended December 31, 2008 and 2007                                                           |
|   |   | Consolidated Statements of Changes in Shareholders’ Equity and Comprehensive Income for the years ended December 31, 2008 and 2007        |
|   |   | Consolidated Statements of Cash Flows for the years ended December 31, 2008 and 2007                                                           |
|   |   | Notes to the Consolidated Financial Statements                                                                                                      |
|   |   |                                                                                                                                                |
| (2)    |   | Financial Statement Schedules                                                                                                                       |
|   |   |                                                                                                                                                |
|   |   | These schedules have been omitted because they are not required, are not applicable or have been included in our consolidated financial statements. |
|   |   |                                                                                                                                                |
| (3)    |   | Exhibits                                                                                                                                            |

 

51

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The following exhibits are required to be filed with this Report on Form 10-K by Item 601 of Regulation S-K.

 
| 3.1.   |   | Articles of Incorporation (incorporated by reference  to Exhibit 3.1 of the Company’s Form SB-2, File  No. 333-127242).                                                                                                                                                                               |
|--------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                                                      |
| 3.2.   |   | Amended and Restated Bylaws (incorporated by reference  to Exhibit 3.2 of the Company’s Current Report on Form 8-K filed  January 26, 2007, File No. 333-127242).                                                                                                                                |
|   |   |                                                                                                                                                                                                                                                                                                                      |
| 4.1.   |   | See Exhibits 3.1 and 3.2 for provisions in Atlantic  Bancshares, Inc.’s Articles of Incorporation and Amended and Restated  Bylaws defining the rights of holders of the common stock (incorporated by  reference to such exhibits as filed with the Company’s Form SB-2, File  No. 333-127242). |
|   |   |                                                                                                                                                                                                                                                                                                                      |
| 4.2.   |   | Form of certificate of common stock (incorporated  by reference to Exhibit 4.2 of the Company’s Form SB-2, File  No. 333-127242).                                                                                                                                                                |
|   |   |                                                                                                                                                                                                                                                                                                                      |
| 10.1   |   | *Employment  Agreement between Atlantic Bancshares, Inc. and Robert P. Trask dated  February 8, 2008 (incorporated by reference to Exhibit 10.2 of  the Company’s Current Report on Form 8-K filed February 11, 2008,  File No. 333-127242).                                           |
|   |   |                                                                                                                                                                                                                                                                                                                      |
| 10.2   |   | *Revised Form of Stock Warrant Agreement (incorporated by reference to Exhibit 10.3  of the Company’s Form 10-KSB for the period ended December 31,  2005).                                                                                                                                      |
|   |   |                                                                                                                                                                                                                                                                                                                      |
| 10.3   |   | Sublease  Agreement between Regional Bankshares, Inc. and Atlantic  Bancshares, Inc. dated June 1, 2005 (incorporated by reference to  Exhibit 10.7 of the Company’s Form SB-2, File No. 333-127242).                                                                                  |
|   |   |                                                                                                                                                                                                                                                                                                                      |
| 10.4   |   | *Atlantic  Bancshares, Inc. 2006 Stock Incentive Plan and Form of Option  Agreement (incorporated by reference to Exhibit 10.9 of the Company’s  Form 10-KSB for the period ended December 31, 2005).                                                                                       |
|   |   |                                                                                                                                                                                                                                                                                                                      |
| 10.5   |   | Lease  Agreement between Carolina Partners, LLC and Atlantic Bancshares, Inc.  dated January 24, 2006 (incorporated by reference to  Exhibit 10.10 of the Company’s Form 10-KSB for the period ended December 31,  2005).                                                                   |
|   |   |                                                                                                                                                                                                                                                                                                                      |
| 10.6   |   | Commercial  Lease Agreement by and between MB Partners, LLC and Atlantic Community Bank,  dated August 9, 2006 (incorporated by reference to Exhibit 10.1 of the  Company’s Form 10-KSB filed August 10, 2006).                                                                                  |
|   |   |                                                                                                                                                                                                                                                                                                                      |
| 10.7   |   | Lease  Agreement between Paradigm Holdings, LLC and Atlantic Community Bank dated  February 5, 2008 (incorporated by reference to Exhibit 10.1 of the  Company’s Current Report on Form 8-K filed February 11, 2008, File  No. 333-127242).                                                 |
|   |   |                                                                                                                                                                                                                                                                                                                      |
| 10.8   |   | *Employment  Agreement between Atlantic Bancshares, Inc. and Todd D. Hoke dated  February 8, 2008 (incorporated by reference to Exhibit 10.3 of the Company’s Current Report on  Form 8-K filed February 11, 2008, File No. 333-127242).                                               |
|   |   |                                                                                                                                                                                                                                                                                                                      |
| 10.9   |   | *Employment  Agreement between Atlantic Bancshares, Inc. and Michelle M. Pennell  dated February 8, 2008 (incorporated by reference to Exhibit 10.4  of the Company’s Current  Report on Form 8-K filed February 11, 2008, File  No. 333-127242).                                      |
|   |   |                                                                                                                                                                                                                                                                                                                      |
| 10.10  |   | *Employment  Agreement between Atlantic Bancshares, Inc. and Karen B. Sprague dated  February 8, 2008 (incorporated by reference to Exhibit 10.5 of the Company’s Current Report on  Form 8-K filed February 11, 2008, File No. 333-127242).                                           |
|   |   |                                                                                                                                                                                                                                                                                                                      |
| 10.11  |   | *Amendment No. 1 to the Atlantic Bancshares, Inc. 2006 Stock  Incentive Plan and Form of Option Agreement (incorporated by  reference to Exhibit 10.1 of the Company’s Form 10-Q for the period  ended September 30, 2008).                                                            |

 

52

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| 21.1   |   | Subsidiaries  of the Company.                                           |
|--------|--------|-------------------------------------------------------------------------|
|   |   |                                                                    |
| 23.1   |   | Consent  of Elliott Davis, LLC.                                         |
|   |   |                                                                    |
| 24.1.  |   | Power of Attorney (filed as part of the signature  page herewith). |
|   |   |                                                                    |
| 31.1   |   | Rule 15d-14(a) Certification  of the Chief Executive Officer. |
|   |   |                                                                    |
| 31.2   |   | Rule 15d-14(a) Certification  of the Chief Financial Officer. |
|   |   |                                                                    |
| 32     |   | Section 1350  Certifications.                                      |
|   |   |                                                                    |
| 99.1   |   | Audit  Committee Charter.                                               |

 

----

*                                         Denotes management contract or compensatoryplan or arrangement required to be filed as an Exhibit to this AnnualReport on Form 10-K.

 

**SupplementalInformation To Be Furnished With Reports Filed Pursuant to Section 15(d) ofthe Exchange Act by Non-Reporting Issuers**

 

Wewill furnish our proxy materials and audited financial statements to securityholders subsequent to the filing of the annual report on this Form 10-K,and will furnish copies of such materials to the SEC when they are sent tosecurity holders.

 

53

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**SIGNATURES**

 

In accordance with Section 13 or 15(d) of the Exchange Act,the registrant caused this report to be signed on its behalf by theundersigned, thereunto duly authorized.

 
| ** ** |                 | **ATLANTIC BANCSHARES, INC.** |
|------------|----------------------|-------------------------------|
|       |                 |                          |
| Date:      | March 30,  2009 |                          | By: | /s/ Robert P. Trask |
|       |                 |                          | Robert P. Trask |
|       |                 |                          | President and Chief Executive Officer |
|            |                      |                               |  |  |

 

KNOW ALL MEN BY THESEPRESENTS, that each person whose signature appears below constitutes andappoints Robert P. Trask, his true and lawful attorney-in-fact and agent, withfull power of substitution and resubstitution, for him and in his name, placeand stead, in any and all capacities, to sign any and all amendments to thisAnnual Report on Form 10-K, and to file the same, with all exhibitsthereto, and other documents in connection therewith, with the Securities andExchange Commission, granting unto attorney-in-fact and agent full power andauthority to do and perform each and every act and thing requisite or necessaryto be done in and about the premises, as fully to all intents and purposes ashe might or could do in person, hereby ratifying and confirming all that attorney-in-factand agent, or his substitute or substitutes, may lawfully do or cause to bedone by virtue hereof.

 

Inaccordance with the Exchange Act, this report has been signed below by thefollowing persons on behalf of the registrant in the capacities and on thedates indicated.

 
| **Signature**                           | ** ** | **Title**                            | ** ** | **Date**             |
|-----------------------------------------|------------|--------------------------------------|------------|----------------------|
| ** **                              | ** ** | ** **                           | ** ** | ** **           |
| /s/  Gary C. Davis                      |       | Director                             |       | March 30,  2009 |
| Gary  C. Davis                          |       |                                 |       |                 |
|                                    |       |                                 |       |                 |
| /s/  Michelle M. Pennell                |       | Chief  Financial Officer and         |       | March 30,  2009 |
| Michelle  M. Pennell                    |       | Principal  Accounting Officer        |       |                 |
|                                    |       |                                 |       |                 |
| /s/  Frederick Anthony Nimmer, III |       | Director                             |       | March 30,  2009 |
| Frederick  Anthony Nimmer, III     |       |                                 |       |                 |
|                                    |       |                                 |       |                 |
| /s/  Robyn Josselson Shirley            |       | Director                             |       | March 30,  2009 |
| Robyn  Josselson Shirley                |       |                                 |       |                 |
|                                    |       |                                 |       |                 |
| /s/ Mark S. Simpson                     |       | Director                             |       | March 30,  2009 |
| Mark S. Simpson                         |       |                                 |       |                 |
|                                    |       |                                 |       |                 |
| /s/  Brian J. Smith                     |       | Chairman,  Director                  |       | March 30,  2009 |
| Brian  J. Smith                         |       |                                 |       |                 |
|                                    |       |                                 |       |                 |
| /s/  Robert P. Trask                    |       | Chief  Executive Officer, President, |       | March 30,  2009 |
| Robert  P. Trask                        |       | and  Director                        |       |                 |
|                                    |       |                                 |       |                 |
| /s/ Allen B. Ward                       |       | Director                             |       | March 30,  2009 |
| Allen B. Ward                           |       |                                 |       |                 |
|                                    |       |                                 |       |                 |
| /s/  Edgar L. Woods                     |       | Vice  Chairman, Director             |       | March 30,  2009 |
| Edgar  L. Woods                         |       |                                 |       |                 |

 

54

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**Exhibit Index**

 
| 3.1.   |   | Articles of Incorporation (incorporated by reference  to Exhibit 3.1 of the Company’s Form SB-2, File  No. 333-127242).                                                                                                                                                                              |
|--------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                                                     |
| 3.2.   |   | Amended and Restated Bylaws (incorporated by reference  to Exhibit 3.2 of the Company’s Current Report on Form 8-K filed  January 26, 2007, File No. 333-127242).                                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                                                                     |
| 4.1.   |   | See Exhibits 3.1 and 3.2 for provisions in Atlantic  Bancshares, Inc.’s Articles of Incorporation and Amended and Restated  Bylaws defining the rights of holders of the common stock (incorporated by  reference to such exhibits as filed with the Company’s Form SB-2, File No. 333-127242). |
|   |   |                                                                                                                                                                                                                                                                                                                     |
| 4.2.   |   | Form of certificate of common stock (incorporated  by reference to Exhibit 4.2 of the Company’s Form SB-2, File  No. 333-127242).                                                                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                                                                     |
| 10.1   |   | *Employment  Agreement between Atlantic Bancshares, Inc. and Robert P. Trask dated February 8,  2008 (incorporated  by reference to Exhibit 10.2 of the Company’s Current Report on  Form 8-K filed February 11, 2008, File No. 333-127242).                                          |
|   |   |                                                                                                                                                                                                                                                                                                                     |
| 10.2   |   | *Revised Form of Stock Warrant Agreement (incorporated by reference to Exhibit 10.3  of the Company’s Form 10-KSB for the period ended December 31,  2005).                                                                                                                                     |
|   |   |                                                                                                                                                                                                                                                                                                                     |
| 10.3   |   | Sublease  Agreement between Regional Bankshares, Inc. and Atlantic  Bancshares, Inc. dated June 1, 2005 (incorporated by reference to  Exhibit 10.7 of the Company’s Form SB-2, File No. 333-127242).                                                                                 |
|   |   |                                                                                                                                                                                                                                                                                                                     |
| 10.4   |   | *Atlantic  Bancshares, Inc. 2006 Stock Incentive Plan and Form of Option  Agreement (incorporated by reference to Exhibit 10.9 of the Company’s  Form 10-KSB for the period ended December 31, 2005).                                                                                      |
|   |   |                                                                                                                                                                                                                                                                                                                     |
| 10.5   |   | Lease  Agreement between Carolina Partners, LLC and Atlantic Bancshares, Inc.  dated January 24, 2006 (incorporated by reference to  Exhibit 10.10 of the Company’s Form 10-KSB for the period ended December 31,  2005).                                                                  |
|   |   |                                                                                                                                                                                                                                                                                                                     |
| 10.6   |   | Commercial  Lease Agreement by and between MB Partners, LLC and Atlantic Community Bank,  dated August 9, 2006 (incorporated by reference to Exhibit 10.1 of the  Company’s Form 10-KSB filed August 10, 2006).                                                                                 |
|   |   |                                                                                                                                                                                                                                                                                                                     |
| 10.7   |   | Lease  Agreement between Paradigm Holdings, LLC and Atlantic Community Bank dated  February 5, 2008 (incorporated by reference to Exhibit 10.1 of the  Company’s Current Report on Form 8-K filed February 11, 2008, File  No. 333-127242).                                                |
|   |   |                                                                                                                                                                                                                                                                                                                     |
| 10.8   |   | *Employment  Agreement between Atlantic Bancshares, Inc. and Todd D. Hoke dated  February 8, 2008 (incorporated by reference to Exhibit 10.3 of the Company’s Current Report on  Form 8-K filed February 11, 2008, File No. 333-127242).                                              |
|   |   |                                                                                                                                                                                                                                                                                                                     |
| 10.9   |   | *Employment  Agreement between Atlantic Bancshares, Inc. and Michelle M. Pennell  dated February 8, 2008 (incorporated by reference to Exhibit 10.4  of the Company’s Current  Report on Form 8-K filed February 11, 2008, File  No. 333-127242).                                     |
|   |   |                                                                                                                                                                                                                                                                                                                     |
| 10.10  |   | *Employment  Agreement between Atlantic Bancshares, Inc. and Karen B. Sprague dated  February 8, 2008 (incorporated by reference to Exhibit 10.5 of the Company’s Current Report on  Form 8-K filed February 11, 2008, File No. 333-127242).                                          |
|   |   |                                                                                                                                                                                                                                                                                                                     |
| 10.11  |   | *Amendment No. 1 to the Atlantic Bancshares, Inc. 2006 Stock  Incentive Plan and Form of Option Agreement (incorporated by  reference to Exhibit 10.1 of the Company’s Form 10-Q for the period  ended September 30, 2008).                                                           |

 

55

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| 21.1   |   | Subsidiaries  of the Company.                                           |
|--------|--------|-------------------------------------------------------------------------|
|   |   |                                                                    |
| 23.1   |   | Consent  of Elliott Davis, LLC.                                         |
|   |   |                                                                    |
| 24.1.  |   | Power of Attorney (filed as part of the signature page herewith).  |
|   |   |                                                                    |
| 31.1   |   | Rule 15d-14(a) Certification  of the Chief Executive Officer. |
|   |   |                                                                    |
| 31.2   |   | Rule 15d-14(a) Certification  of the Chief Financial Officer. |
|   |   |                                                                    |
| 32     |   | Section 1350  Certifications.                                      |
|   |   |                                                                    |
| 99.1   |   | Audit  Committee Charter.                                               |

 

----

*                                         Denotes management contract or compensatoryplan or arrangement required to be filed as an Exhibit to this AnnualReport on Form 10-K.

 

56

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