EXHIBIT 13


















                            GRANDSOUTH BANCORPORATION

                            Portions of Registrant's
                              2004 Annual Report to
                            Shareholders Incorporated
                       by Reference into 2004 Form 10-KSB




<PAGE>


Management's Discussion and Analysis or Plan of Operation

General

         This  discussion is intended to assist in  understanding  the financial
condition  and  results  of  operations  of the  Company,  and should be read in
conjunction  with the Company's  consolidated  financial  statements and related
notes contained elsewhere herein. Because the Bank is responsible for all of the
Company's operations,  the discussion will refer to the results of operations of
the Bank.

Forward-Looking Statements

          This report contains  "forward-looking  statements" within the meaning
of the  securities  laws.  All  statements  that are not  historical  facts  are
"forward-looking  statements." You can identify these forward-looking statements
through  our  use of  words  such  as  "may,"  "will,"  "expect,"  "anticipate,"
"believe," "intend," "estimate," "project, " "continue," or other similar words.
Forward-looking statements include, but are not limited to, statements regarding
our future business prospects,  revenues,  working capital,  liquidity,  capital
needs, interest costs, income, business operations and proposed services.

          These  forward-looking  statements are based on current  expectations,
estimates  and  projections  about  our  industry,   management's  beliefs,  and
assumptions made by management.  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 future  performance  and are subject to risks,
uncertainties  and  assumptions  that are difficult to predict,  particularly in
light  of the  fact  that  we  are a new  company  with  no  operating  history.
Therefore,  actual  results  may  differ  materially  from  those  expressed  or
forecasted  in such  forward-looking  statements.  The risks  and  uncertainties
include, but are not limited to:

     o    our growth and our ability to maintain growth;

     o    governmental  monetary and fiscal policies, as well as legislative and
          regulatory changes;

     o    the effect of interest  rate changes on our level and  composition  of
          deposits,  loan  demand  and the  value  of our  loan  collateral  and
          securities;

     o    the effects of competition from other financial institutions operating
          in our market area and  elsewhere,  including  institutions  operating
          locally,  regionally,  nationally and  internationally,  together with
          competitors   that  offer  banking  products  and  services  by  mail,
          telephone and computer and/or the Internet;

     o    failure of assumptions  underlying the  establishment of our allowance
          for loan losses, including the value of collateral securing loans; and

     o    loss of consumer  confidence and economic  disruptions  resulting from
          terrorist activities.

          We  undertake  no  obligation   to  publicly   update  or  revise  any
forward-looking  statements,  whether  as a result  of new  information,  future
events or otherwise.  In light of these risks,  uncertainties,  and assumptions,
the forward-looking events discussed in this report might not occur.


Critical Accounting Policies

          The Company has adopted various  accounting  policies which govern the
application of accounting  principles generally accepted in the United States in
the  preparation  of  the  Company's  financial   statements.   The  significant



<PAGE>

accounting  policies  of the  Company  are  described  in the  footnotes  to the
consolidated financial statements.

         Certain   accounting   policies  involve   significant   judgments  and
assumptions by management  which have a material impact on the carrying value of
certain assets and liabilities.  Management  considers these accounting policies
to be critical  accounting  policies.  The  judgments  and  assumptions  used by
management  are based on  historical  experience  and other  factors,  which are
believed to be reasonable under the circumstances.  Because of the nature of the
judgments and assumptions  made by management,  actual results could differ from
these judgments and estimates which could have a material impact on the carrying
values of assets and liabilities and the results of operations of the Company.

         The  Company  believes  the  allowance  for loan  losses is a  critical
accounting  policy that  requires the most  significant  judgments and estimates
used in  preparation  of its  consolidated  financial  statements.  Refer to the
"Provision for Loan Losses" and "Allowance for Loan Losses" sections below for a
detailed description of the Company's estimation process and methodology related
to the allowance for loan losses.





                                       2
<PAGE>

Financial Condition

         At December  31, 2004 the  Company had total  assets of $207.9  million
composed primarily of net loans of $174.1 million, investment securities,  other
investments, and Federal Funds sold of $20.7 million and cash and due from banks
of $2.5  million.  At December  31, 2003 the company had total  assets of $172.4
million  composed   primarily  of  net  loans  of  $148.1  million,   investment
securities,  other investments, and Federal Funds sold of $16.0 million and cash
and due from  balances  of $2.0  million.  The  increase  in net  loans of $26.0
million is the result of hiring new loan  officers and strong loan demand during
2004. The increase of $4.7 million in investment securities,  other investments,
and  Federal  Funds  sold  is the  result  of the  Company's  management  of the
liquidity needs of the institution.  Liabilities were $197.1 million at December
31, 2004,  composed  primarily of deposits of $176.1 million,  Federal Home Loan
Bank advances of $13.5  million,  subordinated  debentures of $3.5 million,  and
other  borrowings of $2.5 million.  Liabilities  were $162.8 million at December
31, 2003,  composed  primarily of deposits of $145.6 million,  Federal Home Loan
Bank advances of $11.6  million,  subordinated  debentures of $3.5 million.  The
increase  of $30.5  million in  deposits  is the result of new  certificates  of
deposits  accounts  and money  market  accounts  opened  during the period.  The
increase of $2.5 million in other  borrowings is the result of one new borrowing
agreement  executed during the first quarter of 2004.  Shareholders'  equity was
$10.8  million at December  31, 2004  compared to $9.6  million at December  31,
2003.  The increase of $1.2  million is primarily  the result of $1.3 million in
earnings generated by the company.

         The Company's loan  portfolio at December 31, 2004 consisted  primarily
of $33.6 million of  commercial  loans,  $97.0  million of real estate  mortgage
loans,  $39.2  million of real  estate  construction  loans and $6.7  million of
consumer  loans.  The allowance for loan losses totaled $2.3 million at December
31, 2004.  Management believes that the allowance for loan losses is adequate to
absorb losses inherent in the loan portfolio as of December 31, 2004.

Earnings Performance

         The Company had net income from  operations for the year ended December
31, 2004 of  $1,318,960,  or $0.55 basic and $0.43  diluted  earnings per share,
compared  to  $650,112  or $0.27  basic  earnings  per share  and $0.22  diluted
earnings per share for the year ended December 31, 2003. Earnings per share have
been adjusted for a 10% stock  dividend  declared on February 28, 2005.  Diluted
earnings per share  reflect the effect of the exercise of stock  options as well
as an assumed conversion of subordinated  debentures.  The Bank had net interest
income (the difference  between interest earned on  interest-earning  assets and
interest paid on interest-bearing liabilities,  excluding the provision for loan
losses) of $6,674,073 in 2004 compared to $5,354,528 in 2003.  The Bank also had
other operating income (principally service charges,  fees and commissions,  and
gains on sales of  investment  securities)  of $400,677 in 2004 and  $510,726 in
2003.  The Bank  provided  $1,000,000  and  $1,339,000 to its allowance for loan
losses  in  2004  and  2003  respectively,  and  had  other  operating  expenses
(principally  salaries and benefits,  occupancy and equipment  expenses and data
processing expenses) of $3,986,401 in 2004 and $3,493,673 in 2003.

Net Interest Income

         Net   interest   income   is  the   amount   of   interest   earned  on
interest-earning  assets (loans,  investment securities,  time deposits in other
banks  and  federal  funds  sold),   less  the  interest  expenses  incurred  on
interest-bearing liabilities (interest-bearing deposits and borrowed money), and
is the principal source of the Bank's earnings.  Net interest income is affected
by the level of interest rates,  volume and mix of  interest-earning  assets and
interest-bearing liabilities and the relative funding of these assets.

         During the year ended December 31, 2004,  net interest  income was $6.7
million.  For the year ended  December  31, 2003,  net interest  income was $5.4
million.  This increase was primarily  attributable  to an increase in volume of
average  interest-earning assets, which increased to $185.2 million in 2004 from
$151.0 million in 2003. The average yield on  interest-earning  assets decreased
to 5.68% in 2004 from 5.70% in 2003, while the average cost of  interest-bearing
liabilities  decreased  to 2.23% in 2004  from  2.35% in 2003.  The net yield on
average  interest-earning  assets increased to 3.60% in 2004 from 3.55% in 2003,
inreasing the benefit of the increased volume of interest-earning assets.



                                       3
<PAGE>


The table "Average Balances,  Yields and Rates," provides a detailed analysis of
the effective yields and rates on the categories of interest-earning  assets and
interest-bearing  liabilities  for the years ended  December 31, 2004,  2003 and
2002.

<TABLE>
<CAPTION>
                                                                          Average Balances, Yields and Rates
                                                                                (Dollars in Thousands)
                                             Year ended December 31, 2004  Year ended December 31, 2003 Year ended December 31, 2002
                                             ----------------------------  ---------------------------- ----------------------------
                                                        Interest                      Interest                      Interest
                                              Average    Income/  Yields/   Average   Income/  Yields/    Average   Income/  Yields/
                                            Balances(1)  Expense   Rates  Balances(1) Expense   Rates   Balances(1) Expense   Rates
                                            -----------  -------   -----  ----------- -------   -----   ----------- -------   -----
Assets
<S>                                           <C>       <C>       <C>       <C>        <C>        <C>    <C>         <C>       <C>
Federal funds sold and
  interest-bearing deposits                      6,494       84   1.29%     $  4,291   $   55     1.28%  $  9,391    $  148    1.58%
Investment securities                           16,629      524   3.16        16,246      557     3.43     12,031       609    5.06
Loans (2)                                      162,044    9,901   6.11       130,448    7,992     6.13     99,820     7,540    7.55
                                              --------  -------   ----      --------   ------     ----   --------    ------    ----
  Total interest-earning assets                185,167   10,511   5.68       150,985    8,604     5.70    121,242     8,297    6.84
Cash and due from banks                          2,504                         2,149                        2,263
Allowance for loan losses                      (2,214)                       (1,642)                      (1,246)
Premises and equipment                           3,774                         3,958                        3,291
Other assets                                     5,445                         2,014                        2,700
                                              --------                      --------                     --------
  Total assets                                $194,676                      $157,464                     $128,250
                                              ========                      ========                     ========
Liabilities and shareholders' equity
          NOW accounts                           2,849        8   0.28         2,580        3     0.13      2,317        14    0.60
          Savings and money market              60,003    1,213   2.02        42,313      817     1.93     25,730       530    2.06
          Time deposits                         92,410    2,029   2.20        80,556    1,973     2.45     71,143     2,548    3.58
                                              --------  -------   ----      --------   ------     ----   --------    ------    ----
  Interest-bearing deposits                    155,262    3,250   2.09       125,449    2,793     2.23     99,160     3,092    3.12
  FHLB advances                                 11,498      425   3.70         9,588      382     3.98      8,500       371    4.36
  Other borrowings                               2,067       81   3.92
  Subordinated debentures                        3,500       79   2.25         3,500       74     2.11      3,500        96    2.75
                                              --------  -------   ----      --------   ------     ----   --------    ------    ----
    Total interest-bearing liabilities         172,327    3,835   2.23       138,537    3,249     2.35    111,160     3,559    3.20
Noninterest-bearing demand deposits              9,853                         8,361                        7,090
Other liabilities                                2,777                         1,121                        1,363
                                              --------                      --------                     --------
    Total liabilities                          184,957                       148,019                      119,613
Shareholders' equity                             9,719                         9,445                        8,637
                                              --------                      --------                     --------
  Total liabilities and
     shareholders' equity                     $194,676                      $157,464                     $128,250
                                              ========                      ========                     ========
Interest rate spread (3)                                          3.45                            3.35                         3.64
                                                                  ----                            ----                         ----
Net interest income and
  net yield on earning assets (4)                       $ 6,674   3.60                 $5,355     3.55               $4,738    3.91
                                                        =======   ----                 ======     ----               ======    ----

Interest free funds
  supporting earning assets (5)                $12,840                       $12,448                      $10,082
                                               =======                       =======                      =======
</TABLE>
(1)  Average balances are computed on a daily basis.
(2)  Nonaccruing  loans are included in the average loan  balances and income on
     such loans is recognized on a cash basis.  Income includes loan fees, which
     are immaterial to the calculation.
(3)  Total  interest-earnings  assets  yield  less  the  total  interest-bearing
     liabilities rate.
(4)  Net interest income divided by total interest earning assets.
(5)  Total interest-earnings assets less total interest-bearing liabilities.


                                       4
<PAGE>


Rate/Volume Analysis of Net Interest Income

            The  effect of changes in  average  balances  (volume)  and rates on
interest  income,  interest  expense and net  interest  income,  for the periods
indicated,  is shown below.  The effect of a change in average  balance has been
determined  by applying the average rate in the earlier  period to the change in
average balance in the later period,  as compared with the earlier  period.  The
effect of a change in the  average  rate has been  determined  by  applying  the
average  balance in the earlier  period to the change in the average rate in the
later  period,  as compared  with the earlier  period.  The effect of changes in
volume/rate  has been determined by applying the amount of the change in average
rates to the amount of the change in average  volumes,  and  allocated to volume
and rate based on their proportions to the absolute value of each.


<TABLE>
<CAPTION>
                                                         Year ended December 31, 2004              Year Ended December 31, 2003
                                                               compared to 2003                          compared to 2002
                                                               ----------------                          ----------------
                                                          Increase (Decrease) Due to                Increase (Decrease) Due to
                                                          --------------------------                --------------------------
                                                     Volume          Rate          Change        Volume        Rate           Change
                                                     ------          ----          ------        ------        ----           ------
Interest earned on:
<S>                                               <C>              <C>          <C>            <C>           <C>              <C>
       Federal  funds  sold and
         interest-bearing deposits ........       $    28          $  1         $   29         $  (69)       $   (24)         $ (93)

       Investment securities ..............            12           (45)           (33)           177           (229)           (52)
       Gross Loans ........................         1,935           (26)         1,909          2,037         (1,585)           452
                                                  -------          ----         ------         ------        -------          -----

Total Interest Income .....................         1,975           (70)         1,905          2,145         (1,838)           307
Interest paid on:
       Deposits ...........................           620          (163)           457            706         (1,005)          (299)
       FHLB advances ......................            70           (27)            43             45            (34)            11
       Other borrowings ...................            81             -             81
       Subordinated debentures ............             -             5              5              -            (22)           (22)
                                                  -------          ----         ------         ------        -------          -----

Total Interest Expense ....................           771          (185)           586            751         (1,061)          (310)

Change in Net Interest Income .............        $1,204          $115         $1,319         $1,394        $  (777)         $ 617
                                                   ======          ====         ======         ======        =======          =====
</TABLE>

         During 2005,  management  expects that short term  interest  rates will
continue  increase  during the entire  year.  The Company  does not expect these
increases to have a significant  impact on the company's earnings due to similar
repricing  intervals  in the interest  earning  asset and  liability  portfolio.
Therefore,  any  improvements in net interest income for 2005 are expected to be
largely  the  result  of  increases  in the  volume  and  changes  in the mix of
interest-earning assets and interest-bearing liabilities.  Management expects to
continue to use  aggressive  marketing  strategies to increase the Bank's market
share for both deposits and quality loans within the Greenville,  South Carolina
area. These strategies involve offering attractive interest rates and continuing
the Bank's commitment to providing outstanding customer service.

Interest Rate Sensitivity

         Interest rate  sensitivity  management is concerned with the timing and
magnitude of repricing  assets  compared to liabilities and is an important part
of asset/liability  management. It is the objective of interest rate sensitivity
management to generate stable growth in net interest income,  and to control the
risks  associated  with interest rate movement.  Management  constantly  reviews
interest rate risk exposure and the expected  interest rate  environment so that
adjustments in interest rate sensitivity can be timely made.

         The  table,  "Interest  Sensitivity  Analysis",  indicates  that,  on a
cumulative  basis  through  twelve  months,   rate-  sensitive  assets  exceeded
rate-sensitive liabilities, resulting in an asset-sensitive position at December
31, 200 of $4.5 million for a cumulative gap ratio of 2.3%.



                                       5
<PAGE>

         When interest-sensitive  assets exceed  interest-sensitive  liabilities
for a specific repricing period, a positive interest sensitive gap results.  The
gap is negative when  interest-sensitive  liabilities exceed  interest-sensitive
assets.  For a bank with a positive gap, such as the Bank, rising interest rates
would be expected to have a positive  effect on net interest  income and falling
rates would be expected to have the opposite effect. However, gap analysis, such
as the  table  below,  does  not  take  into  account  actions  by a bank or its
customers during periods of changing rates, which could significantly change the
effects of rate changes than would otherwise be expected.

         The table below  reflects the balances of  interest-earning  assets and
interest-bearing  liabilities  at the  earlier of their  repricing  or  maturity
dates.  Amounts  of fixed  rate  loans are  reflected  at the  earlier  of their
contractual  maturity  date or the  date at  which  the  loans  may be  repriced
contractually.  Time  deposits in other  banks are  reflected  in the  deposits'
maturity dates.  Repurchase agreements and other borrowed funds are reflected in
the earliest  contractual  repricing  interval due to the immediately  available
nature  of  these  funds.   Interest-bearing  liabilities  with  no  contractual
maturity,  such as interest-bearing  transaction  accounts and savings deposits,
are reflected in the earliest repricing interval due to contractual arrangements
which give  management the  opportunity to vary the rates paid on these deposits
within a thirty day or shorter period.  However, the Bank is under no obligation
to vary the rates paid on those  deposits  within any given  period.  Fixed rate
time  deposits are reflected at their  contractual  maturity  dates.  Fixed rate
advances are reflected at their  contractual  maturity dates,  and variable rate
advances  are  reflected  in the  earliest  repricing  interval  since they were
borrowed under the daily rate credit option, and reprice daily.

                          Interest Sensitivity Analysis

<TABLE>
<CAPTION>
                                                                                           December 31, 2004
                                                                                           -----------------
                                                                         Within         4-12       Over 1-5       Over 5
                                                                        3 Months       Months       Years         Years       Total
                                                                        --------       ------       -----         -----       -----
                                                                                        (Dollars in thousands)
Interest-earning assets
<S>                                                                       <C>                                                  <C>
   Federal funds sold and interest-bearing deposits ...............       4,115                                                4,115
   Investments and FHLB stock, ....................................          75                      9,257        7,974       17,306
   Loans ..........................................................     136,263       11,316        28,666          213      176,458
                                                                        -------      -------       -------      -------      -------

        Total interest-earning assets .............................     140,453       11,316        37,923        8,187      197,879
Interest-bearing liabilities
   Interest-bearing deposits
      Interest-bearing transaction accounts .......................       2,914                                                2,914
      Savings and money market accounts ...........................      61,982                                               61,982
      Time deposits over $100M ....................................      12,147       19,756        18,320            -       50,223
      Other time deposits .........................................      15,621       23,821        12,768            -       52,210
                                                                        -------      -------       -------      -------      -------
        Total interest-bearing deposits ...........................      92,664       43,577        31,088            -      167,329

   Other borrowings ...............................................      11,000            -         6,500        2,000       19,500
                                                                        -------      -------       -------      -------      -------
        Total interest-bearing liabilities

Period interest-sensitive gap .....................................      36,789      (32,261)          335        6,187
Cumulative interest-sensitive gap .................................      36,789        4,528         4,863       11,050

Gap ratio as a percentage of earning assets .......................        18.6%       (16.3)%         0.2%         3.1%
Cumulative gap ratio as a percentage of earning assets ............        18.6%         2.3%          2.5%         5.6%
</TABLE>


                                       6
<PAGE>

Provision for Loan Losses

         The allowance for loan losses,  established  through charges to expense
in the form of a provision for loan losses,  allows for loan losses  inherent in
the Bank's loan  portfolio.  Loan losses or  recoveries  are charged or credited
directly to the  allowance.  The level of the allowance for loan losses is based
on  management's  judgment as to the amount  required  to maintain an  allowance
adequate to provide for estimated  inherent  losses in the loan  portfolio.  The
Bank provided  $1,000,000 and $1,339,000 to the allowance during the years ended
December 31, 2004 and 2003, respectively. The decrease in the provision for loan
losses  for 2004  versus  2003 was the  result of an  improvement  in the credit
quality of the overall loan  portfolio  and a decrease in the growth of the loan
portfolio. See "Allowance for Loan Losses" for further information about factors
considered by management in setting the amount of the allowance.

Other Income

         In 2004, the Bank had other income of $400,677  compared to $510,726 in
2003.  The  decrease  was  primarily  the result of gains of $89,575 on sales of
investment securities classified as available-for-sale  during 2003, as compared
to no such sales in 2004.

Other Expenses

         Salaries and employee  benefits  totaled  $2,162,838 and $1,894,529 for
2004 and 2003,  respectively.  The  increase  was  primarily  due to  additional
lending  staff at the  Greenville  location.  Occupancy  and  equipment and data
processing  expenses  totaled  $900,349  for the year ended  December  31,  2004
compared to $867,300 for the year ended  December  31,  2003.  The increase of $
33,049 was primarily due to one-time software  conversion costs during the first
half of 2004.  In 2004,  the Bank  recorded  write-downs  of assets  acquired in
settlement of loans of $68,235, compared to $25,549 in 2003.

Income Taxes

         During the years ended  December 31, 2004 and 2003,  the Bank  recorded
income tax expense of $769,389 and $382,469, respectively. The Bank accounts for
income taxes under SFAS No. 109, "Accounting for Income Taxes." Certain items of
income and expense (principally  provision for loan losses and depreciation) are
included in one reporting period for financial  accounting  purposes and another
for income tax purposes.

Investment Portfolio

         As of December 31, 2004,  the Bank's  investment  portfolio,  excluding
investments  required for  membership  in the Federal  Home Loan Bank  ("FHLB"),
comprised approximately 7.9% of total assets. The following table summarizes the
carrying  value amounts of securities  held by the Bank at December 31, 2004 and
at December 31, 2003. Available-for-sale securities are stated at estimated fair
value. The Bank had no held-to-maturity securities at December 31, 2004.

Securities Portfolio Composition

<TABLE>
<CAPTION>
                                      December 31, 2004               December 31, 2003              December 31, 2002
                                      -----------------               -----------------              -----------------
                                             Net                                 Net                                Net
                                         Unrealized                           Unrealized                        Unrealized
                                Book       Holding      Fair        Book        Holding      Fair       Book       Holding    Fair
                                Value    Gain/(Loss)    Value       Value     Gain/(Loss)    Value      Value    Gain/(Loss)  Value
                                -----    -----------    -----       -----     -----------    -----      -----    -----------  -----
                                                                   (Dollars in thousands)
<S>                            <C>            <C>       <C>        <C>            <C>      <C>         <C>           <C>     <C>
Federal Agencies ..........    $ 7,496        $(34)     $7,462     $ 3,014        $(38)    $ 2,976     $ 5,992       $ 60    $ 6,052
Mortgage-backed
    securities ............      8,924         (35)      8,889      10,901         (48)     10,853      11,391        215     11,606
                               -------        ----     -------     -------        ----     -------     -------       ----    -------
                               $16,420        $(69)    $16,351     $13,915        $(86)    $13,829     $17,383       $275    $17,658
                               =======        ====     =======     =======        ====     =======     =======       ====    =======
</TABLE>



                                       7
<PAGE>

         The Bank also holds  stock in the FHLB.  This stock was  recorded  at a
cost of $954,500 at December 31, 2004 and $580,000 at December 31, 2003, and has
no quoted market value. However,  redemption of this stock has historically been
at par value.

              The  following  table  presents  maturities  and weighted  average
yields of debt  securities  available for sale at December 31, 2004.  All of the
securities are stated at estimated fair value.

Securities Portfolio Maturities and Yields

                                                           December 31, 2004
                                                           -----------------
                                                         Fair              Yield
                                                         Value             -----
                                                         -----
                                                         (Dollars in thousands)
Federal agencies

Due within one year ..........................                 -              -
Due from one to five years ...................           $ 7,462           2.90%
Due from five to ten years ...................                 -              -
Due after ten years ..........................                 -              -


Mortgage-backed securities

Due within one year ..........................                75           3.99%
Due from one to five years ...................                 -              -
Due from five to ten years ...................             8,513           3.55%
Due after ten years ..........................               301           5.21%
                                                         -------           ----

Total ........................................           $16,351           3.31%
                                                         =======           ====

Loan Portfolio

         Management believes the loan portfolio is adequately diversified. There
are no  significant  concentrations  of loans to any  particular  individuals or
industry or group of related individuals or industries, and there are no foreign
loans.

         The amount of loans  outstanding at December 31, 2004, 2003, 2002, 2001
and 2000 is shown in the following table according to type of loan:

                           Loan Portfolio Composition

<TABLE>
<CAPTION>
                                                                                               December 31,
                                                                                               ------------
                                                                          2004        2003          2002        2001          2000
                                                                          ----        ----          ----        ----          ----
                                                                                            (Dollars in thousands)
<S>                                                                     <C>          <C>          <C>          <C>        <C>
Commercial ........................................................   $  33,644    $  30,500    $  45,122    $  36,800    $ 27,781
Real estate - Construction ........................................      39,170       15,814       13,627        6,846        5,853
Real estate - Mortgage ............................................      96,984       94,391       44,840       41,924       31,130
Consumer ..........................................................       6,660        9,691        7,350        7,119        5,911
                                                                      ---------    ---------    ---------    ---------    ---------
    Total loans ...................................................     176,458      150,396      110,939       92,690       70,675
Less allowance for loan losses ....................................      (2,293)      (2,345)      (1,395)      (1,175)        (958)
                                                                      ---------    ---------    ---------    ---------    ---------
                                                                      $ 174,165    $ 148,051    $ 109,544    $  91,514    $  69,717
                                                                      =========    =========    =========    =========    =========
</TABLE>

                                       8
<PAGE>

         A  certain  degree  of risk is  inherent  in the  extension  of  credit
Management has established loan and credit policies designed to control both the
types and  amounts of risks  assumed and to  ultimately  minimize  losses.  Such
policies include limitations on  loan-to-collateral  values for various types of
collateral,  requirements for appraisals of real estate collateral, problem loan
management  practices and collection  procedures,  and nonaccrual and charge-off
guidelines.

         Commercial loans primarily represent loans made to businesses,  and may
be made on  either a secured  or an  unsecured  basis.  When  taken,  collateral
usually consists of liens on receivables,  equipment, inventories, furniture and
fixtures.  Unsecured  business loans are generally  short-term  with emphasis on
repayment  strengths and low debt-to- worth ratios.  Commercial lending involves
significant risk because  repayment  usually depends on the cash flows generated
by a  borrower's  business,  and the debt  service  capacity  of a business  can
deteriorate because of downturns in national and local economic  conditions.  To
control  risk,  initial  and  continuing  financial  analysis  of  a  borrower's
financial information is required.

         Real estate  construction  loans  generally  consist of  financing  the
construction of 1-4 family  dwellings and nonfarm,  nonresidential  real estate.
Usually,  loan-to-cost  ratios  are  limited  to  80%  and  permanent  financing
commitments are required prior to the advancement of loan proceeds.

         Loans secured by real estate  mortgages  comprised  55.0% of the Bank's
loan  portfolio  at December  31, 2004  compared to 62.8% at December  31, 2003.
Residential  real estate loans consist  mainly of first and second  mortgages on
single family homes, with some multifamily loans. Loan-to-value ratios for these
instruments  are generally  limited to 85%.  Nonfarm,  nonresidential  loans are
secured  by  business  and  commercial   properties  with  loan-to-value  ratios
generally  limited to 85%. The repayment of both  residential  and business real
estate  loans  is  dependent  primarily  on the  income  and  cash  flows of the
borrowers,  with the real estate serving as a secondary or liquidation source of
repayment.

Maturity and Interest Sensitivity Distribution of Loans

         The  following  table  sets  forth  the  maturity  distribution  of the
Company's  loans,  by type, at December 31, 2004, as well as the amount of fixed
and variable rate loans outstanding.

<TABLE>
<CAPTION>
                                                                                           December 31, 2004
                                                                                           -----------------
                                                                    One Year            One to          Five Years
                                                                     Or Less          Five Years          Or More            Total
                                                                     -------          ----------          -------            -----
                                                                                          (Dollars in thousands)

<S>                                                                <C>                <C>                <C>                <C>
Commercial, financial and industrial ...................           $ 25,925           $  7,060           $    659           $ 33,644
Real estate - construction .............................             19,881             19,289                  -             39,170
Real estate - mortgage .................................             16,995             74,204              5,785             96,984
Consumer installment ...................................              1,688              4,817                155              6,660
                                                                   --------           --------           --------           --------
         Total loans ...................................           $ 64,489           $105,370           $  6,599           $176,458
                                                                   ========           ========           ========           ========

Fixed rate .............................................                                                                    $ 46,425

Variable rate ..........................................                                                                    $130,033
</TABLE>

Nonperforming Loans; Other Problem Assets

         When a loan is 90 days past due as to interest or principal or there is
serious doubt as to collectibility,  the accrual of interest income is generally
discontinued  unless  the  estimated  net  realizable  value  of  collateral  is
sufficient to assure  collection of the principal  balance and accrued interest.
When the  collectibility  of a  significant  amount of  principal  is in serious
doubt,  the  principal  balance  is  reduced  to the  estimated  fair  value  of


                                       9
<PAGE>

collateral by  charge-off  to the  allowance for loan losses and any  subsequent
collections  are credited first to the remaining  principal  balance and then to
the  allowance  for loan  losses as a  recovery  of the  amount  charged-off.  A
nonaccrual loan is not returned to accrual status unless  principal and interest
are current and the borrower  has  demonstrated  the ability to continue  making
payments as agreed.

         At December 31, 2004 and 2003, the Bank had $1,497,000 and  $1,230,953,
respectively,  of nonaccrual  loans. The increase was primarily  attributable to
one loan  relationship  placed on  nonaccrual in fourth  quarter of 2004.  Gross
interest  income that would have been recorded with respect to nonaccrual  loans
in 2004 and 2003 under the original terms of the loans was $168,425 and $93,543,
respectively.  Accrued  interest on nonaccrual loans totaled $40,420 and $10,294
at December 31, 2004 and 2003, respectively. At December 31, 2004 and 2003 loans
of $ - and  $388,760,  respectively,  were 90 days or more  past  due and  still
accruing  interest.  Management  believes,  at this  time,  that  principal  and
interest on these loans will ultimately be collected. There were no restructured
loans at December 31, 2004 and 2003.



Nonperforming Assets

         Nonperforming assets,  percentages of net charge-offs,  and the related
percentage of allowance for loan losses are shown in the following table:

<TABLE>
<CAPTION>
                                                                                       Year Ended December 31,
                                                                                       -----------------------
                                                                   2004           2003           2002            2001         2000
                                                                   ----           ----           ----            ----         ----
                                                                                     (Dollars in thousands)
<S>                                                              <C>            <C>            <C>            <C>           <C>
Loans over 90 days past due .............................        $    -         $  393         $    -         $  628        $     -

Loans on non-accrual
   Real estate - mortgage ...............................         1,394          1,052            789            645          1,906
   Real estate - construction ...........................            10             16              -            300              -
   Commercial ...........................................             -             56              7            351            332
   Consumer .............................................            93            107             59             66             43
                                                                 ------         ------         ------         ------         ------
      Total non-accrual loans ...........................         1,497          1,231            855          1,362          2,281

Troubled debt restructurings ............................             -              -              -              -              -
                                                                 ------         ------         ------         ------         ------
      Total nonperforming loans .........................         1,497          1,624            855          1,990          2,281

Other nonperforming assets ..............................           881            411            243            574            805
                                                                 ------         ------         ------         ------         ------
      Total nonperforming assets ........................        $2,378         $2,035         $1,098         $2,564         $3,086
                                                                 ======         ======         ======         ======         ======

Percentage of total assets ..............................          1.14%          1.18%          0.78%          2.18%          3.49%

Percentage of nonperforming assets to
    total loans and other nonperforming assets ..........          1.34           1.35           0.99           2.76           4.32

Allowance for loan losses to total loans ................          1.30           1.56           1.26           1.27           1.36

Net charge-offs to average loans ........................          0.65           0.30           0.59            .64           1.63
</TABLE>

Potential Problem Loans

         Management  has  identified  and maintains a list of potential  problem
loans. These are loans that are not included in nonaccrual status, or loans that
are  past  due 90  days or more  and  still  accruing.  A loan is  added  to the
potential  problem  list when  management  becomes  aware of  information  about
possible  credit  problems of  borrowers  that causes  serious  doubts as to the
ability of such  borrowers to comply with the current loan repayment  terms.  At
December 31, 2004, there were $4 million of loans determined by management to be
potential problem loans.

                                       10
<PAGE>

Assets Acquired in Foreclosure

         At  December  31,  2004  and  2003,  the Bank had  assets  acquired  in
settlements of loans of approximately $881,098 and $411,000,  respectively.  For
both years,  those amounts  represented  100% of real estate owned. One property
was  acquired,  and six  properties  were  sold in 2004.  Real  estate  owned is
initially  recorded at the lower of net loan principal  balance or its estimated
fair market value less  estimated  selling  costs.  The estimated  fair value is
determined by appraisal at the time of acquisition.

Allowance for Loan Losses

         The  allowance  for loan  losses  is  increased  by direct  charges  to
operating  expense.  Losses on loans are charged  against the  allowance  in the
period in which  management has determined  that it is more likely than not that
the loans have become uncollectible.  Recoveries of previously charged-off loans
are credited to the  allowance.  The table,  "Summary of Loan Loss  Experience,"
summarizes loan balances at the end of each period indicated,  averages for each
period, changes in the allowance arising from charge-offs and recoveries by loan
category, and additions to the allowance which have been charged to expense.

         In  reviewing  the  adequacy of the  allowance  for loan losses at each
year-end,  management  considers the historical  loan losses  experienced by the
Bank, current economic conditions affecting the borrowers' ability to repay, the
volume of  loans,  and the  trends in  delinquent,  nonaccruing,  and  potential
problem loans, and the quality of collateral securing  nonperforming and problem
loans. After charging-off all known losses,  management  considers the allowance
for loan losses  adequate to cover its  estimate of loan losses  inherent in the
loan portfolio as of December 31, 2004.

         In  calculating  the amount  required in the allowance for loan losses,
management  applies a  consistent  methodology  that is updated  quarterly.  The
methodology  utilizes a loan  risk-grading  system and detailed  loan reviews to
assess credit risks and the overall  quality of the loan  portfolio,  as well as
other  off-balance-sheet  credit  risks  such as loan  commitments  and  standby
letters of credit. Also, the calculation provides for management's assessment of
trends in national and local economic  conditions  that might affect the general
quality of the loan portfolio.  Regulators  review the adequacy of the allowance
for loan  losses  as part of  their  examination  of the  Bank  and may  require
adjustments  to the allowance  based upon  information  available to them at the
time of the examination.

         During  2004,  the Bank  experienced  net  charge-offs  of  $1,052,275.
Management  believes that it has adequately  provided for losses considering its
assessment of collateral values and other factors affecting  collectibility.  In
addition,  Management  believes that procedures to monitor extensions of credit,
construction  draws, and current financial  condition of borrowers have improved
during the last two years as compared to previous periods.

         The allowance is not allocated to different  segments of the portfolio.
The Bank  charges  losses from any  segment of the  portfolio  to the  allowance
without any allocation.



                                       11
<PAGE>

                    Analysis of the Allowance for Loan Losses

<TABLE>
<CAPTION>
                                                                                       Year Ended December 31,
                                                                                       -----------------------
                                                                2004            2003          2002            2001          2000
                                                                ----            ----          ----            ----          ----
                                                                                        (Dollars in thousands)
<S>                                                           <C>            <C>            <C>            <C>            <C>
Total gross loans outstanding at end of period ..........     $ 176,458      $ 150,396      $ 110,939      $  92,485      $  70,675
Average amount of loans outstanding, gross ..............       162,044        130,448         99,820         78,318         66,292
                                                              ---------      ---------      ---------      ---------      ---------
Balance of allowance for loan losses -
    beginning ...........................................         2,345          1,395          1,176            958          1,173
                                                              ---------      ---------      ---------      ---------      ---------
Loans charged off:
    Real estate-construction ............................             -            (82)             -             (6)          (105)
    Real estate-mortgage ................................          (466)          (120)          (529)          (241)          (665)
    Consumer loans ......................................          (475)           (97)           (54)           (95)          (119)
    Commercial and other loans ..........................          (135)           (90)           (25)          (163)          (191)
                                                              ---------      ---------      ---------      ---------      ---------
           Total charge-offs ............................        (1,076)          (389)          (608)          (505)        (1,080)
                                                              ---------      ---------      ---------      ---------      ---------

Recoveries of loans previously charged-off ..............            24              -             22              -              -
                                                              ---------      ---------      ---------      ---------      ---------
           Net charge-offs ..............................        (1,052)          (389)          (586)          (505)        (1,080)

Additions to allowance for loan losses-ending ...........         1,000          1,339            805            723            865
                                                              ---------      ---------      ---------      ---------      ---------

Balance of allowance for loan losses-ending .............     $   2,293      $   2,345      $   1,395      $   1,176      $     958
                                                              =========      =========      =========      =========      =========
</TABLE>




<TABLE>
<CAPTION>
                                                                                           Year Ended December 31,
                                                                                           -----------------------
                                                                        2004          2003          2002          2001          2000
                                                                        ----          ----          ----          ----          ----
Ratios
<S>                                                                    <C>            <C>           <C>            <C>        <C>
   Net charge-offs during period to average
       loans outstanding during period .....................            0.65%         0.30%         0.59%          .64%        1.63%
   Net charge-offs to loans at end of period ...............            0.60          0.26          0.53          0.55         1.53
   Allowance for loan losses to average loans ..............            1.42          1.80          1.40          1.50         1.45
   Allowance for loan losses to loans at end of
       Period ..............................................            1.30          1.56          1.26          1.27         1.36
   Net charge-offs to allowance for loan losses ............            45.9          16.6          42.0          42.9         1.13
   Net charge-offs to provision for loan losses ............           105.2          29.1          72.8          69.8        124.9
</TABLE>


Deposits

         The amounts and  composition  of total deposits as of December 31, 2004
and 2003 were as follows (dollars in thousands):

<TABLE>
<CAPTION>
                                                                                           December 31,
                                                                                           ------------
                                                                            2004                              2003
                                                                            ----                              ----
                                                                 Amount              Percent             Amount             Percent
                                                                 ------              -------             ------             -------
<S>                                                            <C>                       <C>            <C>                     <C>
Noninterest-bearing ..............................             $  8,818                  5.0%           $  9,082                6.2%
NOW accounts .....................................                2,914                  1.7               3,142                2.2
Money market accounts ............................               61,240                 34.8              47,549               32.7
Savings ..........................................                  742                  0.4                 760                0.5
Time, less than $100,000 .........................               50,222                 28.5              48,658               33.4
Time, $100,000 and over ..........................               52,210                 29.6              36,430               25.0
                                                               --------                -----            --------              -----
                                                               $176,176                100.0%           $145,621              100.0%
                                                               ========                =====            ========              =====
</TABLE>

         The average amounts and average rates paid on deposits held by the Bank
for the years ended December 31, 2004 and 2003 are summarized below:

                                       12
<PAGE>

<TABLE>
<CAPTION>
                                                                                        Deposits
                                                                                (Dollars in thousands)
                                                         December 31, 2004          December 31, 2003            December 31, 2002
                                                         -----------------          -----------------            -----------------
                                                        Amount     Average         Amount       Average          Amount     Average
                                                        ------     Rate (%)        ------       Rate (%)         ------     Rate (%)
                                                                   --------                     --------                    -------

<S>                                                  <C>             <C>          <C>             <C>          <C>             <C>
Noninterest-bearing demand ..................        $  9,853           -         $  8,361           -         $  7,090           -
Interest-bearing  transaction accounts ......           2,849        0.26            2,580        0.11            2,317        0.60
Savings .....................................             813        0.49              628        0.48              455        0.93
Money market accounts .......................          59,190        2.04           41,686        1.95           25,274        2.08
Certificates of deposit and
  Individual retirement accounts ............          92,410        2.20           80,555        2.45           71,114        3.58
                                                     --------        ----         --------        ----         --------        ----

         Total average deposits .............        $165,115        2.09%        $133,810        2.23%        $106,250        2.91%
                                                     ========        ====         ========        ====         ========        ====
</TABLE>

         As of December 31, 2004,  the Bank held $52.2  million in time deposits
of $100,000 or more,  with  approximately  $16.5 million  maturing  within three
months,  $7.4  million  with  maturities  over three  through six months,  $16.5
million with  maturities  over six through  twelve months and $12.7 million with
maturities  over  twelve  months.  Brokered  deposits  as of  December  31, 2004
amounted to approximately  $25.9 million.  Brokered  deposits are generally more
interest rate sensitive  and,  therefore,  more volatile than deposits  obtained
from the company's local market areas.

Return on Equity and Assets

               The  following  table  shows the  return on  assets  (net  income
divided by average  assets),  return on equity  (net  income  divided by average
equity),  dividend  payout ratio  (dividends  declared per share  divided by net
income per share), and equity to assets ratio (average equity divided by average
total assets) for the years ended December 31, 2004 and 2003.

                                                          December 31,
                                                          ------------
                                                   2004        2003      2002
                                                   ----        ----      ----

Return on average assets ..............            0.68%       0.41%     0.47%
Return on average equity ..............           13.57%       6.88      6.96
Dividend payout ratio .................           13.14%      12.12         -
Average equity to average
  asset ratio .........................            4.97        6.00      6.73

Liquidity

         Liquidity is the ability to meet current and future obligations through
liquidation  or maturity of existing  assets or the  acquisition  of  additional
liabilities.  Adequate  liquidity  is  necessary  to meet  the  requirements  of
customers for loans and deposit  withdrawals  in the most timely and  economical
manner. Some liquidity is ensured by maintaining assets which may be immediately
converted  into cash at minimal cost  (amounts due from banks and federal  funds
sold).  However,  the most  manageable  sources of  liquidity  are  composed  of
liabilities, with the primary focus on liquidity management being the ability to
obtain  deposits  within the Bank's service area.  Core deposits (total deposits
less time deposits greater than $100,000 and less brokered  deposits)  provide a
relatively  stable  funding  base,  and were  equal to 59.0% of total  assets at
December 31, 2004. Asset liquidity is provided from several  sources,  including
amounts due from banks and federal funds sold,  and funds from  maturing  loans.
The Bank is a member of the FHLB of Atlanta  and,  as such,  has the  ability to
borrow against the security of its investment  portfolio and qualifying mortgage
loans.  At December  31,  2004,  the Bank had the ability to borrow up to 15% of
assets from the FHLB. $13.5 million of borrowings were outstanding from the FHLB
at  December  31,  2004,  secured  by  investment  securities  and 1 - 4  family
residential mortgage loans. These borrowings bear interest at rates ranging from
2.52% to 4.38%.  $11.5 million matures in 2006 and $2.0 million matures in 2011.
The $2 million  advance is callable and may reprice prior to its final  maturity
date.


                                       13
<PAGE>

         The unused borrowing capacity currently available from the FHLB assumes
that the Bank's $954,500  investment in FHLB stock as well as certain securities
and qualifying  mortgages would be pledged to secure any future borrowings.  The
maximum  amount of FHLB  borrowings  outstanding at the end of any month in 2004
was $15.5 million.  The Bank believes that it could obtain additional  borrowing
capacity from the FHLB by  identifying  additional  qualifying  collateral  that
could be pledged.

         The Bank also has  $7,400,000  available  through  lines of credit with
other banks as an additional source of liquidity  funding.  Management  believes
that the Bank's  overall  liquidity  sources are adequate to meet its  operating
needs in the ordinary course of business.

Off-Balance Sheet Arrangements

         The Company,  through the  operations  of the Bank,  makes  contractual
commitments to extend credit in the ordinary course of its business  activities.
These instruments  represent  unfunded  commitments,  not outstanding  balances,
therefore,  the risk associated with these financial  instruments is referred to
as "off-balance  sheet risk". The Bank's financial  instruments with off-balance
sheet risk consist of 1) commitments to extend credit and 2) standby  letters of
credit.  Both involve elements of credit and interest rate risk not reflected on
the  balance  sheet.  We use the same credit and  collateral  policies in making
these commitments as we do for on-balance sheet instruments.

         Commitments  to extend  credit are legally  binding  agreements to lend
money to customers of the Bank at  predetermined  interest rates for a specified
period of time. At December 31, 2004, the Bank had issued  commitments to extend
credit  of $27.8  million  through  various  types of  lending.  Commitments  at
variable rates of interest  totaled $21.0 million and commitments at fixed rates
totaled $6.8  million.  The  commitments  generally  expire over one year.  Past
experience indicates that many of these commitments to extend credit will expire
unused.  However, as described in "Liquidity",  the Company believes that it has
adequate  sources of  liquidity to fund  commitments  that are drawn upon by the
borrower.

         In  addition  to  commitments  to extend  credit,  the Bank also issues
standby  letters of credit which are  assurances to a third party that they will
not  suffer  a loss  if the  Bank's  customer  fails  to  meet  its  contractual
obligation to the third party.  Standby  letters of credit  totaled  $993,644 at
December 31, 2004. Past experience  indicates that many of these standby letters
of credit will expire unused. However, through its various sources of liquidity,
the Bank  believes  that it will  have the  necessary  resources  to meet  these
obligations should the need arise.

         Neither the Company nor its subsidiary is involved in other off-balance
sheet  contractual  relationships,  unconsolidated  related  entities  that have
off-balance  sheet  arrangements or transactions  that could result in liquidity
needs or other commitments or significantly  impact earnings.  Obligations under
noncancelable  operating  lease  agreements  totaled  approximately $ 379,803 at
December 31, 2004. These  obligations are payable over several years as shown in
Note 10 to the Company's consolidated financial statements.

Capital Resources

         Shareholders' equity increased $1,155,633 during 2004. Major components
of  the  change  in  shareholders'  equity  included  net  operating  income  of
$1,318,960,  unrealized  gains,  net of  tax,  in the  investment  portfolio  of
$11,333, and a cash dividend of $.08 per share, or $173,261.

         The  Company and the Bank are subject to  regulatory  capital  adequacy
standards.  Under these standards,  financial institutions and holding companies
are  required to maintain  certain  minimum  ratios of capital to  risk-weighted
assets and average total  assets.  Under the  provisions of the Federal  Deposit
Insurance  Corporation  Improvements Act of 1991, federal financial  institution
regulatory  authorities are required to implement  prescribed "prompt corrective
actions"  upon the  deterioration  of the  capital  position  of a bank.  If the
capital  position of an  institution  falls below certain  levels,  increasingly
stringent regulatory corrective actions are mandated.

                                       14
<PAGE>

         We believe that capital is  sufficient  to fund the  activities  of the
bank for the foreseeable  future.  It is management's  objective to maintain the
capital  levels  such  that  the  bank  will  continue  to  be  considered  well
capitalized.  However,  no assurance  can be given that this  objective  will be
achieved. We do anticipate that capital levels will be maintained at levels that
will allow the company and the bank to qualify as being  adequately  capitalized
as defined by regulation.

         Company and Bank capital  ratios at December 31, 2004 are  presented in
the following  table,  compared with the "well  capitalized"  and minimum ratios
under the FDIC regulatory definitions and guidelines:

<TABLE>
<CAPTION>
                                                                                                             To be well capitalized
                                                                                        For capital          under prompt corrective
                                                                                     adequacy purposes           Action provisions
                                                                   Actual                  Minimum                   Minimum
                                                                   ------                  -------                   -------
                                                            Amount         Ratio      Amount        Ratio     Amount          Ratio
                                                            ------         -----      ------        -----     ------          -----
                                                                                        (amounts in $000)

Company (consolidated):
As of December 31, 2004
<S>                                                         <C>             <C>      <C>             <C>      <C>             <C>
Total capital (to risk weighted assets) ................    $16,577         9.3%     $14,331         8.0%     $17,914         10.0%

Tier 1 capital (to risk weighted assets) ...............     10,840         6.1        7,166         4.0       10,748          6.0

Tier 1 capital (to average assets) .....................     10,840         5.6        8,196         4.0       10,246          5.0

Company (consolidated):
As of December 31, 2003
Total capital (to risk weighted assets) ................    $14,974         9.9      $12,066         8.0%     $15,087         10.0%


Tier 1 capital (to average assets) .....................      9,587         6.4        6,033         4.0        9,052          6.0

Tier 1 capital (to average assets) .....................      9,587         6.1        6,633         4.0        7,544          5.0
</TABLE>

<TABLE>
<CAPTION>
                                                                                                           To be well capitalized
                                                                                          For capital        under prompt corrective
                                                                                       adequacy purposes         action provisions
                                                                     Actual                  Minimum                   Minimum
                                                                     ------                  -------                   -------
                                                               Amount         Ratio      Amount        Ratio     Amount       Ratio
                                                               ------         -----      ------        -----     ------       -----
Bank:
As of December 31, 2004
<S>                                                           <C>             <C>       <C>             <C>      <C>           <C>
Total capital (to risk weighted assets) ...............       $18,715         10.5%     $14,312         8.0%     $17,891       10.0%

Tier 1 capital (to risk weighted assets) ..............        16,478          9.2        7,156         4.0       10,734        6.0

Tier 1 capital (to average assets) ....................        16,478          8.5        8,196         4.0       10,246        5.0

As of December 31, 2003
Total capital (to risk weighted assets) ...............       $14,812          9.8%     $12,074         8.0%     $15,093       10.0%

Tier 1 capital (to risk weighted assets) ..............        12,925          8.6        6,037         4.0        9,056        6.0

Tier 1 capital (to average assets) ....................        12,925          7.8        6,631         4.0        8,289        5.0
</TABLE>

                                       15
<PAGE>

Inflation

         Since the assets and  liabilities  of a bank are primarily  monetary in
nature (payable in fixed,  determinable  amounts),  the performance of a bank is
affected  more by changes in interest  rates than by inflation.  Interest  rates
generally increase as the rate of inflation increases,  but the magnitude of the
change in rates may not be the same.

         While the effect of inflation  on banks is normally not as  significant
as is its influence on those  businesses  which have large  investments in plant
and inventories, it does have an effect. During periods of high inflation, there
are  normally  corresponding  increases  in the money  supply,  and  banks  will
normally experience  above-average  growth in assets,  loans and deposits.  Also
general  increases in the prices of goods and services  will result in increased
operating expenses.

Recently Issued Accounting Standards

         Recently issued accounting  standards and  pronouncements are discussed
in Note 1, Summary of Significant  Accounting  Policies and  Activities,  in our
Report on Consolidated  Financial  Statements included herein.  Other accounting
standards,  which  have been  issued or  proposed  by the  Financial  Accounting
Standards  Board  that do not  require  adoption  until a  future  date  are not
expected to have a material impact on the consolidated financial statements upon
adoption.


                                       16
<PAGE>







                    GRANDSOUTH BANCORPORATION AND SUBSIDIARY

                   REPORT ON CONSOLIDATED FINANCIAL STATEMENTS

              FOR THE YEARS ENDED DECEMBER 31, 2004, 2003 AND 2002




                                       17
<PAGE>











             REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM




To the Shareholders and Board of Directors
GrandSouth Bancorporation and Subsidiary
Greenville, South Carolina


              We have audited the  accompanying  consolidated  balance sheets of
GrandSouth  Bancorporation  and Subsidiary as of December 31, 2004 and 2003, and
the  related  consolidated  statements  of  income,   shareholders'  equity  and
comprehensive  income (loss),  and cash flows for each of the years in the three
year period ended December 31, 2004. These consolidated financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated financial statements based on our audits.

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

              In our opinion, the consolidated  financial statements referred to
above  present  fairly,  in all material  respects,  the  financial  position of
GrandSouth  Bancorporation  and  Subsidiary as of December 31, 2004 and 2003 and
the  results of their  operations  and their cash flows for each of the years in
the three year period ended  December 31, 2004,  in conformity  with  accounting
principles generally accepted in the United States of America.



                                        s/Elliott Davis, LLC


Greenville, South Carolina
February 4, 2005, except for Note 22 as to which
     the date is February 28, 2005





                                       18
<PAGE>

                    GRANDSOUTH BANCORPORATION AND SUBSIDIARY
                           CONSOLIDATED BALANCE SHEETS

<TABLE>
<CAPTION>
                                                                                                              DECEMBER 31,
                                                                                                              ------------
                                                                                                       2004                 2003
                                                                                                       ----                 ----
                                                          ASSETS
<S>                                                                                              <C>                  <C>
Cash and due from banks ..................................................................       $   2,544,458        $   2,046,684
Federal funds sold .......................................................................           3,424,000            1,562,000
                                                                                                 -------------        -------------

           Cash and cash equivalents .....................................................           5,968,458            3,608,684

Investment securities available for sale .................................................          16,351,488           13,829,219
Other investments, at cost ...............................................................             954,500              580,000
Loans, net ...............................................................................         174,164,872          148,051,270
Property and equipment, net ..............................................................           3,628,546            3,893,185
Bank owned life insurance ................................................................           4,247,026              827,487
Assets acquired in settlement of loans ...................................................             881,098              410,921
Other assets .............................................................................           1,733,758            1,259,992
                                                                                                 -------------        -------------

                                                                                                 $ 207,929,746        $ 172,460,758
                                                                                                 =============        =============

                                           LIABILITIES AND SHAREHOLDERS' EQUITY

Deposits
     Noninterest bearing .................................................................       $   8,817,734        $   9,082,231
     Interest bearing ....................................................................         167,328,540          136,538,717
                                                                                                 -------------        -------------

           Total deposits ................................................................         176,146,274          145,620,948

Federal Home Loan Bank advances ..........................................................          13,500,000           11,600,000
Other borrowings .........................................................................           2,500,000                    -
Subordinated debentures ..................................................................           3,500,000            3,500,000
Other liabilities ........................................................................           1,486,514            2,098,485
                                                                                                 -------------        -------------

           Total liabilities .............................................................         197,132,788          162,819,433
                                                                                                 -------------        -------------

COMMITMENTS AND CONTINGENCIES - Notes 10 and 14

SHAREHOLDERS' EQUITY
     Common stock, no par value, 20,000,000 shares authorized,
        2,382,357 and 2,165,970 shares issued and  outstanding
        at December 31, 2004 and 2003 respectively .......................................          10,839,508            9,695,208
     Retained earnings ...................................................................                   -                    -
     Accumulated other comprehensive income (loss) .......................................             (42,550)             (53,883)
                                                                                                 -------------        -------------

           Total shareholders' equity ....................................................          10,796,958            9,641,325
                                                                                                 -------------        -------------

           Total liabilities and shareholders' equity ....................................       $ 207,929,746        $ 172,460,758
                                                                                                 =============        =============
</TABLE>




The  accompanying  notes are an integral  part of these  consolidated  financial
statements.

                                       19
<PAGE>


                    GRANDSOUTH BANCORPORATION AND SUBSIDIARY
                        CONSOLIDATED STATEMENTS OF INCOME

<TABLE>
<CAPTION>
                                                                                             For the years ended December 31,
                                                                                             --------------------------------
                                                                                      2004               2003               2002
                                                                                      ----               ----               ----
INTEREST INCOME
<S>                                                                                <C>                <C>                <C>
   Loans and fees on loans ................................................        $ 9,900,728        $ 7,991,856        $ 7,540,240
   Investment securities ..................................................            524,742            556,705            608,439
   Federal funds sold and due from banks ..................................             83,483             55,213            148,434
                                                                                   -----------        -----------        -----------

        Total interest income .............................................         10,508,953          8,603,774          8,297,113

INTEREST EXPENSE
   Deposits ...............................................................          3,231,859          2,792,628          3,092,067
   Federal Home Loan Bank advances ........................................            524,205            382,279            370,463
   Subordinated notes .....................................................             78,816             74,339             96,250
                                                                                   -----------        -----------        -----------

        Total interest expense ............................................          3,834,880          3,249,246          3,558,780
                                                                                   -----------        -----------        -----------

        Net interest income ...............................................          6,674,073          5,354,528          4,738,333

PROVISION FOR POSSIBLE LOAN LOSSES ........................................          1,000,000          1,339,000            805,000
                                                                                   -----------        -----------        -----------

        Net interest income after provision for
           possible loan losses ...........................................          5,674,073          4,015,528          3,933,333
                                                                                   -----------        -----------        -----------

NONINTEREST INCOME
   Service fees on deposit accounts .......................................            265,570            289,434            293,119
   Gain on sale of investment securities available for sale ...............                  -             89,575                  -
   Other ..................................................................            135,107            131,717            149,899
                                                                                   -----------        -----------        -----------

        Total noninterest income ..........................................            400,677            510,726            443,018
                                                                                   -----------        -----------        -----------

NONINTEREST EXPENSES
   Salaries and benefits ..................................................          2,162,838          1,894,529          1,789,615
   Printing and supplies ..................................................             75,898             71,246             97,586
   Data processing ........................................................            321,405            350,666            293,868
   Occupancy and equipment ................................................            578,944            516,634            437,468
   Professional services ..................................................            192,890            151,950            159,845
   Writedowns and expenses on assets acquired in settlement
   of loans ...............................................................             68,235             25,549             89,031
   Other operating ........................................................            586,191            483,099            447,586
                                                                                   -----------        -----------        -----------

        Total noninterest expenses ........................................          3,986,401          3,493,673          3,314,999
                                                                                   -----------        -----------        -----------

        Income before income taxes ........................................          2,088,349          1,032,581          1,061,352

INCOME TAX PROVISION ......................................................            769,389            382,469            460,470
                                                                                   -----------        -----------        -----------

        Net income ........................................................        $ 1,318,960        $   650,112        $   600,882
                                                                                   ===========        ===========        ===========

NET INCOME PER COMMON SHARE
     Basic ................................................................        $       .55        $       .27        $       .25
                                                                                   ===========        ===========        ===========

     Diluted ..............................................................        $       .43        $       .22        $       .21
                                                                                   ===========        ===========        ===========

WEIGHTED AVERAGE NUMBER OF COMMON
   SHARES OUTSTANDING
     Basic ................................................................          2,382,357          2,382,567          2,382,567
                                                                                   ===========        ===========        ===========

     Diluted ..............................................................          3,200,558          3,162,300          3,146,359
                                                                                   ===========        ===========        ===========
</TABLE>

The  accompanying  notes are an integral  part of these  consolidated  financial
statements


                                       20
<PAGE>




                    GRANDSOUTH BANCORPORATION AND SUBSIDIARY
 CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY AND COMPREHENSIVE INCOME (LOSS)
              For the years ended December 31, 2004, 2003 and 2002


<TABLE>
<CAPTION>

                                                                Common stock                          Accumulated
                                                                ------------                             other            Total
                                                                                       Retained      comprehensive    shareholders'
                                                          Shares          Amount       earnings      income (loss)        equity
                                                          ------          ------       --------      -------------        ------
<S>                                                       <C>          <C>            <C>            <C>            <C>
Balance, December 31, 2001 .........................      1,875,329    $  8,464,227   $   59,119     $    31,750    $  8,555,096
                                                                                                                    ------------
    Net income .....................................              -               -      600,882               -         600,882
    Other comprehensive income -
       Unrealized gain on investment
       securities (net of income tax
       expense of $81,230) .........................              -               -            -         155,294         155,294
                                                                                                                    ------------
    Comprehensive income ...........................              -               -            -               -         756,176
                                                          ---------    ------------   ----------    ------------    ------------
Balance, December 31, 2002 .........................      1,875,329       8,464,227      660,001         187,044       9,311,272
                                                                                                                    ------------
    Net income .....................................              -               -      650,112               -         650,112
    Other comprehensive income -
       Unrealized holding losses on
       investment securities (net of
       income tax benefit of $115,058) .............              -               -            -        (297,359)       (297,359)

       Less reclassification adjustment for
       gains included in net income (net of
       income tax expense of $33,143) ..............              -               -            -          56,432          56,432
                                                                                                                    ------------
    Comprehensive income ...........................              -               -            -               -         409,185
    Stock dividend (5%) ............................         93,731         625,186     (625,186)              -               -
    Cash in lieu of fractional shares ..............              -            (368)           -               -            (368)
    Cash dividend ($.04) per share .................              -               -      (78,764)              -         (78,764)
    Stock dividend (10%) ...........................        196,910         606,163     (606,163)              -               -
                                                          ---------    ------------   ----------    ------------    ------------

Balance, December 31, 2003 .........................      2,165,970       9,695,208            -         (53,883)      9,641,325
                                                                                                                    ------------
    Net income .....................................              -               -    1,318,960               -       1,318,960
    Other comprehensive income -
       Unrealized holding gain on
       investment securities (net of
       income tax expense of $5,306) ...............              -               -            -          11,333          11,333
                                                                                                                    ------------
    Comprehensive income ...........................              -               -            -               -       1,330,293
    Cash in lieu of fractional shares ..............           (191)         (1,399)           -               -          (1,399)
    Cash dividend ($.08) per share .................              -               -     (173,261)              -        (173,261)
    Stock dividend (10%) ...........................        216,578       1,145,699   (1,145,699)              -               -
                                                          ---------    ------------   ----------    ------------    ------------
Balance, December 31, 2004 .........................      2,382,357    $ 10,839,508   $        -    $    (42,550)   $ 10,796,958
                                                          =========    ============   ==========    ============    ============
</TABLE>







The  accompanying  notes are an integral  part of these  consolidated  financial
statements.


                                       21
<PAGE>

                    GRANDSOUTH BANCORPORATION AND SUBSIDIARY
                      CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
                                                                                             For the years ended December 31,
                                                                                             --------------------------------
                                                                                          2004              2003             2002
                                                                                          ----              ----             ----
OPERATING ACTIVITIES
<S>                                                                                  <C>              <C>              <C>
     Net income .................................................................    $  1,318,960     $    650,112     $    600,882
     Adjustments to reconcile net income to net cash
        provided by operating activities
        Deferred income tax expense (benefit) ...................................          55,150         (193,385)         206,310
        Provision for possible loan losses ......................................       1,000,000        1,339,000          805,000
        Depreciation ............................................................         384,612          334,168          203,149
        Amortization and accretion (net) of securities available for sale .......         113,963          126,639          123,078
        Gain on sale of investment securities available for sale ................               -          (89,575)               -
        Gain on sale of property and equipment ..................................          (3,712)         (11,455)               -
        (Gain) loss on sale of assets acquired in settlement of loans ...........          12,948           (9,999)          35,619
        Write-down of assets acquired in settlement of loans ....................          68,235           24,359           44,000
        Increase in other assets ................................................        (534,222)        (292,057)        (281,739)
        Increase (decrease) in other liabilities ................................         276,108          592,267         (944,477)
                                                                                     ------------     ------------     ------------
              Net cash provided by operating activities .........................       2,692,042        2,470,074          791,822
                                                                                     ------------     ------------     ------------
IVESTING ACTIVITIES
     Purchase of investment securities ..........................................     (11,027,274)      (9,796,291)     (12,524,711)
     Purchase of Federal Home Loan Bank stock ...................................        (374,500)        (155,000)               -
     Proceeds from principal paydowns on investment securities ..................       2,907,681        5,159,843        2,899,926
     Proceeds from sales and calls of investment securities .....................       5,500,000        7,187,427                -
     Proceeds from maturity of investment securities ............................               -        1,000,000        3,000,000
     Increase in loans, net .....................................................     (28,270,950)     (40,295,128)     (19,108,231)
     Purchase of Bank owned life insurance ......................................      (3,357,000)               -                -
     Increase in cash surrender value of life insurance .........................         (62,539)         (41,838)         (35,681)
     Proceeds from sale of assets acquired in settlement of loans ...............         605,988          266,750          524,157
     Proceeds from sale of property and equipment ...............................          15,500           23,000           10,237
     Purchase of property and equipment .........................................        (131,761)        (245,868)
                                                                                                                         (2,089,225)
                                                                                     ------------     ------------     ------------
              Net cash used for investing activities ............................     (34,194,855)     (36,897,105)     (27,323,528)
                                                                                     ------------     ------------     ------------
FINANCING ACTIVITIES
      Proceeds from Federal Home Loan Bank advances .............................       5,000,000        3,100,000                -
      Repayment of Federal Home Loan Bank advances ..............................      (3,100,000)               -                -
      Proceeds from note payable ................................................       2,500,000                -                -
      Net increase in deposits ..................................................      29,637,247       27,148,427       24,052,833
      Dividends paid ............................................................        (173,261)         (78,764)               -
      Cash paid in lieu of fractional shares ....................................          (1,399)            (368)               -
                                                                                     ------------     ------------     ------------
              Net cash provided by financing activities .........................      33,862,587       30,169,295       24,052,833
                                                                                     ------------     ------------     ------------
              Net (decrease) increase in cash and cash
              equivalents .......................................................       2,359,774       (4,257,736)      (2,478,873)

CASH AND CASH EQUIVALENTS, BEGINNING
      OF YEAR ...................................................................       3,608,684        7,866,420       10,345,293
                                                                                     ------------     ------------     ------------
CASH AND CASH EQUIVALENTS, END OF YEAR ..........................................    $  5,968,458     $  3,608,684     $  7,866,420
                                                                                     ============     ============     ============
SUPPLEMENTAL INFORMATION
      Cash paid for:
         Income taxes ...........................................................    $    237,777     $    147,511     $    340,610
                                                                                     ============     ============     ============

         Interest ...............................................................    $  3,810,773     $  3,382,683     $  4,038,239
                                                                                     ============     ============     ============

         Loans transferred to assets acquired in settlement of loans ............    $  1,157,348     $    449,196     $    273,085
                                                                                     ============     ============     ============
</TABLE>



The  accompanying  notes are an integral  part of these  consolidated  financial
statements.


                                       22
<PAGE>


                    GRANDSOUTH BANCORPORATION AND SUBSIDIARY
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ACTIVITIES

           GrandSouth   Bancorporation  (the  "Company")  is  a  South  Carolina
corporation  organized  in 2000 for the  purpose of being a holding  company for
GrandSouth Bank (the "Bank"). On October 2, 2000, pursuant to a Plan of Exchange
approved by the shareholders,  all of the outstanding  shares of $2.50 par value
common stock of the Bank were  exchanged for shares of no par value common stock
of the Company.  The Company presently engages in no business other than that of
owning the Bank,  has no employees,  and operates as one business  segment.  The
Company is regulated by the Federal Reserve Board.  The  consolidated  financial
statements  include the  accounts of the Company and the Bank.  All  significant
intercompany accounts and transactions have been eliminated in consolidation.

           The Bank was  incorporated  in 1998 and operates as a South  Carolina
chartered  bank providing  full banking  services to its customers.  The Bank is
subject  to  regulation  by  the  South   Carolina   State  Board  of  Financial
Institutions and the Federal Deposit Insurance Corporation.

   Basis of presentation
     The  accounting  and reporting  policies  conform to accounting  principles
     generally accepted in the United States of America and to general practices
     in the banking industry. The Company uses the accrual basis of accounting.

   Estimates
     The  preparation of  consolidated  financial  statements in conformity with
     accounting  principles  generally  accepted in the United States of America
     requires  management  to make  estimates  and  assumptions  that affect the
     reported  amounts of assets and  liabilities  and  disclosure of contingent
     assets  and  liabilities  as of  the  date  of the  consolidated  financial
     statements  and the  reported  amount of income  and  expenses  during  the
     reporting periods. Actual results could differ from those estimates.

   Concentrations of credit risk
     The Company makes loans to individuals and businesses in and around Upstate
     South Carolina for various  personal and commercial  purposes.  The Company
     has a diversified loan portfolio and the borrowers'  ability to repay their
     loans is not dependent upon any specific economic sector.

   Investment securities
     The Bank accounts for investment securities in accordance with Statement of
     Financial  Accounting  Standards ("SFAS") No. 115,  "Accounting for Certain
     Investments  in  Debt  and  Equity  Securities".   The  statement  requires
     investments  in equity  and debt  securities  to be  classified  into three
     categories:

     1.   Available for sale:  These are securities  which are not classified as
          either held to maturity or as trading securities. These securities are
          reported at fair market value which is determined  using quoted market
          prices. Unrealized gains and losses are reported, net of income taxes,
          as separate  components of  shareholders'  equity  (accumulated  other
          comprehensive  income  (loss)).  Gains or  losses on  dispositions  of
          securities  are based on the  difference  between the net proceeds and
          the  adjusted  carrying  amounts  of the  securities  sold  using  the
          specific  identification method.  Premiums and discounts are amortized
          into interest income by a method that approximates a level yield.




                                                                     (Continued)


                                       23
<PAGE>

NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ACTIVITIES, Continued

     2.   Held to maturity:  These are investment  securities  which the Company
          has the ability and intent to hold until  maturity.  These  securities
          are stated at cost,  adjusted  for  amortization  of premiums  and the
          accretion of discounts.  Premiums and  discounts  are  amortized  into
          interest  income by a method  that  approximates  a level  yield.  The
          Company has no held to maturity securities.

     3.   Trading:  These are securities  which are bought and held  principally
          for the purpose of selling in the near future.  Trading securities are
          reported at fair market value, and related unrealized gains and losses
          are  recognized  in the income  statement.  The Company has no trading
          securities.

   Loans, interest and fee income on loans
     Loans are stated at the principal  balance  outstanding.  The allowance for
     possible  loan  losses is  deducted  from total  loans in the  consolidated
     balance sheet.  Interest  income is recognized on an accrual basis over the
     term of the loan based on the principal amount outstanding.

     Loans are generally placed on non-accrual status when principal or interest
     becomes  ninety days past due, or when payment in full is not  anticipated.
     When a loan is placed  on  non-accrual  status,  interest  accrued  but not
     received is generally  reversed against interest income.  If collectibility
     is in  doubt,  cash  receipts  on  non-accrual  loans are not  recorded  as
     interest income,  but are used to reduce principal.  Loans are not returned
     to  accrual  status  until the  borrower  demonstrates  the  ability to pay
     principal and interest.  Loans on non-accrual status as well as real estate
     acquired  through  foreclosure  or deed  taken in lieu of  foreclosure  are
     included in non-performing assets.

   Allowance for possible loan losses
     The  provision  for  possible  loan losses  charged to  operating  expenses
     reflects  the amount  deemed  appropriate  by  management  to  establish an
     adequate reserve to meet the present estimated loss  characteristics of the
     current  loan  portfolio.  Management's  estimate is based on periodic  and
     regular evaluation of individual loans, the overall risk characteristics of
     the various portfolio segments, past experience with losses, and prevailing
     and  anticipated  economic  conditions.  Loans which are  determined  to be
     uncollectible  are charged  against the  allowance.  Provision for possible
     loan losses and recoveries on loans previously charged off are added to the
     allowance.

     The Company  accounts for impaired  loans in accordance  with SFAS No. 114,
     "Accounting by Creditors for Impairment of a Loan".  This standard requires
     that all  lenders  value  loans at the loan's  fair value if it is probable
     that the lender will be unable to collect all amounts due  according to the
     terms of the loan  agreement.  Fair value may be determined  based upon the
     present  value  of  expected  cash  flows,  market  price of the  loan,  if
     available,  or value of the underlying collateral.  Expected cash flows are
     required to be discounted at the loan's effective interest rate.

     Under  SFAS No.  114,  as  amended  by SFAS  No.  118,  when  the  ultimate
     collectibility  of an  impaired  loan's  principal  is in doubt,  wholly or
     partially,  all cash receipts are applied to  principal.  Once the reported
     principal  balance  has been  reduced to zero,  future  cash  receipts  are
     applied to  interest  income,  to the  extent  that any  interest  has been
     foregone.  Further cash  receipts are recorded as recoveries of any amounts
     previously charged off.

     A loan is also considered  impaired if its terms are modified in a troubled
     debt  restructuring.  For these accruing  impaired loans, cash receipts are
     typically  applied to principal and interest  receivable in accordance with
     the terms of the restructured loan agreement. Interest income is recognized
     on these loans using the accrual method of accounting.

                                                                     (Continued)



                                       24
<PAGE>

NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ACTIVITIES, Continued

   Property and equipment
     Property and equipment are stated at cost, net of accumulated depreciation.
     Depreciation is computed using the straight-line  method over the estimated
     useful lives of the related assets.  Maintenance and repairs are charged to
     operations, while major improvements are capitalized. Upon retirement, sale
     or other  disposition of property and equipment,  the cost and  accumulated
     depreciation are eliminated from the accounts, and gain or loss is included
     in income from operations.

   Assets acquired in settlement of loans
     Assets acquired in settlement of loans include real estate acquired through
     foreclosure or deed taken in lieu of foreclosure,  and repossessed  assets.
     These assets are  recorded at the lower of the carrying  value of the loans
     or the estimated fair value of the related asset, net of estimated  selling
     costs.  The excess  carrying value, if any, is charged to the allowance for
     possible loan losses upon transfers.  If further reduction in value occurs,
     charges are included in income from operations.

   Income taxes
     The  financial  statements  have been prepared on the accrual  basis.  When
     income and  expenses are  recognized  in  different  periods for  financial
     reporting  purposes versus for purposes of computing income taxes currently
     payable,  deferred  taxes are provided on such temporary  differences.  The
     Company  accounts  for  income  taxes in  accordance  with  SFAS  No.  109,
     "Accounting for Income Taxes".  Under SFAS No. 109, deferred tax assets and
     liabilities  are recognized  for the expected  future tax  consequences  of
     events that have been recognized in the financial statements or tax return.
     Deferred  tax assets and  liabilities  are  measured  using the enacted tax
     rates  expected  to apply to  taxable  income in the  years in which  those
     temporary differences are expected to be realized or settled.

   Advertising and public relations expense
     Advertising,   promotional,   and  other  business  development  costs  are
     generally expensed as incurred.  External costs incurred in producing media
     advertising  are  expensed  the first  time the  advertising  takes  place.
     External  costs  relating to direct  mailings are expensed in the period in
     which the direct mailings are sent.

   Net income per common share
     Net  income  per  common  share is  computed  on the basis of the  weighted
     average  number of common shares  outstanding  in accordance  with SFAS No.
     128, "Earnings per Share". The treasury stock method is used to compute the
     effect of stock  options and  convertible  subordinated  debentures  on the
     weighted  average number of common shares  outstanding for diluted earnings
     per share.  On January 21, 2003, the Company  declared a five percent stock
     dividend and on January 22, 2004 and February 28, 2005 the Company declared
     ten  percent  stock  dividends.  Per  share  and  share  amounts  have been
     retroactively  restated  to reflect the stock  dividends  declared in 2003,
     2004 and 2005.

   Statement of cash flows
     For purposes of reporting cash flows, cash and cash equivalents are defined
     as those  amounts  included in the  balance  sheet  caption  "Cash and cash
     equivalents".  Cash and cash equivalents have an original maturity of three
     months or less.

   Fair values of financial instruments
     SFAS No. 107,  "Disclosures About Fair Value of Financial  Instruments," as
     amended by SFAS No. 119, requires  disclosure of fair value information for
     financial  instruments,  whether  or not  recognized  in  the  consolidated
     balance sheet,  when it is practicable to estimate the fair value. SFAS No.
     107  defines a  financial  instrument  as cash,  evidence  of an  ownership
     interest in an entity or contractual obligations which require the exchange
     of cash or other  financial  instruments.  Certain  items are  specifically
     excluded from the disclosure  requirements,  including the Company's common
     stock. In addition,  other  nonfinancial  instruments  such as property and
     equipment  and  other  assets  and  liabilities  are  not  subject  to  the
     disclosure requirements.



                                                                     (Continued)


                                       25
<PAGE>


NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ACTIVITIES, Continued

   Risks and uncertainties
     In the normal course of its business the Company encounters two significant
     types of risks: economic and regulatory. There are three main components of
     economic risk: interest rate risk, credit risk and market risk. The Company
     is subject to interest  rate risk to the degree  that its  interest-bearing
     liabilities  mature or reprice at different  times, or on different  bases,
     than its interest-earning assets. Credit risk is the risk of default on the
     Company's loan and  investment  securities  portfolios  that results from a
     borrower's  inability  or  unwillingness  to  make  contractually  required
     payments.   Market  risk  reflects  changes  in  the  value  of  collateral
     underlying  loans  receivable  and the valuation of real estate held by the
     Company.

     The Company is subject to the regulations of various governmental agencies.
     These  regulations can and do change  significantly  from period to period.
     The  Company  also  undergoes  periodic   examinations  by  the  regulatory
     agencies,  which may subject it to further  changes  with  respect to asset
     valuations,  amounts of required loss allowances and operating restrictions
     from the regulators'  judgments  based on information  available to them at
     the time of their examination.

   Reclassifications
     Certain  prior year  amounts  have been  reclassified  to conform  with the
     current presentation.  These reclassifications have no effect on previously
     reported shareholders' equity or net income.

   Stock-based compensation
     The Company has a stock-based  employee  compensation plan which is further
     described  in Note  16.  The  Company  accounts  for  the  plan  under  the
     recognition  and  measurement  principles  of Accounting  Principles  Board
     ("APB")  Opinion No. 25,  "Accounting  for Stock Issued to Employees",  and
     related  Interpretations.  No  stock-based  employee  compensation  cost is
     reflected in net income, as all stock options granted under these plans had
     an exercise price equal to the market value of the underlying  common stock
     on the date of grant.  The following  table  illustrates  the effect on net
     income and net income per common  share as if the  Company  had applied the
     fair  value  recognition  provisions  of  SFAS  No.  123,  "Accounting  for
     Stock-Based Compensation",  to stock-based employee compensation. Per share
     and weighted  average shares  outstanding have been restated to reflect the
     five percent  stock  dividend  declared on January 21, 2003 and ten percent
     stock dividends declared on January 22, 2004 and February 28, 2005.

<TABLE>
<CAPTION>
                                                                                                 Years ended December 31,
                                                                                                 ------------------------
                                                                                       2004                2003               2002
                                                                                       ----                ----               ----

<S>                                                                                 <C>                <C>                <C>
Net income, as reported ...................................................         $1,318,960         $  650,112         $  600,882
Deduct:  Total stock-based employee compensation
     expense determined under fair value based
     method for all awards, net of related tax effects ....................             53,701             20,350             19,611
                                                                                    ----------         ----------         ----------

Pro forma net income - basic ..............................................          1,265,259            629,762            581,271

Add: Interest savings/incremental shares assumed
     on conversion of subordinated debentures .............................             49,654             46,834             60,638
                                                                                    ----------         ----------         ----------

Pro forma net income - diluted ............................................         $1,314,913         $  676,596         $  641,909
                                                                                    ==========         ==========         ==========
Net income per common share:
     Basic - as reported ..................................................         $      .55         $      .27         $     0.25
                                                                                    ==========         ==========         ==========
     Basic - pro forma ....................................................         $      .53         $      .26         $     0.24
                                                                                    ==========         ==========         ==========

     Diluted - as reported ................................................         $      .43         $      .22         $     0.21
                                                                                    ==========         ==========         ==========
     Diluted - pro forma ..................................................         $      .41         $      .21         $     0.20
                                                                                    ==========         ==========         ==========

</TABLE>

                                                                     (Continued)


                                       26
<PAGE>

NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ACTIVITIES, Continued

   The fair value of the option  grant is  estimated  on the date of grant using
   the  Black-Scholes  option pricing model with the following  weighted average
   assumptions for grants:  the risk free interest rate used ranged from 4.00 to
   5.89 percent,  the expected volatility ranged from 5.00 to 15.25 percent, the
   expected option life was 5 years and the assumed  dividend yields ranged from
   zero to $0.08 per share.

Recently issued accounting standards
   The following is a summary of recent authoritative pronouncements that affect
   accounting,  reporting,  and  disclosure  of  financial  information  by  the
   Company:

     In December 2004, the Financial  Accounting Standards Board ("FASB") issued
     SFAS No. 153, "Exchanges of Nonmonetary Assets, an amendment of APB Opinion
     No. 29,  Accounting for Nonmonetary  Transactions."  The amendments made by
     SFAS No.  153 are based on the  principle  that  exchanges  of  nonmonetary
     assets should be measured based on the fair value of the assets  exchanged.
     Further,  the  amendments  eliminate the narrow  exception for  nonmonetary
     exchanges  of  similar  productive  assets  and  replace  it with a broader
     exception for exchanges of nonmonetary  assets that do not have  commercial
     substance.  Previously, APB Opinion No. 29 required that the accounting for
     an  exchange of a  productive  asset for a similar  productive  asset or an
     equivalent interest in the same or similar productive asset should be based
     on the  recorded  amount  of the asset  relinquished.  APB  Opinion  No. 29
     provided an exception to its basic  measurement  principle (fair value) for
     exchanges  of similar  productive  assets.  SFAS No. 153 is  effective  for
     nonmonetary  asset  exchanges  occurring in fiscal periods  beginning after
     June 15, 2005.  Earlier  application  is permitted  for  nonmonetary  asset
     exchanges occurring in fiscal periods beginning after the date of issuance.
     The  provisions  of this  statement  shall be  applied  prospectively.  The
     adoption of this statement is not expected to have a material impact on the
     financial condition or operating results of the Company.

     In December 2004, the FASB issued SFAS No. 123 (revised 2004), "Share-Based
     Payment"  ("SFAS No.  123(R)").  SFAS No. 123(R) will require  companies to
     measure all  employee  stock-based  compensation  awards using a fair value
     method and record such expense in its  financial  statements.  In addition,
     the  adoption  of  SFAS  No.  123(R)  requires  additional  accounting  and
     disclosure  related to the income tax and cash flow effects  resulting from
     share-based payment arrangements. SFAS No. 123(R) is effective beginning as
     of the first interim or annual  reporting  period  beginning after December
     15, 2005. The Company is currently  evaluating the impact that the adoption
     of  SFAS  No.  123(R)  will  have on its  financial  position,  results  of
     operations and cash flows.

     In December 2003, the FASB issued FIN No. 46 (revised),  "Consolidation  of
     Variable   Interest   Entities"   ("FIN  No.   46(R)"),   which   addresses
     consolidation by business  enterprises of variable interest  entities.  FIN
     No.  46(R)  requires a variable  interest  entity to be  consolidated  by a
     company if that  company is subject to a majority  of the risk of loss from
     the variable interest entity's activities or entitled to receive a majority
     of the entity's  residual  returns,  or both.  FIN No. 46(R) also  requires
     disclosures about variable interest entities that a company is not required
     to consolidate,  but in which it has a significant  variable interest.  FIN
     No. 46(R) provides guidance for determining  whether an entity qualifies as
     a variable  interest  entity by  considering,  among other  considerations,
     whether  the entity  lacks  sufficient  equity or its equity  holders  lack
     adequate decision-making ability. The consolidation requirements of FIN No.
     46(R)  applied  immediately  to variable  interest  entities  created after
     January 31, 2003.  The  consolidation  requirements  apply to the Company's
     existing  variable  interest  entities in the first reporting period ending
     after December 15, 2004. Certain of the disclosure  requirements applied to
     all financial statements issued after December 31, 2003, regardless of when
     the variable interest entity was established. The adoption of FIN No. 46(R)
     did not have a  material  impact on the  Company's  financial  position  or
     results of operations.





                                                                     (Continued)

                                       27
<PAGE>


NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ACTIVITIES, Continued

     In March 2004, the Securities and Exchange  Commission ("SEC") issued Staff
     Accounting Bulletin ("SAB") No. 105,  Application of Accounting  Principles
     to Loan  Commitments,  to inform  registrants  of the Staff's view that the
     fair  value of the  recorded  loan  commitments  should  not  consider  the
     expected  future  cash flows  related to the  associated  servicing  of the
     future  loan.  The  provisions  of SAB  No.  105  must be  applied  to loan
     commitments  accounted for as derivatives that are entered into after March
     31,  2004.  The  Staff  will not  object  to the  application  of  existing
     accounting practices to loan commitments  accounted for as derivatives that
     are entered into on or before March 31, 2004, with appropriate disclosures.
     The Company  adopted the  provisions  of SAB No. 105 on April 1, 2004.  The
     adoption  of SAB No.  105 did not have a material  impact on the  Company's
     financial condition or results of operations.

     Other accounting standards that have been issued or proposed by the FASB or
     other standards-setting  bodies that do not require adoption until a future
     date  are  not  expected  to have a  material  impact  on the  consolidated
     financial statements upon adoption.


NOTE 2 - RESTRICTIONS ON CASH AND DUE FROM BANKS

           The Bank is required to maintain average reserve  balances,  computed
by applying prescribed  percentages to its various types of deposits,  either at
the bank or on deposit with the Federal  Reserve  Bank. At December 31, 2004 and
2003 these required reserves were met by vault cash.


NOTE 3 - INVESTMENT SECURITIES

           The amortized cost and fair value of investment  securities available
for sale are as follows:

<TABLE>
<CAPTION>
                                                                                       December 31, 2004
                                                                                       -----------------
                                                                                        Gross unrealized
                                                               Amortized                ----------------                    Fair
                                                                 Cost               Gains               Losses              Value
                                                                 ----               -----               ------              -----

<S>                                                          <C>                 <C>                 <C>                 <C>
Federal Agencies ...................................         $ 7,496,267         $         -         $    33,875         $ 7,462,392
Mortgage backed ....................................           8,924,159              44,185              79,248           8,889,096
                                                             -----------         -----------         -----------         -----------

       Total investment securities .................         $16,420,426         $    44,185         $   113,123         $16,351,488
                                                             ===========         ===========         ===========         ===========

<CAPTION>
                                                                                       December 31, 2003
                                                                                       -----------------
                                                                                        Gross unrealized
                                                               Amortized                ----------------                    Fair
                                                                 Cost               Gains               Losses              Value
                                                                 ----               -----               ------              -----

<S>                                                          <C>                 <C>                 <C>                 <C>
Federal Agencies ...................................         $ 3,013,346         $         -         $    37,721         $ 2,975,625
Mortgage backed ....................................          10,901,449              62,121             109,976          10,853,594
                                                             -----------         -----------         -----------         -----------

       Total investment securities .................         $13,914,795         $    62,121         $   147,697         $13,829,219
                                                             ===========         ===========         ===========         ===========
</TABLE>



                                                                     (Continued)

                                       28
<PAGE>


NOTE 3 - INVESTMENT SECURITIES, Continued

           The amortized costs and fair values of securities  available for sale
at December 31, 2004, by contractual maturity, are shown in the following chart.
Expected maturities may differ from contractual maturities because borrowers may
have the right to call or prepay  obligations with or without call or prepayment
penalties.


                                                     Amortized
                                                       Cost           Fair value
                                                       ----           ----------

One to five years ..........................       $ 9,291,947       $ 9,257,001
Five to ten years ..........................         6,763,683         6,718,848
After ten years ............................           364,796           375,639
                                                   -----------       -----------

       Total investment securities .........       $16,420,426       $16,351,488
                                                   ===========       ===========



           Investment  securities with an aggregate amortized cost of $8,207,441
(fair value of $8,201,092)  at December 31, 2004 and  $4,052,849  (fair value of
$4,055,629) at December 31, 2003 were pledged to  collateralize  public deposits
and borrowings.

           The following table shows gross unrealized losses and fair value, and
length of time that individual  securities have been in a continuous  unrealized
loss position at December 31, 2004.


<TABLE>
<CAPTION>
                                          Less than 12 Months             12 Months or More                       Total
                                          -------------------             -----------------                       -----
                                         Fair         Unrealized        Fair           Unrealized          Fair          Unrealized
                                        value           losses          value            losses            value           losses
                                        -----           ------          -----            ------            -----           ------

<S>                                 <C>              <C>              <C>              <C>              <C>              <C>
Federal agencies .............      $ 7,462,393      $    33,875      $         -      $         -      $ 7,462,393      $    33,875
Mortgage backed ..............        1,340,818            1,503        3,441,121           77,745        4,781,939           79,248
                                    -----------      -----------      -----------      -----------      -----------      -----------

Total ........................      $ 8,803,211      $    35,378      $ 3,441,121      $    77,745      $12,244,332      $   113,123
                                    ===========      ===========      ===========      ===========      ===========      ===========
</TABLE>

           Three  individual  securities  were in a continuous loss position for
twelve  months or more.  The  Company  has the  ability and intent to hold these
securities until such time as the value recovers or the securities  mature.  The
Company believes, based on industry analyst reports and credit ratings, that the
deterioration  in value is  attributable to changes in market interest rates and
not in the credit  quality of the issuer  and  therefore,  these  losses are not
considered other-than-temporary.

           The Bank,  as a member  institution  of the Federal Home Loan Bank of
Atlanta  ("FHLB"),  is required to own capital stock in the FHLB based generally
upon the balance of  investment  securities  pledged and FHLB  borrowings.  FHLB
capital  stock,  with a cost of $954,500  and  $580,000 at December 31, 2004 and
2003, respectively, is included in other investments in the consolidated balance
sheets. No ready market exists for the stock, and it has no quoted market value.
However, redemption of the stock has historically been at par value.




                                       29
<PAGE>

NOTE 4 - LOANS

           The  composition  of net loans by major loan  category  is  presented
below:

                                                             December 31,
                                                             ------------
                                                       2004               2003
                                                       ----               ----

Commercial ...................................      $33,644,407      $30,500,112
Real estate - construction ...................       39,170,054       15,814,092
Real estate - mortgage .......................       96,983,830       94,391,576
Consumer .....................................        6,659,750        9,690,934
                                                   ------------     ------------

Loans, gross .................................      176,458,041      150,396,714
Less allowance for possible loan losses ......        2,293,169        2,345,444
                                                   ------------     ------------

                                                   $174,164,872     $148,051,270
                                                   ============     ============

           At December 31, 2004 and 2003,  non-accrual loans totaled  $1,497,000
and  $1,230,953,  respectively.  The gross interest income which would have been
recorded under the original  terms of the loans  amounted to $168,425,  $93,543,
and  $27,430 in 2004,  2003 and 2002,  respectively.  The Bank had no loans with
payments  past due ninety days or more and  accruing  interest  at December  31,
2004.  Loans with  payments  past due ninety days or more and accruing  interest
were $388,760,  with $10,293 in accrued interest at December 31, 2003.  Impaired
loans of  approximately  $1.5 million at December 31, 2004 were  included on the
Bank's  classified  loans  listing,  and a specific  reserve  was  allocated  in
calculating the allowance for possible loan losses. Variable rate and fixed rate
loans totaled $130,033,239 and $46,424,802, respectively, at December 31, 2004.

           The  following is a summary of the activity  within the allowance for
possible loan losses for the periods presented:

<TABLE>
<CAPTION>
                                                                                               For the years ended
                                                                                                   December 31,
                                                                                                   ------------
                                                                                  2004                 2003                2002
                                                                                  ----                 ----                ----

<S>                                                                            <C>                  <C>                  <C>
Balance, beginning of year ..........................................          $2,345,444           $1,395,070           $1,175,570
Provision for possible loan losses ..................................           1,000,000            1,339,000              805,000
Loans charged against the allowance, net of recoveries ..............          (1,052,275)            (388,626)            (585,500)
                                                                               ----------           ----------           ----------

Balance, end of year ................................................          $2,293,169           $2,345,444           $1,395,070
                                                                               ==========           ==========           ==========
</TABLE>

NOTE 5 - PROPERTY AND EQUIPMENT

           Components  of property and  equipment  included in the balance sheet
are as follows:

                                                            December 31,
                                                            ------------
                                                      2004                2003
                                                      ----                ----

Land and land improvements ...................     $   566,596      $   566,596
Building and leasehold improvements ..........       2,891,464        2,891,464
Furniture and equipment ......................       1,293,058        1,246,746
Vehicles .....................................         132,824           67,375
                                                   -----------      -----------

                                                     4,883,942        4,772,181
Accumulated depreciation .....................      (1,255,396)        (878,996)
                                                   -----------      -----------

        Total property and equipment .........     $ 3,628,546      $ 3,893,185
                                                   ===========      ===========

                                                                     (Continued)

                                       30
<PAGE>

NOTE 5 - PROPERTY AND EQUIPMENT, Continued

           Depreciation  expense for the years ended December 31, 2004, 2003 and
2002 amounted to $384,612, $334,168, and $203,149, respectively. Depreciation is
charged  to  operations  over the  estimated  useful  lives of the  assets.  The
estimated  useful  lives and methods of  depreciation  for the  principal  items
follow:

     Type of Asset                   Life of Years        Depreciation Method

     Software                             3                Straight-line
     Furniture and equipment              5 to 7           Straight-line
     Buildings and improvements           5 to 40          Straight-line
     Vehicles                             3                Straight-line


NOTE 6 - DEPOSITS

           The following is a detail of deposit accounts:

                                                           December 31,
                                                           ------------
                                                     2004                 2003
                                                     ----                 ----


Noninterest bearing ......................       $  8,817,734       $  9,082,231
Interest bearing:
   NOW accounts ..........................          2,914,119          3,142,012
   Money market accounts .................         61,239,789         47,548,787
   Savings ...............................            741,620            760,644
                                                 ------------       ------------

                                                   73,713,262         60,533,674
                                                 ------------       ------------

     Time, less than $100,000 ............         50,222,861         48,657,509
     Time, $100,000 and over .............         52,210,151         36,429,765
                                                 ------------       ------------

                                                  102,433,012         85,087,274
                                                 ------------       ------------

       Total deposits ....................       $176,146,274       $145,620,948
                                                 ============       ============

           Interest expense on time deposits greater than $100,000 was $905,358,
$518,986, and $550,583, in 2004, 2003 and 2002, respectively.

     At December 31, 2004 the scheduled  maturities of  certificates  of deposit
are as follows:

                   2005                                        $ 71,344,652
                   2006                                          27,000,755
                   2007                                           3,816,000
                   2008                                             165,875
                   2009 and thereafter                              105,730
                                                               ------------

                                                               $102,433,012
                                                               ============


NOTE 7 - FEDERAL HOME LOAN BANK ADVANCES

           The Bank had advances  outstanding from the FHLB totaling $13,500,000
and $11,600,000 at December 31, 2004 and 2003,  respectively.  The advances bear
interest at fixed rates ranging from 2.52 percent to 4.38  percent.  Advances of
$11,500,000  mature in 2006,  and an advance of $2,000,000  matures in 2011. The
advance  maturing  in 2011 is  callable,  and may  reprice  prior  to its  final
maturity date.

           Advances are  collateralized  by  investment  securities  with a book
value of $7,929,902 and fair value of $7,862,736 and by qualifying residential 1
- 4 family  first  mortgages.  During  2004,  the  maximum  amount  of  advances
outstanding was $15,500,000 and the average amount  outstanding  during 2004 was
$11,497,814.


                                       31
<PAGE>

NOTE 8 - OTHER BORROWINGS

           At December 31, 2004 and 2003, the Company had outstanding $2,500,000
and  $-0-,  respectively,  in  other  borrowings  from an  unrelated  bank.  The
borrowings  bear  interest at the federal  prime rate minus 0.25  percent  (5.00
percent at December 31, 2004).  The borrowings  mature in 2007 and may be repaid
before maturity without penalty.


NOTE 9 - SUBORDINATED DEBENTURES

           In 2001,  the  Company  issued  ten-year  variable  rate  convertible
subordinated debentures.  The debentures pay interest quarterly at prime minus 2
percent  (3.25  percent at December 31,  2004).  The holders of  debentures  may
convert the principal  amount of the debenture  into common stock of the Company
at the  conversion  ratio of $6.50  (approximate  fair  value  at  issuance)  of
debenture  principal for one share of the Company's  stock.  The Company has the
option of  redeeming  the  debentures  at any time after  December 31, 2005 as a
whole or in part and from  time to time at  predetermined  prices.  The  Company
incurred  $78,816 and $74,339 in interest  expense on the debentures in 2004 and
2003, respectively.


NOTE 10 - COMMITMENTS AND CONTINGENCIES

           The Company is party to litigation  and claims  arising in the normal
course of business.  Management, after consultation with legal counsel, believes
that the  liabilities,  if any, arising from such litigation and claims will not
be material to the Company's financial position or results of operations.

           The Company has a ground  lease on its main  office  location,  which
expires in 2021. The monthly lease payment is $1,000 for years one through five,
and increases to $1,322 per month in year eleven and to $1,521 per month in year
sixteen.

           The Company  leased an office,  which it used as a branch  until July
2003, under a  non-cancelable  operating lease which terminated in October 2004.
Monthly lease payments of $3,000 were due on the lease until cancellation.  This
office was closed in July 2003, but the lease obligation continued until October
2004.

           The  Company  also  leases  land upon which it  constructed  a branch
office under a  non-cancelable  operating  lease which expires in March of 2018.
The lease  requires  monthly  lease  payments of $800.  The lease  contains four
renewal  options of five  years  each with  provisions  for  adjustments  to the
monthly  lease  payments.  The lease  agreement  requires the Company to pay all
property taxes.

           Future  minimum  lease  payments  under  these  operating  leases are
summarized as follows:

    For the year ended
         December 31,
   -------------------------

            2005                                    $   21,600
            2006                                        23,250
            2007                                        23,400
            2008                                        23,400
            2009                                        23,400
         Thereafter                                    264,753
                                                    ----------

                                                    $  379,803
                                                    ==========

NOTE 11 - UNUSED LINES OF CREDIT

           At  December  31,  2004,  the Bank had two unused  lines of credit to
purchase federal funds totaling  $7,400,000 from unrelated banks. These lines of
credit  are  available  on a one to  fourteen  day basis for  general  corporate
purposes  of the Bank.  The lenders  reserve  the right to withdraw  the line at
their option.  The Bank had an additional line of credit with the FHLB to borrow
up to fifteen percent of the Bank's total assets. At December 31, 2004, the Bank
had unused  available credit of  approximately  $17,700,000.  The line of credit
agreement requires the Bank to pledge investment  securities or qualifying loans
as collateral. (See Note 7).

                                       32
<PAGE>


NOTE 12 - INCOME TAXES

           The following  summary of the provision for income taxes includes tax
deferrals  which arise from temporary  differences in the recognition of certain
items of revenue and expense for tax and  financial  reporting  purposes for the
years ended December 31:

                                               2004         2003           2002
                                               ----         ----           ----

Income taxes currently payable
   Federal .............................     $649,239     $551,994      $223,460
   State ...............................       65,000       23,860        30,700
                                            ---------    ---------     ---------

                                              714,239      575,854       254,160
Deferred tax provision (benefit) .......       55,150     (193,385)      206,310
                                            ---------    ---------     ---------

       Income tax provision ............     $769,389     $382,469      $460,470
                                            =========    =========     =========


The income tax effect of cumulative temporary differences at December 31, are as
follows:

<TABLE>
<CAPTION>
                                                                                                     Deferred tax asset (liability)
                                                                                                     ------------------------------
                                                                                                        2004                2003
                                                                                                        ----                ----
<S>                                                                                                  <C>                  <C>
Allowance for possible loan losses .......................................................           $ 455,875            $ 497,874
Nonaccrual loan interest .................................................................              13,743                3,500
Unrealized net losses on investment securities available for sale ........................              26,388               31,663
Depreciation .............................................................................            (194,889)            (184,927)
Amortization .............................................................................                 255                1,105
Cash basis versus accrual basis of accounting ............................................                   -               (7,296)
Other ....................................................................................              (7,298)              12,580
                                                                                                     ---------            ---------

       Net deferred tax asset ............................................................           $ 294,074            $ 354,499
                                                                                                     =========            =========
</TABLE>


           The net  deferred  tax  asset  is  included  in other  assets  in the
consolidated  balance sheets. There is no valuation allowance because management
believes it is more likely than not that the full amount of deferred  tax assets
will be realized.

The  provision  for  income  taxes is  reconciled  to the  amount of income  tax
computed at the federal  statutory  rate on income  before  income taxes for the
years ended December 31, as follows:

<TABLE>
<CAPTION>
                                                                      2004                      2003                     2002
                                                                      ----                      ----                     ----
                                                             Amount           %       Amount            %       Amount            %
                                                             ------           -       ------            -       ------            -

<S>                                                        <C>              <C>      <C>              <C>      <C>              <C>
Tax expense at statutory rate ........................     $710,000           34     $351,100           34     $360,900           34
Increase in taxes resulting from:
   State bank tax (net of federal benefit) ...........       42,900            2       23,860            2       20,300            2
Adjustment to valuation allowance and
   effective income tax rate .........................            -            -          809            -       63,680            5
Other tax preference items ...........................       16,489            1        6,700            1       15,590            2
                                                           --------        -----     --------        -----     --------        -----

       Income tax provision ..........................     $769,389           37     $382,469           37     $460,470           43
                                                           ========        =====     ========       ======     ========        =====
</TABLE>


                                       33
<PAGE>


NOTE 13 - RELATED PARTY TRANSACTIONS

           Certain  directors,  executive officers and companies with which they
are affiliated,  are customers of and have banking transactions with the Bank in
the ordinary course of business. These loans were made on substantially the same
terms, including interest rates and collateral,  as those prevailing at the time
for comparable  arms-length  transactions.  A summary of loan  transactions with
directors, including their affiliates and executive officers are as follows:

                                                      For the years ended
                                                          December 31,
                                                          ------------
                                                    2004                2003
                                                    ----                ----

Balance, beginning of year .............        $ 1,807,980         $ 1,883,882
New loans ..............................          1,688,112             224,969
Less loan payments .....................         (1,425,372)           (300,871)
                                                -----------         -----------

Balance, end of year ...................        $ 2,070,720         $ 1,807,980
                                                ===========         ===========

           Deposits by  directors  and their  related  interests at December 31,
2004 and 2003 approximated $1,883,000 and $2,376,000, respectively.

           The Company  leases  land from a relative of a director,  shareholder
and executive  officer of the Company (see Note 10). Lease  expenses  charged to
operations under these agreements approximated $39,600 in 2004, $46,000 in 2003,
and $46,000 in 2002.


NOTE 14 - FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK

           In the ordinary  course of business,  and to meet the financing needs
of its  customers,  the Bank is a party to various  financial  instruments  with
off-balance sheet risk. These financial  instruments,  which include commitments
to extend credit and standby  letters of credit,  involve,  to varying  degrees,
elements of credit and interest rate risk in excess of the amounts recognized in
the balance sheet. The contract amount of those instruments  reflects the extent
of involvement the Bank has in particular classes of financial instruments.

       The Bank's exposure to credit loss in the event of  nonperformance by the
other party to the financial  instrument  for  commitments  to extend credit and
standby  letters of credit is  represented by the  contractual  amounts of those
instruments.  The Bank uses the same credit  policies in making  commitments and
conditional obligations as it does for on-balance sheet instruments. Commitments
to extend  credit are  agreements  to lend to a customer  as long as there is no
violation of any material  condition  established  in the contract.  Commitments
generally  have fixed  expiration  dates or other  termination  clauses  and may
require  the  payment  of a  fee.  At  December  31,  2004  and  2003,  unfunded
commitments to extend credit were  $27,847,753  and  $24,285,415,  respectively.
Variable  rate and  fixed  rate  unfunded  commitments  to  extend  credit  were
$21,047,749  and  $6,800,004,  respectively,  at  December  31,  2004.  The Bank
evaluates each customer's credit worthiness on a case-by-case  basis. The amount
of  collateral  obtained,  if deemed  necessary  by the Bank upon  extension  of
credit, is based on management's  credit evaluation of the borrower.  Collateral
varies but may  include  accounts  receivable,  inventory,  property,  plant and
equipment,  commercial  and  residential  real estate.  At December 31, 2004 and
2003, there were outstanding  letters of credit totaling  $993,644 and $730,105,
respectively.


NOTE 15 - EMPLOYEE BENEFIT PLAN

           The Bank sponsors the GrandSouth  Bank Profit Sharing  Section 401(k)
Plan  for  the  benefit  of  all  eligible   employees.   The  Bank  contributes
seventy-five  percent of the first four percent of the  employee's  compensation
contributed to the Plan.  Contributions made to the Plan in 2004, 2003, and 2002
amounted to $39,546, $34,609, and $30,481, respectively.

           In  2001,  supplemental  benefits  were  approved  by  the  Board  of
Directors for certain  executive  officers of the Bank.  These  benefits are not
qualified  under the  Internal  Revenue  Code and they are not funded.  However,
certain funding is provided informally and indirectly by life insurance policies
owned by the Bank. The Company recorded net expense related to these benefits of
$55,980, $28,596 and $18,302 in 2004, 2003 and 2002, respectively.

                                       34
<PAGE>

NOTE 16 - STOCK OPTION PLAN

           During 1998, the Board of Directors  approved a stock option plan for
the benefit of the directors,  officers and employees. The Board may grant up to
330,330  options  (after  adjustment  for a 10 percent stock  dividend  declared
February  28,  2005) at an option  price per share not less than the fair market
value on the date of grant.  All options  granted to officers and employees vest
20 percent each year for five years and expire 10 years from the grant date.

<TABLE>
<CAPTION>
                                               Options outstanding                           Options exercisable
                                               -------------------                           -------------------
                                                    Weighted
                                                      Average           Weighted                            Weighted
      Range of                                       Remaining          average                             average
      Exercise                     Number           Contractual         exercise           Number           exercise
       Prices                    Outstanding            life             price           Exercisable         price
       ------                    -----------            ----             -----           -----------         -----

<S>                                <C>                  <C>            <C>                 <C>              <C>
  $    3.58                        181,682              3.88           $   3.58            181,682          $  3.58
       3.93                         47,840              6.12               3.93             38,274             3.93
       5.51 - 5.70                  41,187              7.19               5.67             23,502             5.68
       6.69                         33,000              9.13               6.69              6,600             6.69
                                   -------                                                 -------
                                   303,709                                                 250,058
                                   =======                                                 =======
</TABLE>
           A summary  of the status of the plan and  changes  during the year is
presented below:

<TABLE>
<CAPTION>
                                                              For the years ended December 31,
                                                              --------------------------------
                                                  2004                        2003                      2002
                                                  ----                        ----                      ----
                                                        Weighted                   Weighted                  Weighted
                                                        Average                    average                   average
                                                        Exercise                   exercise                  exercise
                                          Shares         Price        Shares        price        Shares       price
                                          ------         -----        ------        -----        ------       -----

<S>                                        <C>        <C>             <C>         <C>            <C>           <C>
Outstanding at beginning of year ......    270,709    $  3.85         264,659     $  3.82        229,524       $ 3.58
Granted ...............................     33,000       6.69           6,050        5.51         35,135         5.65
Exercised .............................          -                          -                          -
Forfeited or expired ..................          -                          -                          -
                                           -------                    -------                   -------
Outstanding at end of year ............    303,709       4.26         270,709        3.85        264,659         3.82
                                           =======                    =======                   =======
Options exercisable at December 31, ...    250,058       3.91         224,442        3.60        141,874         3.60
Shares available for grant ............     26,621                     59,621                     65,671
</TABLE>

         Granted  shares and per share  exercise  prices  have been  restated to
reflect the 2003, 2004 and 2005 stock dividends.





                                       35
<PAGE>

NOTE 17 - COMMON STOCK AND NET INCOME PER COMMON SHARE

           Following  is a  reconciliation  of basic  net  income  per  share to
diluted net income per share for the years ended  December  31,  2004,  2003 and
2002.

<TABLE>
<CAPTION>
                                                                                         Income               Shares       Per-share
                                                                                       (numerator)        (denominator)      amount
                                                                                       -----------        -------------      ------
For the year ended December 31, 2004
<S>                                                                                   <C>                   <C>                 <C>
      Basic net income per common share
         Income available to common shareholders ..........................           $1,318,960            2,382,357           $.55
         Effect of dilutive instruments:
             Stock options ................................................                    -              134,086              -
         Effect of convertible instruments:
             Interest savings/incremental shares
                assumed on conversion of subordinated
                debentures ................................................               49,654              684,115              -
                                                                                      ----------            ---------
      Diluted net income per common share
         Income available to common shareholders
             plus assumed exercises of stock options ......................           $1,368,614            3,200,558           $.43
                                                                                      ==========            =========

For the year ended December 31, 2003
      Basic net income per common share
         Income available to common shareholders ..........................             $650,112            2,382,567           $.27
         Effect of dilutive instruments:
             Stock options ................................................                    -               95,896              -
         Effect of convertible instruments:
             Interest savings/incremental shares
                assumed on conversion of subordinated
                debentures ................................................               46,834              683,837              -
                                                                                      ----------            ---------
      Diluted net income per common share
         Income available to common shareholders
             plus assumed exercises of stock options ......................           $  696,946            3,162,300           $.22
                                                                                      ==========            =========

For the year ended December 31, 2002
      Basic net income per common share
         Income available to common shareholders ..........................           $  600,882            2,382,567           $.25
         Effect of dilutive instruments:
             Stock options ................................................                    -               79,955              -
         Effect of convertible instruments:
             Interest savings/incremental shares
                assumed on conversion of subordinated
                debentures ................................................               60,638              683,837              -
                                                                                      ----------            ---------
      Diluted net income per common share
         Income available to common shareholders
             plus assumed exercises of stock options ......................           $  661,520            3,146,359           $.21
                                                                                      ==========            =========
</TABLE>


           The Bank declared a five percent common stock dividend on January 21,
2003 a ten percent  common stock dividend on January 30, 2004, and a ten percent
common stock  dividend on February  28, 2005.  Weighted  average  common  shares
outstanding have been adjusted to reflect the stock dividends.


                                       36
<PAGE>

NOTE 18 - RESTRICTIONS ON DIVIDENDS

           The ability of the Company to pay cash  dividends is  dependent  upon
its receiving cash in the form of dividends from the Bank.

NOTE 19 - REGULATORY MATTERS

         The  Company  and the Bank are  subject to various  regulatory  capital
requirements  administered  by the  federal  banking  agencies.  Failure to meet
minimum  capital  requirements  can  initiate  certain  mandatory,  and possible
additional discretionary actions by regulators that, if undertaken, could have a
direct  material  effect on the Company's  financial  statements.  Under capital
adequacy  guidelines and the regulatory  framework for prompt corrective action,
specific capital  guidelines must be met that involve  quantitative  measures of
the Company and Bank assets, liabilities, and certain off balance sheet items as
calculated under regulatory accounting practices.  The Company's capital amounts
and classification  are also subject to qualitative  judgments by the regulators
about components, risk weightings, and other factors.

           Quantitative  measures  established  by regulation to ensure  capital
adequacy require the Company and the Bank to maintain minimum amounts and ratios
(set  forth in the table  below) of total  and Tier 1 capital  to  risk-weighted
assets,  and of Tier 1 capital to average  assets.  The  Company and Bank actual
capital  amounts  and  ratios  and  minimum  regulatory  amounts  and ratios are
presented as follows:

<TABLE>
<CAPTION>
                                                                                                             To be well capitalized
                                                                                            For capital      under prompt corrective
                                                                                         adequacy purposes      action provisions
                                                                                         -----------------      -----------------
                                                                      Actual                   Minimum                Minimum
                                                                      ------                   -------                -------
                                                                Amount        Ratio      Amount       Ratio      Amount       Ratio
                                                                ------        -----      ------       -----      ------       -----
                                                                                          (amounts in $000)

Company (consolidated):
As of December 31, 2004
<S>                                                           <C>             <C>       <C>             <C>      <C>           <C>
Total capital (to risk weighted assets) ...............       $16,577          9.3%     $14,331         8.0%     $17,914       10.0%


Tier 1 capital (to risk weighted assets) ..............        10,840          6.1        7,166         4.0       10,748        6.0


Tier 1 capital (to average assets) ....................        10,840          5.6        8,196         4.0       10,246        5.0

Bank:
As of December 31, 2004
Total capital (to risk weighted assets) ...............       $18,715         10.5%     $14,312         8.0%     $17,891       10.0%

Tier 1 capital (to risk weighted assets) ..............        16,478          9.2        7,156         4.0       10,734        6.0

Tier 1 capital (to average assets) ....................        16,478          8.5        8,196         4.0       10,246        5.0

Company (consolidated):
As of December 31, 2003
Total  capital (to risk weighted assets) ..............       $14,974          9.9%     $12,066         8.0%     $15,087       10.0%


Tier 1 capital (to risk weighted assets) ..............         9,587          6.4        6,033         4.0        9,052        6.0


Tier 1 capital (to average assets) ....................         9,587          6.1        6,633         4.0        7,544        5.0

Bank:
As of December 31, 2003
Total capital (to risk weighted assets) ...............       $14,812          9.8%     $12,074         8.0%     $15,093       10.0%


Tier 1 capital (to risk weighted assets) ..............        12,925          8.6        6,037         4.0        9,056        6.0


Tier 1 capital (to average assets) ....................        12,925          7.8        6,631         4.0        8,289        5.0
</TABLE>


                                       37
<PAGE>


NOTE 20 - FAIR VALUE OF FINANCIAL INSTRUMENTS

           SFAS No. 107, "Disclosures about Fair Value of Financial Instruments"
requires disclosure of fair value information,  whether or not recognized in the
balance  sheets,  when it is practical to estimate the fair value.  SFAS No. 107
defines a financial  instrument as cash, evidence of an ownership interest in an
entity or  contractual  obligations  which require the exchange of cash or other
instruments.  Certain  items  are  specifically  excluded  from  the  disclosure
requirements,  including  the Bank's  common  stock,  property and equipment and
other assets and liabilities.

           Fair value  approximates  carrying  value for cash and due from banks
and federal funds sold due to the short-term nature of the instrument.

           Investment securities available for sale are valued using quoted fair
market  prices.  Other  investments  at cost are considered to be an appropriate
estimate of fair value due to historical redemption of the stock at cost.

           Fair  value  for  loans  maturing  after  one  year is  based  on the
discounted present value of the estimated future cash flows. Discount rates used
in these computations  approximate the rates currently offered for similar loans
of comparable terms and credit quality.

           Fair  value for  demand  deposit  accounts  is equal to the  carrying
value. Interest-bearing accounts with no fixed maturity date are valued based on
rates offered  within the Bank's market using current  interest rates on similar
instruments. Certificate of deposit accounts maturing within one year are valued
at their  carrying  value.  The fair value of  certificate  of deposit  accounts
maturing  after one year are estimated by  discounting  cash flows from expected
maturities using current interest rates on similar instruments.

           The fair values of fixed rate  advances  from the FHLB are  estimated
using the discounted cash flow calculation that applies to the Company's current
borrowing rate  available  from the FHLB.  The carrying  amounts of the variable
rate subordinated debentures are reasonable estimates of fair value because they
can be repriced frequently.

           The Bank has used  management's  best estimate of fair value based on
the above  assumptions.  Thus, the fair values  presented may not be the amounts
which could be realized in an immediate sale or settlement of the instrument. In
addition,  any income  taxes or other  expenses  which  would be  incurred in an
actual sale or  settlement  are not taken into  consideration  in the fair value
presented.

            The estimated fair values of the Bank's financial instruments are as
follows:

<TABLE>
<CAPTION>
                                                                                              December 31,
                                                                                              ------------
                                                                               2004                                  2003
                                                                               ----                                  ----
                                                                   Carrying             Fair             Carrying             Fair
                                                                    Amount             value              Amount              value
                                                                    ------             -----              ------              -----
Financial Assets:
<S>                                                              <C>                <C>                <C>                <C>
   Cash and due from banks .............................         $2,544,458         $2,544,458         $2,046,684         $2,046,684
   Federal funds sold ..................................          3,424,000          3,424,000          1,562,000          1,562,000
   Investment securities available for sale ............         16,351,488         16,351,488         13,829,219         13,829,219
   Other investments, at cost ..........................            954,500            954,500            580,000            580,000
   Loans, gross ........................................        176,458,041        176,707,442        150,396,714        150,850,189

Financial Liabilities:
   Deposits ............................................        176,146,274        176,694,520        145,620,948        146,272,528
   Federal Home Loan Bank advances .....................         13,500,000         13,483,292         11,600,000         11,663,196
   Other borrowings ....................................          2,500,000          2,500,000                  -                  -
   Subordinated debentures .............................          3,500,000          3,500,000          3,500,000          3,500,000
</TABLE>







                                       38
<PAGE>

NOTE 21 - PARENT COMPANY FINANCIAL INFORMATION

            Following  is  condensed   financial   information   of   GrandSouth
Bancorporation (parent company only):

                            CONDENSED BALANCE SHEETS

<TABLE>
<CAPTION>
                                                                                                            December 31,
                                                                                                            ------------
                                                                                                2004                          2003
                                                                                                ----                          ----
ASSETS
<S>                                                                                          <C>                         <C>
     Cash ..................................................................                 $   226,209                 $    60,951
     Investment in bank subsidiary .........................................                  16,435,221                  12,939,357
     Deferred tax asset ....................................................                     232,769                     158,661
                                                                                             -----------                 -----------

                                                                                             $16,894,199                 $13,158,969
                                                                                             ===========                 ===========

LIABILITIES AND SHAREHOLDERS' EQUITY
     Accrued expenses ......................................................                 $    53,925                 $    17,644
     Due to subsidiary .....................................................                      43,316                           -
     Note payable ..........................................................                   2,500,000                           -
     Subordinated debentures ...............................................                   3,500,000                   3,500,000
     Shareholders' equity ..................................................                  10,796,958                   9,641,325
                                                                                             -----------                 -----------

                                                                                             $16,894,199                 $13,158,969
                                                                                             ===========                 ===========
</TABLE>



                         CONDENSED STATEMENTS OF INCOME

<TABLE>
<CAPTION>
                                                                                             For the years ended
                                                                                                 December 31,
                                                                                                 ------------
                                                                                2004                 2003               2002
                                                                                ----                 ----               ----

<S>                                                                           <C>                  <C>                  <C>
REVENUES ............................................................         $         -          $         -          $         -

EXPENSES
      Interest ......................................................             159,857               74,339               96,250
      Sundry ........................................................              40,438               36,172               30,694
                                                                              -----------          -----------          -----------

            Loss before equity in undistributed net
                income of bank subsidiary ...........................            (200,295)            (110,511)            (126,944)

EQUITY IN UNDISTRIBUTED NET INCOME
      OF BANK SUBSIDIARY ............................................           1,445,146              719,864              681,883
                                                                              -----------          -----------          -----------

            Income before income taxes ..............................           1,244,851              609,353              554,939

      Income tax benefit ............................................              74,109               40,759               45,943
                                                                              -----------          -----------          -----------

            Net income ..............................................         $ 1,318,960          $   650,112          $   600,882
                                                                              ===========          ===========          ===========
</TABLE>










(Continued)


                                       39
<PAGE>

NOTE 21 - PARENT COMPANY FINANCIAL INFORMATION, Continued

                       CONDENSED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
                                                                                                 For the years ended
                                                                                                     December 31,
                                                                                                     ------------
                                                                                       2004               2003               2002
                                                                                       ----               ----               ----

OPERATING ACTIVITIES
<S>                                                                               <C>                <C>                 <C>
      Net income ..........................................................       $ 1,318,960        $   650,112         $  600,882
      Adjustments to reconcile net income to net cash
         used for operating activities
         Deferred income taxes ............................................           (74,108)           (40,688)            24,989
         Accrued expenses and other .......................................            36,281             85,380            (83,721)
         Increase in due to subsidiary ....................................            43,316                  -                  -
         Equity in undistributed net income of bank subsidiary ............        (1,445,146)          (719,864)          (681,883)
                                                                                  -----------        -----------        -----------

                Net cash used for operating activities ....................          (120,697)           (25,060)          (139,733)
                                                                                  -----------        -----------        -----------

INVESTING ACTIVITY
      Investment in bank subsidiary .......................................        (2,039,385)           (17,493)        (1,000,000)
                                                                                  -----------        -----------        -----------

FINANCING ACTIVITIES
      Proceeds from note payable ..........................................         2,500,000                  -                  -
      Payment of cash dividends ...........................................          (173,261)           (78,764)                 -
      Cash paid in lieu of fractional shares ..............................            (1,399)              (368)                 -
                                                                                  -----------        -----------        -----------

                Net cash provided by (used for)
                   financing activities ...................................         2,325,340            (79,132)                 -
                                                                                  -----------        -----------        -----------

                Net increase (decrease) in cash ...........................           165,258           (121,685)        (1,139,733)

CASH, BEGINNING OF YEAR ...................................................            60,951            182,636          1,322,369
                                                                                  -----------        -----------        -----------

CASH, END OF YEAR .........................................................       $   226,209             60,951        $   182,636
                                                                                  ===========        ===========        ===========
</TABLE>


NOTE 22 - SUBSEQUENT EVENT
On February  28,  2005,  the Company  declared a ten percent  (10%) common stock
dividend  payable April 5, 2005 to  shareholders of record as of March 18, 2005.
Common shares authorized,  common shares outstanding, and per share amounts have
been retroactively  restated throughout the consolidated financial statements to
reflect this stock dividend.


                                       40