**UNITED STATES**

**SECURITIES AND EXCHANGECOMMISSION**

**Washington, D.C.  20549**

 

**FORM 10-Q**

 

**(Mark One)**

 

| **x**  | ** ** | **QUARTERLY REPORT UNDER  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**                                                                                                                                                                                                                                                                                                           |
|--------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |       |                                                                                                                                                                                                                                                                                                                                                                                                       |
|   |       | **For the quarterly period ended: June 30, 2008**                                                                                                                                                                                                                                                                                                                                                     |
|   |       |                                                                                                                                                                                                                                                                                                                                                                                                       |
| **o**  | ** ** | **TRANSITION REPORT UNDER  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**                                                                                                                                                                                                                                                                                                          |
|   |       |                                                                                                                                                                                                                                                                                                                                                                                                       |
|   |       | **For the transition period from                                  to                             ** |

 

**Commission file number: 000-22503**

 

**BEACH FIRST NATIONAL BANCSHARES,INC.**

(Exact name ofregistrant as specified in its charter)

 

| **South Carolina**       | ** ** | **57-1030117**                       |
|--------------------------|------------|--------------------------------------|
| (State of Incorporation) |       | (I.R.S. Employer Identification No.) |

 

**3751 Robert M. Grissom Parkway, Suite 100, Myrtle Beach, SouthCarolina 29577**

(Address ofprincipal executive offices)

 

**(843)626-2265**

(Registrant’stelephone number)

 

**Not Applicable**

(Former name,former address and former fiscal year, if changed since last report)

 

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

 

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

 

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

 

Indicate by check markwhether the registrant is shell company (as defined in Rule 12b-2 of theExchange Act). Yes  o    No  x

 

State the number of shares outstanding of each of the issuer’s classesof common equity, as of the latest practicable date:  On  August 8,2008, 4,845,018 shares of the issuer’s common stock, par value $1.00 per share,were issued and outstanding.

 

 

 

----

 

**PART I**

**FINANCIALINFORMATION**

**Item1.  Financial Statements.**

 

**Beach First National Bancshares, Inc. and Subsidiaries**

**ConsolidatedCondensed Balance Sheets**

 
| ** **                                                                                                                                                                                | ** ** | **June 30,** | ** **  | **December 31,** | ** ** | **June 30,** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|-------------|-----------------------|------------|-------------------|------------|
| ** **                                                                                                                                                                                | ** ** | **2008**          | ** **  | **2007**              | ** ** | **2007**          | ** ** |
| ** **                                                                                                                                                                                | ** ** | **(unaudited)**   | ** **  | **(audited)**         | ** ** | **(unaudited)**   | ** ** |
| **Assets**                                                                                                                                                                                |       |              |        |                  |       |              |       |
| Cash and due from banks                                                                                                                                                                   |       | $                 | 10,473,167  |                  | $          | 4,992,634         |       | $ | 6,592,898 |   |
| Federal funds sold and short-term  investments                                                                                                                                            |       | 3,087,016         |        | 566,044               |       | 26,072,380        |       |
| Total cash and cash equivalents                                                                                                                                                           |       | 13,560,183        |        | 5,558,678             |       | 32,665,278        |       |
| Investment securities                                                                                                                                                                     |       | 69,059,993        |        | 65,677,993            |       | 69,656,884        |       |
|                                                                                                                                                                                      |       |              |        |                  |       |              |       |
| Portfolio loans, net of unearned                                                                                                                                                          |       | 553,385,016       |        | 503,432,516           |       | 445,308,418       |       |
| Allowance for loan losses (ALL)                                                                                                                                                           |       | (7,646,053        | )           | (6,935,616            | )          | (6,331,806        | )          |
| Portfolio loans, net of ALL                                                                                                                                                               |       | 545,738,963       |        | 496,496,900           |       | 438,976,612       |       |
|                                                                                                                                                                                      |       |              |        |                  |       |              |       |
| Mortgage loans held for sale                                                                                                                                                              |       | 6,528,090         |        | 6,475,619             |       | 12,073,613        |       |
| Federal Reserve Bank stock                                                                                                                                                                |       | 984,000           |        | 984,000               |       | 984,000           |       |
| Federal Home Loan Bank stock                                                                                                                                                              |       | 3,545,100         |        | 3,395,300             |       | 3,395,300         |       |
| Premises and equipment, net                                                                                                                                                               |       | 16,089,907        |        | 15,746,143            |       | 15,320,929        |       |
| Cash value of life insurance                                                                                                                                                              |       | 3,616,025         |        | 3,554,807             |       | 3,488,334         |       |
| Investment in BFNB Trusts                                                                                                                                                                 |       | 310,000           |        | 310,000               |       | 310,000           |       |
| Other assets                                                                                                                                                                              |       | 10,085,769        |        | 7,788,978             |       | 7,391,740         |       |
| Total assets                                                                                                                                                                              |       | $                 | 669,518,030 |                  | $          | 605,988,418       |       | $ | 584,262,690 |   |
|                                                                                                                                                                                      |       |              |        |                  |       |              |       |
| **Liabilities and shareholders’ equity**                                                                                                                                             |       |              |        |                  |       |              |       |
| **Liabilities**                                                                                                                                                                           |       |              |        |                  |       |              |       |
| Deposits                                                                                                                                                                                  |       |              |        |                  |       |              |       |
| Noninterest bearing deposits                                                                                                                                                              |       | $                 | 37,345,807  |                  | $          | 33,138,936        |       | $ | 37,320,198 |   |
| Interest bearing deposits                                                                                                                                                                 |       | 495,927,217       |        | 431,059,409           |       | 420,950,438       |       |
| Total deposits                                                                                                                                                                            |       | 533,273,024       |        | 464,198,345           |       | 458,270,636       |       |
| Advances from Federal Home Loan Bank                                                                                                                                                      |       | 55,000,000        |        | 55,000,000            |       | 55,000,000        |       |
| Federal funds purchased and other  borrowings                                                                                                                                             |       | 14,128,499        |        | 18,288,148            |       | 7,058,507         |       |
| Junior subordinated debentures                                                                                                                                                            |       | 10,310,000        |        | 10,310,000            |       | 10,310,000        |       |
| Other liabilities                                                                                                                                                                         |       | 3,706,225         |        | 5,613,875             |       | 4,749,438         |       |
| Total liabilities                                                                                                                                                                         |       | 616,417,748       |        | 553,410,368           |       | 535,388,581       |       |
|                                                                                                                                                                                      |       |              |        |                  |       |              |       |
| **Shareholders’ equity**                                                                                                                                                             |       |              |        |                  |       |              |       |
| Common stock, $1 par value; 10,000,000  shares  authorized; 4,845,018 issued and outstanding at June  30, 2008, 4,845,018 at December 31, 2007, and  4,836,916 at June 30, 2007 |       | 4,845,018         |        | 4,845,018             |       | 4,836,916         |       |
| Paid-in capital                                                                                                                                                                           |       | 29,503,750        |        | 29,494,912            |       | 29,050,951        |       |
| Retained earnings                                                                                                                                                                         |       | 19,803,645        |        | 18,583,425            |       | 16,017,612        |       |
| Accumulated other comprehensive loss                                                                                                                                                      |       | (1,052,131        | )           | (345,305              | )          | (1,031,370        | )          |
| Total shareholders’ equity                                                                                                                                                           |       | 53,100,282        |        | 52,578,050            |       | 48,874,109        |       |
| Total liabilities and shareholders’ equity                                                                                                                                           |       | $                 | 669,518,030 |                  | $          | 605,988,418       |       | $ | 584,262,690 |   |

 

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

 

2

----

 

**Beach First National Bancshares, Inc, and Subsidiaries**

**Consolidated Condensed Statements of Income**

(Unaudited)

 
| ** **                                                            | ** ** | **Six Months Ended** | ** ** | **Three Months Ended** | ** ** |
|-----------------------------------------------------------------------|------------|--------------------------------|------------|----------------------------------|------------|
| ** **                                                            | ** ** | **June 30,**              | ** ** | **June 30,**                | ** ** |
| ** **                                                            | ** ** | **2008**                       | ** ** | **2007**                         | ** ** | **2008** | ** ** | **2007** | ** ** |
| **Interest income**                                                   |       |                           |       |                             |       |   |   |   |   |
| Interest and fees on loans                                            |       | $                              | 19,463,997 |                             | $          | 20,024,549 |   | $ | 9,304,543 |   | $ | 10,324,311 |   |
| Investment securities                                                 |       | 1,906,342                      |       | 1,849,572                        |       | 907,898 |   | 944,729 |   |
| Fed funds sold and short term investments                             |       | 86,885                         |       | 144,570                          |       | 15,283 |   | 72,093 |   |
| Other                                                                 |       | 9,445                          |       | 11,860                           |       | 4,133 |   | 5,961 |   |
| Total interest income                                                 |       | 21,466,669                     |       | 22,030,551                       |       | 10,231,857 |   | 11,347,094 |   |
|                                                                  |       |                           |       |                             |       |   |   |   |   |
| **Interest expense**                                                  |       |                           |       |                             |       |   |   |   |   |
| Deposits                                                              |       | 9,659,697                      |       | 9,199,762                        |       | 4,562,572 |   | 4,732,478 |   |
| Advances from the FHLB, federal funds  purchased and other borrowings |       | 1,452,282                      |       | 1,188,302                        |       | 709,347 |   | 651,344 |   |
| Junior subordinated debentures                                        |       | 311,726                        |       | 396,982                          |       | 137,348 |   | 199,514 |   |
| Total interest expense                                                |       | 11,423,705                     |       | 10,785,046                       |       | 5,409,267 |   | 5,583,336 |   |
| Net interest income                                                   |       | 10,042,964                     |       | 11,245,505                       |       | 4,822,590 |   | 5,763,758 |   |
|                                                                  |       |                           |       |                             |       |   |   |   |   |
| **Provision for loan losses**                                         |       | 1,314,000                      |       | 622,000                          |       | 568,000 |   | 320,800 |   |
| Net interest income after provision for  possible loan losses         |       | 8,728,964                      |       | 10,623,505                       |       | 4,254,590 |   | 5,442,958 |   |
|                                                                  |       |                           |       |                             |       |   |   |   |   |
| **Noninterest income**                                                |       |                           |       |                             |       |   |   |   |   |
| Service fees on deposit accounts                                      |       | 209,477                        |       | 278,023                          |       | 55,433 |   | 142,535 |   |
| Mortgage production related income                                    |       | 1,663,699                      |       | 3,287,803                        |       | 923,698 |   | 1,515,131 |   |
| Merchant income                                                       |       | 384,829                        |       | 259,226                          |       | 231,142 |   | 162,661 |   |
| Income from cash value life insurance                                 |       | 72,583                         |       | 74,416                           |       | 39,056 |   | 37,657 |   |
| Gain on sale of fixed asset                                           |       | 220                            |       | 4,780                            |       | — |   | 930 |   |
| Other income                                                          |       | 516,053                        |       | 583,014                          |       | 217,509 |   | 341,725 |   |
| Total noninterest income                                              |       | 2,846,861                      |       | 4,487,262                        |       | 1,466,838 |   | 2,200,639 |   |
|                                                                  |       |                           |       |                             |       |   |   |   |   |
| **Noninterest expense**                                               |       |                           |       |                             |       |   |   |   |   |
| Salaries and wages                                                    |       | 3,673,688                      |       | 4,347,295                        |       | 1,975,807 |   | 2,014,863 |   |
| Employee benefits                                                     |       | 799,853                        |       | 807,422                          |       | 398,645 |   | 406,516 |   |
| Supplies and printing                                                 |       | 104,916                        |       | 93,086                           |       | 52,649 |   | 41,904 |   |
| Advertising and public relations                                      |       | 318,942                        |       | 317,052                          |       | 136,542 |   | 173,446 |   |
| Professional fees                                                     |       | 339,160                        |       | 272,824                          |       | 196,724 |   | 144,836 |   |
| Depreciation and amortization                                         |       | 550,206                        |       | 522,961                          |       | 281,269 |   | 270,363 |   |
| Occupancy                                                             |       | 806,242                        |       | 865,545                          |       | 395,627 |   | 401,262 |   |
| Data processing fees                                                  |       | 636,525                        |       | 353,062                          |       | 450,225 |   | 181,605 |   |
| Mortgage production related expenses                                  |       | 379,018                        |       | 816,378                          |       | 209,351 |   | 435,681 |   |
| Merchant Processing                                                   |       | 406,182                        |       | 280,026                          |       | 248,505 |   | 168,197 |   |
| Other operating expenses                                              |       | 1,661,621                      |       | 1,293,140                        |       | 852,257 |   | 768,941 |   |
| Total noninterest expenses                                            |       | 9,676,353                      |       | 9,968,791                        |       | 5,197,601 |   | 5,007,614 |   |
| Income before income taxes                                            |       | 1,899,472                      |       | 5,141,976                        |       | 523,827 |   | 2,635,983 |   |
| **Income tax expense**                                                |       | 679,252                        |       | 1,831,159                        |       | 187,320 |   | 937,550 |   |
| Net income                                                            |       | $                              | 1,220,220  |                             | $          | 3,310,817 |   | $ | 336,507 |   | $ | 1,698,433 |   |
|                                                                  |       |                           |       |                             |       |   |   |   |   |
| **Basic net income per common share**                                 |       | $                              | 0.25       |                             | $          | 0.69 |   | $ | 0.07 |   | $ | 0.35 |   |
| **Diluted net income per common share**                               |       | $                              | 0.25       |                             | $          | 0.67 |   | $ | 0.07 |   | $ | 0.34 |   |
| Weighted average common shares outstanding                            |       |                           |       |                             |       |   |   |   |   |
| Basic                                                                 |       | 4,845,018                      |       | 4,793,924                        |       | 4,845,018 |   | 4,818,556 |   |
| Diluted                                                               |       | 4,914,943                      |       | 4,949,533                        |       | 4,903,612 |   | 4,967,124 |   |

 

Theaccompanying notes are an integral part of these consolidated condensedfinancial statements.

 

3

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**BeachFirst National Bancshares, Inc. and Subsidiaries**

**ConsolidatedCondensed Statements of Changes in Shareholders’ Equity and ComprehensiveIncome**

(Unaudited)

 
| ** **                                | ** ** | ** **            | ** ** | ** **  | ** ** | ** **   | ** ** | ** **        | ** ** | **Accumulated**        | ** ** | ** ** | ** ** |
|-------------------------------------------|------------|-----------------------|------------|-------------|------------|--------------|------------|-------------------|------------|------------------------|------------|------------|------------|
| ** **                                | ** ** | ** **            | ** ** | ** **  | ** ** | ** **   | ** ** | ** **        | ** ** | **Other**              | ** ** | **Total**  | ** ** |
| ** **                                | ** ** | **Common stock** | ** ** | **Paid-in** | ** ** | **Retained** | ** ** | **Comprehensive** | ** ** | **Shareholders’** | ** ** |
| ** **                                | ** ** | **Shares**            | ** ** | **Amount**  | ** ** | **Capital**  | ** ** | **Earnings**      | ** ** | **Income (Loss)**      | ** ** | **Equity** | ** ** |
|                                      |       |                  |       |        |       |         |       |              |       |                   |       |       |       |
| Balance, January 1, 2007             |       | 4,768,413             |       | $           | 4,768,413  |         | $          | 28,657,576        |       | $                      | 12,706,795 |       | $          | (673,205 | ) | $ | 45,459,579 |   |
| Net income                                |       | —                |       | —      |       | —       |       | 3,310,817         |       | —                 |       | 3,310,817  |       |
| Other comprehensive income, net of taxes: |       |                  |       |        |       |         |       |              |       |                   |       |       |       |
| Unrealized loss on investment securities  |       | —                |       | —      |       | —       |       | —            |       | (570,694               | )          | (570,694   | )          |
| Unrealized gain on interest rate swap     |       | —                |       | —      |       | —       |       | —            |       | 212,529                |       | 212,529    |       |
| Comprehensive income                      |       | —                |       | —      |       | —       |       | —            |       | —                 |       | 2,952,652  |       |
| Stock based compensation expense          |       | —                |       | —      |       | —       |       | —            |       | —                 |       | —     |       |
| Exercise of stock options                 |       | 68,503                |       | 68,503      |       | 393,375      |       | —            |       | —                 |       | 461,878    |       |
| Balance, June 30, 2007               |       | 4,836,916             |       | $           | 4,836,916  |         | $          | 29,050,951        |       | $                      | 16,017,612 |       | $          | (1,031,370 | ) | $ | 48,874,109 |   |

 
| ** **                                | ** ** | ** **            | ** ** | ** **  | ** ** | ** **   | ** ** | ** **        | ** ** | **Accumulated**        | ** ** | ** ** | ** ** |
|-------------------------------------------|------------|-----------------------|------------|-------------|------------|--------------|------------|-------------------|------------|------------------------|------------|------------|------------|
| ** **                                | ** ** | ** **            | ** ** | ** **  | ** ** | ** **   | ** ** | ** **        | ** ** | **Other**              | ** ** | **Total**  | ** ** |
| ** **                                | ** ** | **Common stock** | ** ** | **Paid-in** | ** ** | **Retained** | ** ** | **Comprehensive** | ** ** | **Shareholders’** | ** ** |
| ** **                                | ** ** | **Shares**            | ** ** | **Amount**  | ** ** | **Capital**  | ** ** | **Earnings**      | ** ** | **Income (Loss)**      | ** ** | **Equity** | ** ** |
|                                      |       |                  |       |        |       |         |       |              |       |                   |       |       |       |
| Balance, January 1, 2008             |       | 4,845,018             |       | $           | 4,845,018  |         | $          | 29,494,912        |       | $                      | 18,583,425 |       | $          | (345,305 | ) | $ | 52,578,050 |   |
| Net income                                |       | —                |       | —      |       | —       |       | 1,220,220         |       | —                 |       | 1,220,220  |       |
| Other comprehensive income, net of taxes: |       |                  |       |        |       |         |       |              |       | —                 |       | —     |       |
| Unrealized loss on investment securities  |       | —                |       | —      |       | —       |       | —            |       | (702,936               | )          | (702,936   | )          |
| Unrealized loss on interest rate swap     |       | —                |       | —      |       | —       |       | —            |       | (3,890                 | )          | (3,890     | )          |
| Comprehensive income                      |       | —                |       | —      |       | —       |       | —            |       | —                 |       | 513,394    |       |
| Stock based compensation expense          |       | —                |       | —      |       | 8,838        |       | —            |       | —                 |       | 8,838      |       |
| Exercise of stock options                 |       | —                |       | —      |       | —       |       | —            |       | —                 |       | —     |       |
| Balance, June 30, 2008               |       | 4,845,018             |       | $           | 4,845,018  |         | $          | 29,503,750        |       | $                      | 19,803,645 |       | $          | (1,052,131 | ) | $ | 53,100,282 |   |

 

Theaccompanying notes are an integral part of these consolidated condensedfinancial statements.

 

4

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**Beach First National Bancshares, Inc.and Subsidiaries**

**Consolidated Condensed Statementsof Cash Flows**

 
| ** **                                                                                   | ** ** | ** **                     | ** ** | **For the Year** | ** ** |
|----------------------------------------------------------------------------------------------|------------|--------------------------------|------------|----------------------------|------------|
| ** **                                                                                   | ** ** | **Six Months Ended** | ** ** | **Ended**                  | ** ** |
| ** **                                                                                   | ** ** | **June 30,**              | ** ** | **December 31,**      | ** ** |
| ** **                                                                                   | ** ** | **2008**                       | ** ** | **2007**                   | ** ** | **2007** | ** ** |
| ** **                                                                                   | ** ** | **(unaudited)**                | ** ** | **(unaudited)**            | ** ** | **(audited)** | ** ** |
| **Operating activities**                                                                     |       |                           |       |                       |       |   |   |
| Net income                                                                                   |       | $                              | 1,220,220  |                       | $          | 3,310,817 |   | $ | 5,876,630 |   |
| Adjustments to reconcile net income to net cash  provided by (used in) operating activities: |       |                           |       |                       |       |   |   |
| Depreciation and amortization                                                                |       | 550,206                        |       | 522,961                    |       | 1,060,255 |   |
| Proceeds from sale of mortgages held for  sale                                               |       | 65,395,286                     |       | 158,623,684                |       | 231,970,200 |   |
| Disbursements for mortgages held for sale                                                    |       | (65,447,757                    | )          | (158,552,816               | )          | (225,967,597 | ) |
| Discount accretion and premium amortization                                                  |       | (194,662                       | )          | 85,822                     |       | (153,431 | ) |
| Deferred income taxes                                                                        |       | —                         |       | 616,493                    |       | (673,024 | ) |
| Provisions for loan losses                                                                   |       | 1,314,000                      |       | 622,000                    |       | 2,045,600 |   |
| Recourse reserve provision                                                                   |       | 10,000                         |       | 50,000                     |       | 205,000 |   |
| Loss (gain) on sale of property and  equipment                                               |       | (220                           | )          | 22,773                     |       | (6,324 | ) |
| (Gain) on sale of investment securities                                                      |       | —                         |       | —                     |       | (7,904 | ) |
| (Gain) on sale of other real estate owned                                                    |       | 2,890                          |       | 60,497                     |       | — |   |
| Stock based compensation expense                                                             |       | 8,838                          |       | —                     |       | 7,643 |   |
| (Increase) decrease in other assets                                                          |       | 382,834                        |       | (1,913,593                 | )          | (1,713,779 | ) |
| Increase (decrease) in other liabilities                                                     |       | (1,889,047                     | )          | 1,961,160                  |       | 1,994,064 |   |
| Net cash provided by (used in) operating  activities                                         |       | 1,352,588                      |       | 5,409,798                  |       | (14,538,066 | ) |
| **Investing activities**                                                                     |       |                           |       |                       |       |   |   |
| Proceeds from paydowns of investment  securities                                             |       | 3,779,062                      |       | —                     |       | 4,988,852 |   |
| Proceeds from sale of investment securities                                                  |       | 21,195,000                     |       | —                     |       | 8,623,625 |   |
| Purchase of investment securities                                                            |       | (29,226,455                    | )          | (1,182,354                 | )          | (10,077,003 | ) |
| Purchase of FHLB stock                                                                       |       | (149,800                       | )          | (919,700                   | )          | (919,700 | ) |
| Increase in loans, net                                                                       |       | (54,691,710                    | )          | (48,687,115                | )          | (107,223,880 | ) |
| Purchase of life insurance contracts                                                         |       | (61,218                        | )          | (63,749                    | )          | (130,221 | ) |
| Purchase of property and equipment                                                           |       | (893,969                       | )          | (976,599                   | )          | (2,462,068 | ) |
| Proceeds from sale of property and  equipment                                                |       | 220                            |       | —                     |       | 6,324 |   |
| Proceeds from sale of other real estate  owned                                               |       | 1,782,757                      |       | —                     |       | 1,679,229 |   |
| Net cash used in investing activities                                                        |       | (58,266,113                    | )          | (51,829,517                | )          | (105,514,842 | ) |
| **Financing activities**                                                                     |       |                           |       |                       |       |   |   |
| Repayment of advances from Federal Home  Loan Bank                                           |       |                           |       |                       |       | (5,000,000 | ) |
| Advances from Federal Home Loan Bank                                                         |       | —                         |       | 17,500,000                 |       | 22,500,000 |   |
| Increase (decrease) in Federal funds  purchased                                              |       | (3,998,900                     | )          | —                     |       | 11,382,100 |   |
| Net increase in deposits                                                                     |       | 69,074,679                     |       | 41,913,507                 |       | 47,841,216 |   |
| Proceeds from exercise of stock options                                                      |       | —                         |       | 461,878                    |       | 520,733 |   |
| Tax benefit of stock options                                                                 |       | —                         |       | —                     |       | 385,565 |   |
| Repayments of other borrowings                                                               |       | (160,749                       | )          | —                     |       | (303,772 | ) |
| Net cash provided by financing activities                                                    |       | 64,915,030                     |       | 59,875,385                 |       | 77,325,842 |   |
|                                                                                         |       |                           |       |                       |       |   |   |
| Net increase (decrease) in cash and cash  equivalents                                        |       | 8,001,505                      |       | 13,455,666                 |       | (13,650,934 | ) |
|                                                                                         |       |                           |       |                       |       |   |   |
| **Cash and cash equivalents beginning of  period**                                           |       | $                              | 5,558,678  |                       | $          | 19,209,612 |   | $ | 19,209,612 |   |
| **Cash and cash equivalents end of period**                                                  |       | $                              | 13,560,183 |                       | $          | 32,665,278 |   | $ | 5,558,678 |   |
| **Cash paid for**                                                                            |       |                           |       |                       |       |   |   |
| Income taxes                                                                                 |       | $                              | 1,246,215  |                       | $          | 1,831,159 |   | $ | 3,851,653 |   |
| Interest                                                                                     |       | $                              | 11,872,371 |                       | $          | 10,345,881 |   | $ | 22,042,809 |   |

 

The accompanying notes are an integral partof these consolidated condensed financial statements.

 

5

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**Beach First National Bancshares, Inc.**

**Notes to Consolidated Condensed FinancialStatements (Unaudited)**

 

**1.****                   Basis ofPresentation**

 

The accompanying consolidated condensedfinancial statements for Beach First National Bancshares, Inc. (“Company”)were prepared in accordance with instructions for Form 10-Q and,therefore, do not include all disclosures necessary for a complete presentationof financial condition, results of operations, and cash flows in conformitywith generally accepted accounting principles. All adjustments, consisting only of normal recurring accruals, whichare, in the opinion of management, necessary for fair presentation of theinterim consolidated financial statements have been included.  The results of operations for the six monthperiod ended June 30, 2008 are not necessarily indicative of the resultsthat may be expected for the entire year. These consolidated financial statements do not include all disclosuresrequired by generally accepted accounting principles and should be read inconjunction with the Company’s audited consolidated financial statements andrelated notes for the year ended December 31, 2007.

 

Certainpreviously reported amounts have been reclassified to conform to the currentyear’s presentations.  Such changes hadno effect on previously reported net income or shareholders’ equity.

 

**2.****                   Principlesof Consolidation**

 

The accompanying consolidated condensedfinancial statements include the accounts of the Company and its subsidiaries,Beach First National Bank and BFNM Building, LLC (“LLC”) (See No. 4  “Investment in LLC” below).  The Company also owns two grantor trusts,Beach First National Trust and Beach First National Trust II.  All significant inter-company items andtransactions have been eliminated in consolidation.  In accordance with current accountingguidance, the financial statements of the trusts have not been included in theCompany’s financial statements.

 

**3.****              Earnings PerShare**

 

The Companycalculates earnings per share in accordance with Statement of FinancialAccounting Standard No. 128, “Earnings per Share” (“SFAS 128”).  SFAS 128 specifies the computation,presentation, and disclosure requirements for earnings per share (EPS) forentities with publicly held common stock or potential common stock such asoptions, warrants, convertible securities, or contingent stock agreements ifthose securities trade in a public market.

 

This standard specifies computation andpresentation requirements for both basic EPS and, for entities with complexcapital structures, diluted EPS.  Basicearnings per share are computed by dividing net income by the weighted averagecommon shares outstanding.  Dilutedearnings per share is similar to the computation of basic earnings per shareexcept that the denominator is increased to include the number of additionalcommon shares that would have been outstanding if the dilutive potential commonshares had been issued.  The dilutiveeffect of options outstanding under the Company’s stock option plan isreflected in diluted earnings per share by application of the treasury stockmethod.

 

**RECONCILIATION OF THE NUMERATORS AND DENOMINATORS OF THE BASIC ANDDILUTED EPS COMPUTATIONS:**

 
| ** **                                                   | ** ** | **For the Six Months Ended** | ** **    | **For the Year Ended** | ** ** |
|--------------------------------------------------------------|------------|--------------------------------------------------|---------------|---------------------------------------|------------|
| ** **                                                   | ** ** | **June 30,**                                | ** **    | **June 30,**                     | ** ** | **December 31,** | ** ** |
| ** **                                                   | ** ** | **2008**                                         | ** **    | **2007**                              | ** ** | **2007** | ** ** |
| **Basic earnings per share:**                                |       |                                             |          |                                  |       |   |   |
| Net income available to common shareholders                  | ** ** | **$**                                            | **1,220,220** | ** **                            | **$**      | **3,310,817** | ** ** | **$** | **5,876,630** | ** ** |
|                                                         | ** ** | ** **                                       | ** **    | ** **                            | ** ** | ** ** | ** ** |
| Average common shares outstanding – basic               |       | 4,845,018                                        |          | 4,793,924                             |       | 4,817,911 |   |
|                                                         |       |                                             |          |                                  |       |   |   |
| Basic earnings per share                                     | ** ** | **$**                                            | **0.25**      | ** **                            | **$**      | **0.69** | ** ** | **$** | **1.22** | ** ** |
|                                                         | ** ** | ** **                                       | ** **    | ** **                            | ** ** | ** ** | ** ** |
| **Diluted earnings per share:**                              |       |                                             |          |                                  |       |   |   |
| Net income available to common shareholders                  | ** ** | **$**                                            | **1,220,220** | ** **                            | **$**      | **3,310,817** | ** ** | **$** | **5,876,630** | ** ** |
|                                                         | ** ** | ** **                                       | ** **    | ** **                            | ** ** | ** ** | ** ** |
| Average common shares outstanding – basic               |       | 4,845,018                                        |          | 4,793,924                             |       | 4,817,911 |   |
|                                                         |       |                                             |          |                                  |       |   |   |
| Incremental shares from assumed conversion of  stock options |       | 69,925                                           |          | 155,609                               |       | 159,156 |   |
|                                                         |       |                                             |          |                                  |       |   |   |
| Average common shares outstanding – diluted             |       | 4,914,943                                        |          | 4,949,533                             |       | 4,977,067 |   |
|                                                         |       |                                             |          |                                  |       |   |   |
| Diluted earnings per share                                   | ** ** | **$**                                            | **0.25**      | ** **                            | **$**      | **0.67** | ** ** | **$** | **1.18** | ** ** |

 

6

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**4.  Investmentin LLC**

 

The LLC is a partnership with our legalcounsel, Nelson Mullins Riley & Scarborough LLP (NMRS), for purposesof acquiring a parcel of land and constructing an office building on theproperty.  The Company owns two-thirds ofthe LLC and NMRS owns the remaining one-third. The building is a three-story, 46,066 square foot office buildinglocated on 3.5 acres at the southwest corner of Robert M. Grissom Parkway and38th Avenue North in Myrtle Beach, South Carolina.  The Company leases two-thirds of the building(approximately 30,000 square feet) from the LLC.  Because the Company occupies approximately12,500 square feet of space, it intends to lease the other 17,500 square feetof its portion to outside tenants.  NMRSalso leases one-third of the building from the LLC.  As of June 30, 2008, 4,700 square feetis available for lease.

 

Uponcompletion of construction, the construction financing note from thethird-party lender was converted to a term loan payable by the LLC to thethird-party bank and is secured by the building. The loan requires 107installments of principal and interest based on a fifteen year amortization,with all remaining principal and interest due on June 15, 2015. Theinterest rate is variable based on one-month LIBOR plus 1.40%. The outstandingbalance on the loan at June 30, 2008 is $6,745,299 and is shown as otherborrowings in the accompanying balance sheet.

 

**5.** **Derivative Financial Instruments – Interest Rate SWAP**

 

The Company has two types of derivative instruments. One is an interestrate swap on the LLC building loan, which is discussed below, and the other iscreated as part of residential mortgage lending activities when the Companyenters into a rate-locked loan commitment with a prospective borrower and, atthe same time, arranges to sell the loan to an investor. The Company hasdetermined that this latter derivative activity is not material.

 

In June 2005, the LLC obtained a $7,235,000 loan from a bank forthe construction of the building that serves as the Company’s corporate office.The interest on this loan floats based on LIBOR plus 1.40%. At the same time,the LLC entered into an interest rate swap agreement in the same notionalamount as a risk management tool to lock the interest cash outflows on thefloating-rate debt. Under the terms of the swap (which expires upon maturity ofthe building loan in June 15, 2015), the Company pays monthly a fixedinterest rate of 4.62% and receives interest payments equal to LIBOR. As thereare no differences between the critical terms of the interest rate swap and thehedged debt obligation, the Company assumes no ineffectiveness in the hedgingrelationship.

 

The estimated fair value of this agreement at June 30, 2008 was aliability of approximately $130,015, which is included in the Company’s balancesheet. Changes in the fair value are recorded as a separate component in othercomprehensive income.   The fixed rate of4.62% paid under the swap agreement, when added to the loan’s margin aboveLIBOR of 1.40%, converts the building loan’s interest (and cash flows) from avariable rate to a fixed rate of 6.12%, resulting in interest expense of$209,764 and $217,515 for the six months ended June 30, 2008 and 2007,respectively.

 

The Company formally documents all relationships between hedginginstruments and hedged items, as well as its risk-management objective andstrategy for undertaking various hedged transactions. This process includeslinking all derivatives that are designated as fair value or cash flow hedgesto specific assets and liabilities on the balance sheet or to specific firmcommitments or forecasted transactions. The Company also formally assesses,both at the hedge’s inception and on an ongoing basis, whether the derivativesthat are used in hedging transactions are highly effective in offsettingchanges in fair values or cash flows of hedged items. When it is determinedthat a derivative is not highly effective as a hedge or that it has ceased tobe a highly effective hedge, the Company discontinues hedge accountingprospectively, as discussed below.

 

The Company discontinues hedge accounting prospectively when (1) itis determined that the derivative is no longer effective in offsetting changesin cash flows of a hedged item (including forecasted transactions); (2) thederivative expires or is sold, terminated, or exercised; (3) thederivative is no longer designated as a hedge instrument because is it unlikelythat a forecasted transaction will occur; or (4) management determinesthat designation of the derivative as a hedge instrument is no longerappropriate.

 

When hedge accounting is discontinued because it is probable that aforecasted transaction will not occur, the derivative will continue to be carriedon the balance sheet at its fair value, and gains and losses that wereaccumulated in other comprehensive income will be recognized immediately inearnings. In all other situations in which hedge accounting is discontinued,the derivative will be carried at its fair value on the balance sheet, withsubsequent changes in its fair value recognized in current earnings.

 

7

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**6.** **Fair Value Measurements**

 

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

 

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

 

**Level 1:**Quoted prices in active markets foridentical assets or liabilities. Level 1 assets and liabilities include debtand equity securities and derivative contracts that are traded in an activeexchange market.  Level 1 securities includethose traded on an active exchange, such as the New York Stock Exchange, U.S.Treasury securities that are traded by dealers or brokers in activeover-the-counter markets, and money market funds.

 

**Level 2:**Observable inputs other than Level 1prices such as quoted prices for similar assets or liabilities; quoted pricesin markets that are not active; or other inputs that are observable or can becorroborated by observable market data for substantially the full term of theassets or liabilities. Level 2 assets and liabilities include debt securitieswith quoted prices that are traded less frequently than exchange-tradedinstruments and derivative contracts whose value is determined using a pricingmodel with inputs that are observable in the market or can be derivedprincipally from or corroborated by observable market data. Level 2 securitiesinclude mortgage-backed securities and debentures issued by governmentsponsored entities, municipal bonds, and corporate debt securities. Thiscategory generally includes certain derivative contracts and impaired loans.

 

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

 

Assets and liabilities measured at fair value on a recurring basis areas follows as of June 30, 2008:

 
| ** **                               | ** ** | **Quoted Market   Price in Active   Markets   (Level 1)** | ** ** | **Significant Other  Observable  Inputs  (Level 2)** | ** ** | **Significant  Unobservable  Inputs  (Level 3)** | ** ** |
|------------------------------------------|------------|----------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------|------------|-------------------------------------------------------|------------|
| Available-for-sale investment securities |       | —                                                                                       |       | $                                                              | 69,059,993 |                                                  | —     |   |
|                                     |       |                                                                                         |       |                                                           |       |                                                  |       |
| Mortgage loans held for sale             |       | —                                                                                       |       | $                                                              | 6,528,090  |                                                  | —     |   |
|                                     |       |                                                                                         |       |                                                           |       |                                                  |       |
| Interest rate swap agreement (liability) |       | —                                                                                       |       | (130,015                                                       | )          | —                                                |       |
| Total                                    |       | $                                                                                            | —     |                                                           | $          | 75,458,068                                            |       | $ | — |   |
|                                          |            |                                                                                              |            |                                                                |            |                                                       |            |  |  |  |

 

The Company is predominantly an asset based lender with real estateserving as collateral on a substantial majority of loans. Loans which aredeemed to be impaired are primarily valued at the fair values of the underlyingreal estate collateral. Such fair values are obtained using independentappraisals, which the Company considers to be level 2 inputs. The aggregatecarrying amount of impaired loans at June 30, 2008 was $13,003,335.  The Company has no assets or liabilitieswhose fair values are measured using level 3 inputs.

 

FASB Staff Position No. FAS 157-2 delays the implementation ofSFAS 157 until the first quarter of 2009 with respect to goodwill, otherintangible assets, real estate and other assets acquired through foreclosureand other non-financial assets measured at fair value on a nonrecurring basis.

 

8

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

 

Thefollowing is our discussion and analysis of certain significant factors thathave affected our financial position and operating results and those of oursubsidiary, Beach First National Bank, during the periods included in theaccompanying financial statements.  Thiscommentary should be read in conjunction with the financial statements and therelated notes and the other statistical information included in this report.

 

Thisreport contains “forward-looking statements” relating to, without limitation,future economic performance, plans and objectives of management for futureoperations, and projections of revenues and other financial items that arebased on the beliefs of management, as well as assumptions made by andinformation currently available to management. The words “may,” “will,” “anticipate,” “should,” “would,” “believe,”“contemplate,” “expect,” “estimate,” “continue,” and “intend,” as well as othersimilar words and expressions of the future, are intended to identifyforward-looking statements.  Our actualresults may differ materially from the results discussed in the forward-lookingstatements, and our operating performance each quarter is subject to variousrisks and uncertainties that are discussed in detail in our filings with theSecurities and Exchange Commission (the “SEC”), including, without limitation:

 

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

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

·                  changes inpolitical conditions or the legislative or regulatory environment;

·                  general economicconditions, either nationally or regionally and especially in our primaryservice area, continuing to be weak resulting in, among other things, adeterioration in credit quality;

·                  changesoccurring in business conditions and inflation;

·                  changes inmanagement;

·                  changes intechnology;

·                  changes indeposit flows;

·                  the level ofallowance for loan loss;

·                  the rate ofdelinquencies and amounts of charge-offs;

·                  the rates ofloan growth;

·                  adverse changesin asset quality and resulting credit risk-related losses and expenses;

·                  higher thananticipated levels of defaults on loans;

·                  the amount ofour real estate-based loans and the weakness in the commercial real estatemarket:

·                  misperceptionsby depositors about the safety of their deposits;

·                  changes inmonetary and tax policies;

·                  loss of consumerconfidence and economic disruptions resulting from terrorist activities;

·                  changes in thesecurities markets;

·                  other risks anduncertainties detailed from time to time in our filings with the SEC; and

·                  naturaldisasters, such as a hurricane or flooding in our footprint.

 

**Critical Accounting Policies**

 

We haveadopted various accounting policies that govern the application of accountingprinciples generally accepted in the United States and with general practiceswithin the banking industry in the preparation of our consolidated financialstatements.  Our significant accountingpolicies are described in the footnotes to our audited consolidated financialstatements as of December 31, 2007 as filed on our Form 10-K.

 

Certain accounting policies involve significant judgments andassumptions by management which has a material impact on the carrying value ofcertain assets and liabilities.  Weconsider such accounting policies to be critical accounting policies.  The judgments and assumptions we use arebased on historical experience and other factors, which are believed to bereasonable under the circumstances.  Becauseof the nature of the judgments and assumptions we make, actual results coulddiffer from these judgments and estimates. These differences could have a material impact on our carrying values ofassets and liabilities and our results of operations.

 

We believe the allowance for loan losses is the critical accountingpolicy that requires the most significant judgment and estimates used inpreparation of our consolidated financial statements.  Some of the more critical judgmentssupporting the amount of our allowance for loan losses include judgments aboutthe credit worthiness of borrowers, the estimated value of the underlyingcollateral, the assumptions about cash flow, determination of loss factors forestimating credit losses, the impact of current events, and conditions, andother factors impacting the level of probable inherent losses.  Under different conditions or using differentassumptions, the actual amount of credit losses incurred by us may be differentfrom management’s estimates provided in our consolidated financial statements.  Refer to the subsection entitled 

 

9

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“Allowance for Loan Losses”below for a more complete discussion of our processes and methodology fordetermining our allowance for loan losses.

 

**Overview**

 

The following discussion describes our results of operations for thequarter ended June 30, 2008 as compared to the quarter ended June 30,2007, as well as results for the six months ended June 30, 2008 and 2007,along with our financial condition as of June 30, 2008 as compared to December 31,2007.  Like most community banks, wederive most of our income from interest we receive on our portfolio loans andinvestments.  Our primary source of fundsfor making these loans and investments is our deposits, on which we payinterest.  Consequently, one of the keymeasures of our success is our amount of net interest income, or the differencebetween the income on our interest-earning assets, such as loans andinvestments, and the expense on our interest-bearing liabilities, such asdeposits.  Another key measure is thespread between the yield we earn on these interest-earning assets and the ratewe pay on our interest-bearing liabilities.

 

Ofcourse, there are risks inherent in all loans, so we maintain an allowance forloan losses to absorb probable losses on existing loans that may becomeuncollectible.  We establish and maintainthis allowance by charging a provision for loan losses against our operatingearnings.  In the following section, wehave included a detailed discussion of this process.

 

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

 

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

#### ** **

#### **Results of Operations**

#### ** **

***Earnings Review***

 

Our net income was$1,220,220 or $0.25 diluted net income per common share, for the six monthsended June 30, 2008 as compared to $3,310,817, or $0.67 diluted net incomeper common share, for the same period in 2007. Our net income was $336,507 or $0.07 per diluted common share, for thethree month ended June 30, 2008 as compared to net income of $1,698,433 or$0.34 per diluted common share for the same period in 2007.  The decrease in net income is attributed tothe challenging financial environment facing all banks.  The net interest margin declined to 3.27% atJune 30, 2008, due in part to rate reductions since September 2007 of3.25% in the prime lending rate. We expect continued pressure on the netinterest margin throughout 2008.  Thereturn on average assets for the six month period ended June 30, 2008 was0.38% as compared to 1.20% for the same period in 2007.  The return on average equity was 4.56% forthe six month period ended June 30, 2008 versus 14.12% for the same periodin 2007.

 

Over the past 24 months, real estate values have fallen and the rate ofdefault on mortgage loans has risen. There has been a resulting disruption in secondary markets formortgages, especially in non-conforming loan products.  The Federal Reserve Bank has reducedshort-term rates to stimulate the economy. As a result of inflationary pressures coming from oil, food and certainother sectors, the long end of the yield curve has not dropped as fast as theshort end, resulting in a steepening of the yield curve.  The Company has been affected by these eventsin areas such as mortgage banking; land acquisition, development andconstruction lending; and consumer lending. The Company has seen an increase in delinquencies and non-performingloans during 2007 and the first half of 2008, and it continues to monitor itsportfolio of real estate loans closely. The reduction in short-term rates has adversely impacted the Company’snet interest margin.  In the currenteconomic, market and credit environment, there can be no assurance that theCompany’s portfolio will continue to perform at current levels.

 

*Net Interest Income*

 

Our primarysource of revenue is net interest income, which represents the differencebetween the income on interest-earning assets and expense on interest-bearingliabilities.  During the first six monthsof 2008, net interest income decreased 10.7% to $10,042,964 from $11,245,505for the same period of 2007. For the three months ended June 30, 2008, netinterest income decreased 16.3% to $4,822,590 from $5,763,758 during thecomparable period of 2007.  The declinein net interest income for the first six months of 2008 resulted from adecrease of $563,882 in interest income offset by an increase in interestexpense of $638,659.  Our level of netinterest income is determined by the level of our earning assets 

 

10

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and our net interest margin.  Theimpact on net interest income from the continued growth of our loan portfoliowas offset by the decrease in the prime lending rate which reduced our netinterest margin.  Average total loansincreased from $442.2 million in the first six months of 2007 to $537.6 millionin the same period in 2008.  Averagetotal loans increased $78.9 million from $458.7 million for the year ended December 31,2007 as compared to $537.6 million for the six months ended June 30,2008.  In addition, average securitiesdecreased to $73.1 million in the first six months of 2008 compared to $73.7million for the first six months of 2007, and decreased $0.3 million from $73.4million for the year ended December 31, 2007.  Net interest spread, the difference betweenthe rate we earn on interest-earning assets and the rate we pay oninterest-bearing liabilities, was 3.78% in the first six months of 2007compared to 2.84% during the same period of 2008, and 3.63% for the year ended December 31,2007.  The net interest margin was 3.27%for the six month period ended June 30, 2008 compared to 4.35% for thesame period of 2007, and 4.20% for the year ended December 31, 2007.  The decline in the net interest spread andthe net interest margin can be attributed to the challenging financialenvironment facing banks including the reduction in the prime lending rate andan increase in nonaccrual loans.  Becausewe are asset-sensitive over a one year period, the rate cuts immediately impactapproximately 60% of our portfolio loans. Since our deposit rates have notdeclined as quickly, this has put pressure on our net interest margin.  We anticipate that some of this pressure maybe eased as we are able to re price our deposits to current market rates. Forexample, over the next three months, one-third of our CD portfolio willmature.  These CDs currently yieldapproximately 4.08% and we anticipate replacing these CDs with lower ratedeposits.  However, there is risk we maynot be able to replace these CDs with lower rate deposits, or replace all ofthese deposits at all, especially given our intent to reduce our reliance onbrokered deposits and not to accept or renew additional brokered deposits inthe near future.

 

The following table sets forth, for the periods indicated, informationrelated to our average balance sheet and average yields on assets and averagerates paid on liabilities.  The yield orrates were derived by dividing annualized income or expense by the averagebalance of the corresponding assets or liabilities.  The average balances are calculated from thedaily balances from the periods indicated.

 
| ** **                                                                 | ** ** | **Average Balances, Income and Expenses, and Rates** | ** **  |
|----------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------|-------------|
| ** **                                                                 | ** ** | **For the six months ended June 30,**                | ** **  |
| ** **                                                                 | ** ** | ** **                                                                         | ** **  | **2008** | ** ** | ** ** | ** ** | ** ** | ** ** | **2007** | ** ** | ** ** | ** ** |
| ** **                                                                 | ** ** | **Average**                                                                        | ** **  | **Income/** | ** ** | **Yield/** | ** ** | **Average** | ** ** | **Income/** | ** ** | **Yield/** | ** ** |
| ** **                                                                 | ** ** | **Balance**                                                                        | ** **  | **Expense** | ** ** | **Rate** | ** ** | **Balance** | ** ** | **Expense** | ** ** | **Rate** | ** ** |
|                                                                       |       |                                                                               |        |   |   |   |   |   |   |   |   |   |   |
| Federal funds  sold, short term investments and trust preferred securities |       | $                                                                                  | 6,264,381   |   | $ | 86,885 |   | 2.79 | %  | $ | 5,862,124 |   | $ | 144,570 |   | 4.97 | %  |
| Investment  securities plus FHLB and FRB Stock                             |       | 73,139,319                                                                         |        | 1,915,787 |   | 5.27 |  % | 73,705,208 |   | 1,861,432 |   | 5.09 | %  |
| Loans                                                                      |       | 537,617,439                                                                        |        | 19,463,997 |   | 7.28 |  % | 442,197,588 |   | 20,024,549 |   | 9.13 |  % |
| Total earning  assets                                                      |       | $                                                                                  | 617,021,139 |   | $ | 21,466,669 |   | 7.00 |  % | $ | 521,764,920 |   | $ | 22,030,551 |   | 8.51 |  % |
| * *                                                                   | * *   | * *                                                                           |        |   | * * | * * | * * | * * |   |   |   |   |   |
| Cash &  Due from Banks                                            |       | 6,358,829                                                                          |        |   |   |   |   | 6,468,934 |   |   |   |   |   |
| Other Assets                                                               |       | 21,055,227                                                                         |        |   |   |   |   | 21,633,605 |   |   |   |   |   |
| Total Assets                                                               |       | $                                                                                  | 644,435,195 |   |   |   |   |   | $ | 549,867,459 |   |   |   |   |   |
|                                                                       |       |                                                                               |        |   |   |   |   |   |   |   |   |   |   |
| Total  interest-bearing deposits                                           |       | $                                                                                  | 474,225,329 |   | $ | 9,659,697 |   | 4.10 |  % | $ | 398,844,585 |   | $ | 9,199,762 |   | 4.65 |  % |
| * *                                                                   | * *   | * *                                                                           |        |   | * * | * * | * * | * * |   |   |   |   |   |
| Other borrowings                                                           |       | 77,417,291                                                                         |        | 1,764,008 |   | 4.58 |  % | 61,281,966 |   | 1,585,284 |   | 5.22 |  % |
| Total  interest-bearing liabilities                                        |       | $                                                                                  | 551,642,620 |   | $ | 11,423,705 |   | 4.16 |  % | $ | 460,126,551 |   | $ | 10,785,046 |   | 4.73 |  % |
| * *                                                                   | * *   | * *                                                                           |        |   | * * | * * | * * | * * |   |   |   |   |   |
| Demand Deposits                                                            |       | 34,651,575                                                                         |        |   |   |   |   | 34,576,265 |   |   |   |   |   |
| Other Liabilities                                                          |       | 4,663,159                                                                          |        |   |   |   |   | 8,266,245 |   |   |   |   |   |
| Total Liabilities                                                          |       | $                                                                                  | 590,957,354 |   |   |   |   |   | $ | 502,969,061 |   |   |   |   |   |
|                                                                       |       |                                                                               |        |   |   |   |   |   |   |   |   |   |   |
| Equity Capital                                                             |       | 53,477,841                                                                         |        |   |   |   |   | 46,898,398 |   |   |   |   |   |
|                                                                       |       |                                                                               |        |   |   |   |   |   |   |   |   |   |   |
| Total Liabilities  and Equity                                              |       | $                                                                                  | 644,435,195 |   |   |   |   |   | $ | 549,867,459 |   |   |   |   |   |
| * *                                                                   | * *   | * *                                                                           |        |   | * * | * * | * * | * * |   |   |   |   |   |
| Net interest  spread                                                       | * *   | * *                                                                           | * *    | * * |   | 2.84 | %* * | * * | * * | * * |   | 3.78 | %  |
| Net interest  income/margin                                                |       |                                                                               |        | $ | 10,042,964 | * * | 3.27 |  % |   |   | $ | 11,245,505 |   | 4.35 |  % |

 

11

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The following table sets forth the impact of the varying levels ofearning assets and interest-bearing liabilities and the applicable rates havehad on changes in net interest income for the periods presented.

 

| ** **                                                                    | ** ** | **Analysis of Changes in Net Interest Income** | ** ** |
|-------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------|------------|
| ** **                                                                    | ** ** | **For the six months ended June 30,**          | ** ** |
| ** **                                                                    | ** ** | **2008 versus 2007**                                               | ** ** |
| ** **                                                                    | ** ** | **Volume**                                                                   | ** ** | **Rate** | ** ** | **Net change** | ** ** |
| Federal funds sold and short term  investments and trust preferred securities |       | $                                                                            | 5,981      |   | $ | (63,666 | ) | $ | (57,685 | ) |
| Investment securities                                                         |       | (9,653                                                                       | )          | 64,008 |   | 54,355 |   |
| Loans                                                                         |       | 3,510,216                                                                    |       | (4,070,768 | ) | (560,552 | ) |
| Total earning assets                                                          |       | 3,506,544                                                                    |       | (4,070,426 | ) | (563,882 | ) |
|                                                                          |       |                                                                         |       |   |   |   |   |
| Interest-bearing deposits                                                     |       | 1,561,015                                                                    |       | (1,101,080 | ) | 459,935 |   |
| Other borrowings                                                              |       | 372,058                                                                      |       | (193,334 | ) | 178,724 |   |
| Total interest-bearing liabilities                                            |       | 1,933,073                                                                    |       | (1,294,414 | ) | 638,659 |   |
|                                                                          |       |                                                                         |       |   |   |   |   |
| Net interest income                                                           |       | $                                                                            | 1,573,471  |   | $ | (2,776,012 | ) | $ | (1,202,541 | ) |

 

*Provision for Loan Losses*

 

We haveestablished an allowance for loan losses through a provision for loan lossescharged as an expense on our statement of income.  We review our loan portfolio periodically toevaluate our outstanding loans and to measure both the performance of theportfolio and the adequacy of the allowance for loan losses.  The provision for loan losses was $1,314,000for the first six months of 2008 as compared to $622,000 for the same period of2007.  The provision for loan losses was$568,000 for the three months ended June 30, 2008 and $320,800 for thesame period in 2007.  The increase in theprovision was the result of management’s assessment of the adequacy of thereserve for possible loan losses given the size, mix, and quality of thecurrent loan portfolio, the increases in non performing loans, and the currenteconomic environment.  Please see thediscussion below under “Allowance for Loan Losses” for a description of thefactors we consider in determining the amount of the provision we expense eachperiod to maintain this allowance.

 

*Noninterest Income*

 

Noninterest income decreased to $2,846,861 forthe six months ended June 30, 2008, down 36.6% from $4,487,262 for thesame period in 2007.   For the threemonths ended June 30, 2008, noninterest income decreased to $1,466,838million as compared to $2,200,639 in 2007. This decrease in noninterest income is primarily attributable to thedecrease in income from our mortgage operation, which fell from $3,287,803 forthe first six months of 2007 to $1,663,699 for the first six months of2008.  The reduction in noninterestincome from our mortgage operation is a reflection of the downturn in theeconomy in general and the real estate and mortgage markets in particular.

 

*Noninterest Expense*

 

Totalnoninterest expense decreased 2.9% to $9,676,353 for the six month period endedJune 30, 2008 from $9,968,791 for the same period in 2007, and increased3.8% to $5,197,601 million for the three months ended June 30, 2008 from$5,007,614 million in the same period of 2007. Salary and wages and employee benefits expense decreased $681,176 to$4,473,541 during the six month period ended June 30, 2008 compared to thesame period in 2007.  The reduction insalary and benefits relates to the decline in mortgage production relatedincome as well as reduced staffing in the mortgage operation.

 

We had 157 and180 full-time equivalent employees (“FTE”) at June 30, 2008 and 2007,respectively.  The mortgage operation FTEdeclined from 95 FTE to 57 FTE. Excluding our mortgage operation staff, FTEincreased from 85 at June 30, 2007 to 100 FTE at June 30, 2008.  Staffing increases were primarily due tooverall growth and the addition of our 73rd Avenue branch thatopened in the first quarter of 2008.

 

For the sixmonths ended June 30, 2008, advertising and public relations costsincreased $1,890 to $318,942 as compared to the same period in 2007, anddecreased $36,904 to $136,542 for the three months ended June 30, 2008compared to the same period in 2007. Professional fees increased $66,336 to $339,160 for the six month periodended June 30, 2008 compared to the same period in 2007.  These fees continue to increase due to ourgrowth, the regulatory fees associated with such growth, and the escalatingcost of accounting, auditing, and legal services for a public company.

 

12

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Occupancyexpenses decreased $59,303 to $806,242 during the six months endedJune 30, 2008 compared to the same period in 2007, and by $5,635 for thethree months ended June 30, 2008 compared to the same period in 2007.

 

Dataprocessing fees increased during the six months ended June 30, 2008 to$636,525 from $353,062 during the same period in 2007.  For the three months ended June 30,2008, data processing costs totaled $450,225 compared to $181,605 for June 30,2007.  Data processing costs areprimarily related to the volume of loan and deposit accounts and transactionactivity.  During April 2008, weconverted to a new core operating system. The one time conversion cost of$225,760 was expensed in the second quarter of 2008.

 

Otheroperating expenses increased 28.5% to $1,661,621 during the six months endedJune 30, 2008 compared to $1,293,140 during the same period in 2007.  Other operating expenses increased 10.8%, to$852,257, for the three months ended June 30, 2008 compared to the sameperiod in 2007.  These increases areprimarily the result of increased operating expenses related to the growth ofthe Company, including our new branch, along with other expenses associatedwith the expansion of loans and deposits. The increase in other operating expenseswas primarily due to increases in FDIC fees, director and advisory fees, creditand collections, and software maintenance.

 

Specifically,FDIC fees increased $125,867, director and board advisory fees increased$162,351, credit and collections expense increased $92,111, and softwaremaintenance increased $77,821 collectively totaling an increase of$458,150.  The total increase in otheroperating expenses was $368,481 during the six months ended June 30, 2008as compared to the same period in 2007.

 

Thefollowing table presents a comparison of other operating expenses:

** **
| ** **                                       | ** ** | **Other Operating Expenses**           | ** **    |
|--------------------------------------------------|------------|--------------------------------------------------|---------------|
| ** **                                       | ** ** | **For the six months ended** | ** **    | **For the three months ended** | ** ** |
| ** **                                       | ** ** | **June 30,  2008**                          | ** **    | **June 30,  2007** | ** ** | **June 30,  2008** | ** ** | **June 30,  2007** | ** ** |
| Telephone                                        |       | $                                                | 88,429        |   | $ | 63,645 |   | $ | 45,175 |   | $ | 31,829 |   |
| Postage and freight                              |       | 61,027                                           |          | 47,318 |   | 30,893 |   | 24,757 |   |
| Armored Car                                      |       | 43,289                                           |          | 42,550 |   | 22,515 |   | 22,714 |   |
| Credit and collection-bank                       |       | 179,072                                          |          | 86,961 |   | 103,309 |   | 41,795 |   |
| Dues and subscriptions                           |       | 79,452                                           |          | 66,244 |   | 37,180 |   | 32,285 |   |
| Employee travel, conferences, meals, and lodging |       | 89,644                                           |          | 129,404 |   | 53,567 |   | 53,453 |   |
| Business development and donations               |       | 186,861                                          |          | 187,953 |   | 107,463 |   | 161,823 |   |
| FDIC insurance                                   |       | 150,245                                          |          | 24,378 |   | 80,954 |   | 12,696 |   |
| Other insurance                                  |       | 25,420                                           |          | 45,231 |   | 12,850 |   | 20,451 |   |
| Debit/ATM                                        |       | 55,276                                           |          | 46,024 |   | 27,235 |   | 24,093 |   |
| Credit card processing fees                      |       | 27,561                                           |          | 20,752 |   | 14,827 |   | 12,767 |   |
| Federal Reserve charges                          |       | 20,547                                           |          | 20,681 |   | 9,716 |   | 10,971 |   |
| Software maintenance                             |       | 134,802                                          |          | 56,981 |   | 43,794 |   | 41,443 |   |
| Director and advisory board fees                 |       | 212,353                                          |          | 50,002 |   | 112,775 |   | 24,662 |   |
| NASDAQ                                           |       | 13,636                                           |          | 29,576 |   | 8,182 |   | 8,182 |   |
| Furniture and equipment                          |       | 173,763                                          |          | 161,999 |   | 98,335 |   | 96,347 |   |
| Other operating expenses                         |       | 120,244                                          |          | 213,441 |   | 43,487 |   | 148,673 |   |
| **Total**                                        | ** ** | **$**                                            | **1,661,621** | ** ** | **$** | **1,293,140** | ** ** | **$** | **852,257** | ** ** | **$** | **768,941** | ** ** |

 

**Balance Sheet Review**

 

*General*

 

We had total assets of$669.5 million at June 30, 2008, an increase of 14.6% from $584.3 millionat June 30, 2007, and an increase of 10.5% from $606.0 million atDecember 31, 2007.  Total assets atJune 30, 2008 consisted primarily of $559.9 million in loans includingmortgage loans held for sale, $69.1 million in investments, and $10.4 millionin cash and due from banks.  Ourliabilities at June 30, 2008 totaled $616.4 million, consisting primarilyof $533.3 million in deposits, $55.0 million in Federal Home Loan Bank (“FHLB”)advances, and $10.3 million of junior subordinated debentures.  Our total deposits increased to $533.3million at June 30, 2008, up 16.4% from $458.3 million at June 30,2007, and up 14.9% 

 

13

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from$464.2 million at December 31, 2007. Shareholders’ equity increased $0.5 million to $53.1 million atJune 30, 2008 from $52.6 million at December 31, 2007, and increased$4.2 million from $48.9 million at June 30, 2007.

 

## ***Investment Securities***

## *** ***

Total investment securities averaged $68.7 million during the first sixmonths of 2008 and totaled $69.1 million at June 30, 2008.  Total investment securities averaged $70.2million during the first six months of 2007 and totaled $69.7 million atJune 30, 2007.   Total investmentsecurities averaged $69.0 million for the year ended December 31, 2007 andtotaled $65.7 million at December 31, 2007.  At June 30, 2008, our total investmentsecurities portfolio had a book value of $70.6 million and a fair market valueof $69.1 million, for an unrealized net loss of $1.5 million.  We primarily invest in short term U.S.Government Sponsored Enterprises and Federal Agency securities.

 

At June 30, 2008,federal funds sold and short-term investments totaled $3.1 million, compared to$26.1 million at June 30, 2007 and $566,404 at December 31,2007.  These funds are one source of ourbank’s liquidity and are generally invested in an earning capacity on anovernight or short-term basis. This decline in short-term investments is due toloan demand during this quarter and a more competitive market for deposits.

 

*Loans*

 

Since loans typicallyprovide higher yields than other types of earning assets, a substantialpercentage of our earning assets are invested in our loan portfolio.  As of June 30, 2008, loans represented87.1% of average earning assets as compared to 84.8% at June 30, 2007, and85.2% at December 31, 2007.  AtJune 30, 2008, net portfolio loans (portfolio loans less the allowance forloan losses and deferred loan fees) totaled $545.7 million, an increase of$106.8 million, or 24.3%, from June 30, 2007 and an increase of $49.2million, or 9.92% from December 31, 2007. Average gross loans increased to $537.6 million with a yield of 7.28%during the first six months of 2008 from $442.2 million with a yield of 9.13%during the same period in 2007.  Averagegross loans were $458.7 million with a yield of 8.95% for the year ended December 31,2007.  The decrease in yield on loansduring these periods is due to the interest rate declines in 2007 and2008.  The interest rates charged onloans vary with the degree of risk, the maturity, the guarantees, and thecollateral on each loan.  Competitivepressures, money market rates, availability of funds, and governmentregulations also influence interest rates.

 

The following table showsthe composition of the loan portfolio and mortgage loans held for sale bycategory at June 30, 2008, December 31, 2007, and  June 30, 2007.

 
| ** **                         | ** ** | **Composition of Loan Portfolio** | ** **  |
|------------------------------------|------------|--------------------------------------------------|-------------|
| ** **                         | ** ** | **June 30, 2008**                      | ** **  | **December 31. 2007** | ** ** | **June 30, 2007** | ** ** |
| ** **                         | ** ** | ** **                                       | ** **  | **Percent** | ** ** | ** ** | ** ** | **Percent** | ** ** | ** ** | ** ** | **Percent** | ** ** |
| ** **                         | ** ** | **Amount**                                       | ** **  | **of Total** | ** ** | **Amount** | ** ** | **of Total** | ** ** | **Amount** | ** ** | **of Total** | ** ** |
| Commercial                         |       | $                                                | 68,450,260  |   | 12.4 | % | $ | 60,376,105 |   | 12.0 | % | $ | 52,597,017 |   | 11.8 | % |
| Real estate – construction    |       | 51,220,297                                       |        | 9.2 | % | 63,988,173 |   | 12.7 | % | 41,964,309 |   | 9.4 | % |
| Real estate – mortgage        |       | 425,205,087                                      |        | 76.8 | % | 370,989,308 |   | 73.6 | % | 342,668,444 |   | 76.9 | % |
| Consumer                           |       | 8,896,536                                        |        | 1.6 | % | 8,504,685 |   | 1.7 | % | 8,357,160 |   | 1.9 | % |
| Portfolio loans, gross             |       | 553,772,180                                      |        | 100.0 | % | 503,858,271 |   | 100.0 | % | 445,586,930 |   | 100.0 | % |
| Unearned loan fees and costs, net  |       | (387,164                                         | )           |   |   | (425,755 | ) |   |   | (278,512 | ) |   |   |
| Allowance for possible loan losses |       | (7,646,053                                       | )           |   |   | (6,935,616 | ) |   |   | (6,331,806 | ) |   |   |
| Portfolio loans, net               |       | 545,738,963                                      |        |   |   | 496,496,900 |   |   |   | 438,976,612 |   |   |   |
| Mortgage loans held for sale       |       | 6,528,090                                        |        |   |   | 6,475,619 |   |   |   | 12,073,613 |   |   |   |
| Loans, net                         |       | $                                                | 552,267,053 |   |   |   | $ | 502,972,519 |   |   |   | $ | 451,050,225 |   |   |   |

 

The principal component ofour portfolio loans at June 30, 2008, December 31, 2007, andJune 30, 2007, was mortgage loans, which represented 76.8%, 73.6%, and76.9%, respectively.  In the context ofthis discussion, a “real estate mortgage loan” is defined as any loan, otherthan loans for construction purposes, secured by real estate, regardless of thepurpose of the loan.  We follow thecommon practice of financial institutions in our market area of obtaining asecurity interest in real estate whenever possible, in addition to any otheravailable collateral.  The collateral istaken to reinforce the likelihood of the ultimate repayment of the loan andtends to increase the magnitude of the real estate loan portfolio component.  Generally, we limit the loan-to-value ratioto 80%.  We attempt to maintain arelatively diversified loan 

 

14

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portfolio to help reduce therisk inherent in concentrations of collateral. Loans held for sale are consumer real estate loans that are pending saleto investors.

 

## ***Allowance for Loan Losses***

## *** ***

We haveestablished an allowance for loan losses through a provision for loan lossescharged to expense on our statement of income. The allowance for loan losses represents an amount which we believe willbe adequate to absorb probable losses on existing loans that may becomeuncollectible.  Our judgment as to theadequacy of the allowance for loan losses is based on a number of assumptionsabout future events, which we believe to be reasonable, but which may or maynot prove to be accurate.  The evaluationof the allowance is segregated into general allocations and specificallocations.  For general allocations,the portfolio is segregated into risk-similar segments for which historicalloss ratios are calculated and adjusted for identified trends or changes incurrent portfolio characteristics. Historical loss ratios are calculated by product type for consumer loans(installment and revolving), mortgage loans, and commercial loans and may beadjusted for other risk factors. To allow for modeling error, a range ofprobable loss ratios is then derived for each segment.  The resulting percentages are then applied tothe dollar amounts of the loans in each segment to arrive at each segment’srange of probable loss levels.  Certainnonperforming loans are individually assessed for impairment under SFASNo. 114 and assigned specific allocations. Other identified high-risk loans or credit relationships based oninternal risk ratings are also individually assessed and assigned specificallocations.

 

Thegeneral allocation also includes a component for probable losses inherent inthe portfolio, based on management’s analysis that is not fully capturedelsewhere in the allowance.  Thiscomponent serves to address the inherent estimation and imprecision risk in themethodology as well as address management’s evaluation of various factors orconditions not otherwise directly measured in the evaluation of the general andspecific allocations.  Such factorsinclude the current general economic and business conditions; geographic,collateral, or other concentrations of credit; system, procedural, policy, orunderwriting changes; experience of the lending staff; entry into new marketsor new product offerings; and results from internal and external portfolioexaminations.

 

Periodically,we adjust the amount of the allowance based on changing circumstances.  We charge recognized losses to the allowanceand add subsequent recoveries back to the allowance for loan losses.  There can be no assurance that charge-offs ofloans in future periods will not exceed the allowance for loan losses asestimated at any point in time or that provisions for loan losses will not besignificant to a particular accounting period.

 

Theallocation of the allowance to the respective loan segments is an approximationand not necessarily indicative of future losses or future allocations.  The entire allowance is available to absorblosses occurring in the overall loan portfolio. In addition, the allowance is subject to examination and adequacytesting by regulatory agencies, which may consider such factors as themethodology used to determine adequacy and the size of the allowance relativeto that of peer institutions, and other adequacy tests.  Such regulatory agencies could require us toadjust the allowance based on information available to them at the time oftheir examination.

 

AtJune 30, 2008, the allowance for loan losses was $7.6 million, or 1.37% oftotal outstanding loans, compared to an allowance for loan losses of $6.3million, or 1.38% of total outstanding loans, at June 30, 2007, and $6.9million, or 1.36% of total outstanding loans, at December 31, 2007.  During the first six months of 2008, we hadnet charge-offs totaling $603,563. During the same period in 2007, we had netcharge-offs totaling $178,246.  We hadnon-performing loans totaling $13.0 million, $1.4 million, and $2.9 million atJune 30, 2008, June 30, 2007, and December 31, 2007,respectively.  While there can be noassurances, we do not expect significant losses relating to these nonperformingloans because we believe that the collateral supporting these loans issufficient to cover the outstanding loan balance.  Nevertheless, the recent downturn in the realestate market has resulted in an increase in loan delinquencies, defaults andforeclosures, and we believe these trends are likely to continue.  In some cases, this downturn has resulted ina significant impairment to the value of our collateral and our ability to sellthe collateral upon foreclosure, and there is a risk that this trend willcontinue.  The real estate collateral ineach case provides an alternate source of repayment in the event of default bythe borrower and may deteriorate in value during the time the credit is extended.  If real estate values continue to decline, itis also more likely that we would be required to increase our allowance forloan losses.

 

Thefollowing table sets forth certain information with respect to our allowancefor loan losses and the composition of charge-offs and recoveries for the sixmonths ended June 30, 2008, June 30, 2007, and the full year endedDecember 31, 2007.

 

15

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| ** **                                          | ** ** | **Allowance for Loan Losses**  | ** **  |
|-----------------------------------------------------|------------|-----------------------------------------------|-------------|
| ** **                                          | ** ** | **Six months  ended June 30,** | ** **  | **Year ended  December 31,** | ** ** | **Six months  ended June 30,** | ** ** |
| ** **                                          | ** ** | **2008**                                      | ** **  | **2007** | ** ** | **2007** | ** ** |
| ** **                                          | ** ** | ** **                                    | ** **  | ** ** | ** ** | ** ** | ** ** |
| Average total loans outstanding                     |       | $                                             | 537,617,439 |   | $ | 458,703,104 |   | $ | 442,197,589 |   |
| Total loans outstanding at period end               |       | 559,913,106                                   |        | 509,908,135 |   | 457,382,031 |   |
| Total nonperforming loans                           |       | 13,003,335                                    |        | 2,902,888 |   | 1,431,960 |   |
|                                                |       |                                          |        |   |   |   |   |
| Beginning balance of allowance                      |       | 6,935,616                                     |        | 5,888,052 |   | 5,888,052 |   |
|                                                |       |                                          |        |   |   |   |   |
| Loans charged off                                   |       | (615,977                                      | )           | (984,430 | ) | (185,241 | ) |
| Total recoveries                                    |       | 12,414                                        |        | 36,394 |   | 6,995 |   |
| Net loans charged off                               |       | (603,563                                      | )           | (948,036 | ) | (178,246 | ) |
| Transfer to mortgage recourse                       |       | —                                        |        | (50,000 | ) | (50,000 | ) |
| Provision for loan losses                           |       | 1,314,000                                     |        | 2,045,600 |   | 672,000 |   |
| Balance at period end                               |       | $                                             | 7,646,053   |   | $ | 6,935,616 |   | $ | 6,331,806 |   |
|                                                |       |                                          |        |   |   |   |   |
| Net charge-offs to average total loans (annualized) |       | 0.23                                          | %           | 0.21 | % | 0.08 | % |
| Allowance as a percent of total loans               |       | 1.37                                          | %           | 1.36 | % | 1.38 | % |
| Allowance as a percentage of nonperforming loans    |       | 58.80                                         | %           | 238.90 | % | 442.20 | % |

 

Thefollowing table sets forth the breakdown of the allowance for loan losses byloan category and the percentage of loans in each category to gross loans as ofJune 30, 2008.  We believe that theallowance can be allocated by category only on an approximate basis.  The allocation of the allowance to eachcategory is not necessarily indicative of further losses and does not restrictthe use of the allowance to absorb losses in any category.

 

| ** **                      | ** ** | **As of June 30, 2008** | ** ** |
|---------------------------------|------------|---------------------------------------------|------------|
| Commercial .                    |       | $                                           | 1,574,659  |   | 12.4 | % |
| Real estate – construction |       | 1,083,729                                   |       | 9.2 | % |
| Real estate – mortgage     |       | 4,868,924                                   |       | 76.8 | % |
| Consumer                        |       | 78,778                                      |       | 1.6 | % |
| Unallocated                     |       | 39,963                                      |       | — |   |
| Total allowance for loan losses |       | $                                           | 7,646,053  |   | 100.0 | % |

 

*NonperformingAssets/Other Real Estate Owned*

 

We discontinue accrual of interest on a loan when weconclude it is doubtful that we will be able to collect interest from theborrower.  We reach this conclusion bytaking into account factors such as the borrower’s financial condition,economic and business conditions, and the results of our previous collectionefforts.  Generally, we will place adelinquent loan in nonaccrual status when the loan becomes 90 days or more pastdue.  When we place a loan in nonaccrualstatus, we reverse all interest which has been accrued on the loan but remainsunpaid and we deduct this interest from earnings as a reduction of reportedinterest income.  We do not accrue anyadditional interest on the loan balance until we conclude the collection ofboth principal and interest is reasonably certain.  At June 30, 2008, there were no loansaccruing interest which were 90 days or more past due and we had norestructured loans.

 

Nonaccrual loans were$13,003,335, $1,431,960, and $2,902,888 as of June 30, 2008, June 30,2007, and December 31, 2007, respectively. As the economy continues to weaken, some of our borrowers find that theydo not have sufficient cash flow to make payments on time, and we place theirloans on non-accrual status.  There arecurrently 30 loans that are on non accrual at June 30, 2008.  Five of those borrowers amount to 61% of thetotal nonaccrual amount.

 

If the bank takes propertiesfrom a loan work-out, it places it in the other real estate owned asset account(“OREO”).  The properties that arereceived are recorded at the lower of cost or the current value of the loan inOREO.  Any write-down in value, beforebeing placed into OREO, is included as a charge-off in the allowance for loanloss.  Any subsequent gain or loss,including expenses related to the sale, is recorded through the incomestatement.

 

At June 30, 2008 we had$2,365,000 in OREO, compared to $328,775 at June 30, 2007, and $15,000 atDecember 31, 2007.  As ofJune 30, 2008, there are six properties in OREO, one of which is undercontract.  The properties in OREO 

 

16

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at June 30, 2008 include two small parcels ofundeveloped land, two developed residential lots, and two completed residentialunits.

 

## ***Deposits***

## *** ***

Average total deposits were$508.9 million for the six months ended June 30, 2008, up 17.4% from$433.4 million during the same period in 2007 and up 15.6% from $440.2 millionat December 31, 2007.  Averageinterest-bearing deposits were $474.2 million for six months endedJune 30, 2008, up 18.9% from $398.8 million during the same period of 2007and up 17.4% from $404.1 million at December 31, 2007.

 

Thefollowing table sets forth our deposits by category as of June 30, 2008,June 30, 2007, and December 31, 2007.

 
| ** **                         | ** ** | **Deposits**                | ** **  |
|------------------------------------|------------|-----------------------------|-------------|
| ** **                         | ** ** | **June 30, 2008** | ** **  | **December 31, 2007** | ** ** | **June 30, 2007** | ** ** |
| ** **                         | ** ** | **Amount**                  | ** **  | **Percent  of  Deposits** | ** ** | **Amount** | ** ** | **Percent  of  Deposits** | ** ** | **Amount** | ** ** | **Percent of  Deposits** | ** ** |
|                               |       |                        |        |   |   |   |   |   |   |   |   |   |   |
| Demand deposit accounts            |       | $                           | 37,345,807  |   | 7.0 | % | $ | 33,138,936 |   | 7.1 | % | $ | 37,320,198 |   | 8.1 | % |
| Interest bearing checking accounts |       | 28,342,410                  |        | 5.3 | % | 20,377,754 |   | 4.4 | % | 22,228,924 |   | 4.9 | % |
| Money market accounts              |       | 130,971,973                 |        | 24.6 | % | 103,821,154 |   | 22.4 | % | 109,117,393 |   | 23.8 | % |
| Savings accounts                   |       | 3,265,704                   |        | 0.6 | % | 2,988,881 |   | 0.6 | % | 2,528,859 |   | 0.6 | % |
| Time deposits less than $100,000   |       | 198,409,238                 |        | 37.2 | % | 161,038,254 |   | 34.7 | % | 170,679,000 |   | 37.2 | % |
| Time deposits of $100,000 or more  |       | 134,937,892                 |        | 25.3 | % | 142,833,366 |   | 30.8 | % | 116,396,262 |   | 25.4 | % |
| Total deposits                     |       | $                           | 533,273,024 |   | 100.0 | % | $ | 464,198,345 |   | 100.00 | % | $ | 458,270,636 |   | 100.00 | % |

 

Deposit growth wasattributable to brokered funds, internal growth, and the generation of newdeposit accounts due primarily to special promotions and increased advertising.

 

Core deposits, which exclude certificates of depositof $100,000 or more, provide a relatively stable funding source for our loanportfolio and other earning assets.  Ourcore deposits were $398.3 million at June 30, 2008, compared to $341.9million at June 30, 2007, and $321.4 million at December 31,2007.  Our brokered deposits were $75.6million as of June 30, 2008, $39.6 million as of June 30, 2007, and$46.1 million as of December 31, 2007. We expect a stable base of deposits to be our primary source of fundingto meet both our short-term and long-term liquidity needs.  Core deposits as a percentage of totaldeposits were 74.7% at June 30, 2008, 74.6% at June 30, 2007, and69.2% at December 31, 2007. Our loan-to-deposit ratio was 105.0% atJune 30, 2008 versus 99.8% at June 30, 2007 and 109.8% atDecember 31, 2007.  The average loan-to-depositratio was 105.7% during the first six months of 2008, 102.0% during the sameperiod of 2007, and 104.2% at December 31, 2007.

 

**Advances from Federal Home LoanBank**

 

Inaddition to deposits, we obtained funds from the FHLB to help fund our loangrowth.  Average borrowings from the FHLBwere $55.0 million during the second quarter of 2008 and 2007 and $48.7 millionfor the year ended December 31, 2007. The following table reflects the current borrowing terms.

 
| **FHLB Description** | ** ** | **Balance** | ** ** | **Current  Rate** | ** ** | **Maturity  Date** | ** ** | **Option  Date** | ** ** |
|---------------------------|------------|-------------|------------|-------------------|------------|--------------------|------------|------------------|------------|
| Fixed rate                |       | $           | 10,000,000 |              | 5.36       | %                  | 06/04/2010 |             | —     |   |
| Fixed Rate Hybrid         |       | 5,000,000   |       | 4.76              | %          | 10/21/2010         |       | —           |       |
| Convertible               |       | 7,500,000   |       | 4.51              | %          | 11/23/2010         |       | 11/24/08         |       |
| Convertible               |       | 5,000,000   |       | 3.68              | %          | 07/13/2015         |       | 7/14/08          |       |
| Convertible               |       | 5,000,000   |       | 4.06              | %          | 09/29/2015         |       | 9/29/09          |       |
| Convertible               |       | 5,000,000   |       | 4.16              | %          | 03/13/2017         |       | 3/13/09          |       |
| Convertible               |       | 7,500,000   |       | 4.39              | %          | 04/13/2017         |       | 4/13/09          |       |
| Prime Based Advance       |       | 10,000,000  |       | 2.16              | %          | 09/19/2011         |       | —           |       |
|                      |       | $           | 55,000,000 |              |       |               |       |             |       |   |

 

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**Junior Subordinated Debentures**

 

The average and period end balances of the floating rate trust preferred securities through BFNB Trust I and BFNB Trust II (the “Trusts”) totaled $10.3 million for all periods reported. These trust preferred securities are reported on our consolidated balance sheet as junior subordinated debentures. The trust preferred securities accrue and pay distributions annually at a rate per annum equal to the six month LIBOR plus 270 and 190 basis points, respectively, which was 5.62% and 4.68% at June 30, 2008.  The distribution rate payable on these securities is cumulative and payable quarterly in arrears.  The Company has the right, subject to events of default, to defer payments of interest on the trust preferred securities for a period not to exceed 20 consecutive quarterly periods, provided that no extension period may extend beyond the maturity dates of May 27, 2034 and March 30, 2035, respectively.  The Company has no current intention to exercise its right to defer payments of interest on the trust preferred securities.  The Company has the right to redeem the trust preferred securities, in whole or in part, on or after May 27, 2009 and March 30, 2010, respectively.  The trust preferred securities can be redeemed prior to such dates upon occurrence of specified conditions and the payment of a redemption premium.

 

## ***Capital Resources***

## *** ***

At both the holding companyand bank level, we are subject to various regulatory capital requirementsadministered by the federal banking agencies. To be considered “well-capitalized,” we must maintain total risk-basedcapital of at least 10%, Tier 1 capital of at least 6%, and a leverage ratio ofat least 5%.

 

At June 30, 2008, ourtotal shareholders’ equity was $53.1 million ($54.8 million at the banklevel).  At June 30, 2008, our Tier1 capital ratio was 10.32% (10.84% at the bank level), our total risk-basedcapital ratio was 11.57% (12.10% at the bank level), and our Tier 1 leverageratio was 8.28% (8.68% at the bank level). At June 30, 2008 the bank was considered “well capitalized” and theholding company met or exceeded its applicable regulatory capital requirements.

 

**Liquidity Management**

 

Liquidity represents the ability of a company toconvert assets into cash or cash equivalents without significant loss, and theability to raise additional funds by increasing liabilities.  Liquidity management involves monitoring oursources and uses of funds in order to meet our day-to-day cash flowrequirements while maximizing profits. Liquidity management is made more complicated because different balancesheet components are subject to varying degrees of management control.  For example, the timing of maturities of ourinvestment portfolio is fairly predictable and subject to a high degree ofcontrol at the time investment decisions are made.  However, net deposit inflows and outflows arefar less predictable and are not subject to the same degree of control.

 

Our primary sources ofliquidity are deposits, scheduled repayments on our loans, and interest on andmaturities of our investments.  We planto meet our future cash needs through the liquidation of temporary investmentsand the generation of deposits.  All ofour securities have been classified as available for sale.  Occasionally, we might sell investment securitiesin connection with the management of our interest sensitivity gap or to managecash availability.  We may also utilizeour cash and due from banks, security repurchase agreements, and federal fundssold to meet liquidity requirements as needed. In addition, we have the ability, on a short-term basis, to purchasefederal funds from other financial institutions.  Presently, we have made arrangements withcommercial banks for short-term unsecured advances of up to $31.8 million.  We maintain a secured line of credit in theamount of $10.0 million with our primary correspondent.  We also have a line of credit with the FHLBto borrow based on our 1 to 4 family loans, resulting in an availability of upto $66.5 million at June 30, 2008. The FHLB has approved borrowings up to 15% of the bank’s total assetsless advances outstanding.  Theborrowings are available by pledging additional collateral and purchasing FHLBstock.  At June 30, 2008, we hadborrowed $55.0 million on this line of credit. We believe that our existing stable base of core deposits, our bondportfolio, borrowings from the FHLB, and short-term federal funds lines willenable us to successfully meet our liquidity.

 

**InterestRate Sensitivity**

 

Asignificant portion of our assets and liabilities are monetary in nature, andconsequently they are very sensitive to changes in interest rates.  This interest rate risk is our primary marketrisk exposure, and it can have a significant effect on our net interest incomeand cash flows.  We review our exposureto market risk on a regular basis, and we manage the pricing and maturity ofour assets and liabilities to diminish the potential adverse impact thatchanges in interest rates could have on our net interest income.

 

We actively monitor andmanage our interest rate risk exposure principally by measuring our interestsensitivity “gap,” which is the positive or negative dollar difference betweenassets and liabilities that are subject to interest rate repricing within agiven period of time.  A gap isconsidered positive when the amount of interest-rate sensitive assets exceedsthe amount of interest-rate sensitive liabilities, and it is considerednegative when the amount of interest-rate sensitive liabilities exceeds theamount of interest-rate sensitive assets. We generally would benefit from increasing market 

 

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interest rates when we have an asset-sensitive, or a positive, interestrate gap and we would generally benefit from decreasing market interest rateswhen we have liability-sensitive, or a negative, interest rate gap.  When measured on a “gap” basis, we areliability-sensitive over the cumulative one-year time frame and asset-sensitiveafter one year as of June 30, 2008. However, our gap analysis is not a precise indicator of our interestsensitivity position.  The analysispresents only a static view of the timing of maturities and repricingopportunities, without taking into consideration that changes in interest ratesdo not affect all assets and liabilities equally.  For example, rates paid on a substantialportion of core deposits may change contractually within a relatively shorttime frame, but we believe those rates are significantly less interest-sensitivethan market-based rates such as those paid on noncore deposits.

 

Net interest income is alsoaffected by other significant factors, including changes in the volume and mixof interest-earning assets and interest-bearing liabilities.  We perform asset/liability modeling to assessthe impact of varying interest rates and the impact that balance sheet mixassumptions will have on net interest income. We attempt to manage interest rate sensitivity by repricing assets orliabilities, selling securities available-for-sale, replacing an asset orliability at maturity, or adjusting the interest rate during the life of anasset or liability.  Managing the amountof assets and liabilities that reprice in the same time interval helps us tohedge risks and minimize the impact on net interest income of rising or fallinginterest rates.  We evaluate interestsensitivity risk and then formulate guidelines regarding asset generation andrepricing, funding sources and pricing, and off-balance sheet commitments inorder to decrease interest rate sensitivity risk.

 

**Off Balance Sheet Risk**

 

Throughthe operations of our bank, we have made contractual commitments to extendcredit in the ordinary course of our business activities.  These commitments are legally bindingagreements to lend money to our customers at predetermined interest rates for aspecified period of time.  We evaluateeach customer’s credit worthiness on a case-by-case basis.  The amount of collateral obtained, if deemednecessary by us upon extension of credit, is based on our credit evaluation ofthe borrower.  Collateral varies but mayinclude accounts receivable, inventory, property, plant and equipment,commercial and residential real estate. We manage the credit risk on these commitments by subjecting them tonormal underwriting and risk management processes.

 

At June 30, 2008, thebank had issued unused commitments to extend credit of $47.5 million throughvarious types of lending arrangements. Past experience indicates that many of these commitments to extend creditwill expire unused.  We believe that wehave adequate sources of liquidity to fund commitments that are drawn upon bythe borrowers.

 

Inaddition to commitments to extend credit, we also issue standby letters ofcredit which are assurances to a third party that if our customer fails to meetits contractual obligation to the third party the bank will honor thosecommitments up to the letter of credit issued. Standby letters of credit totaled $10.9 million at June 30, 2008.  Past experience indicates that many of thesestandby letters of credit will expire unused. However, through our various sources of liquidity, we believe that wewill have the necessary resources to meet these obligations should the needarise.

 

Except as disclosed in thisreport, we are not involved in off-balance sheet contractual relationships,unconsolidated related entities that have off-balance sheet arrangements ortransactions that could result in liquidity needs or other commitments orsignificantly impact earnings.

 

**Impactof Inflation**

 

The effect of relative purchasingpower over time due to inflation has not been taken into account in ourconsolidated financial statements. Rather, our financial statements have been generally prepared on anhistorical cost basis in accordance with generally accepted accountingprinciples.

 

Unlike most industrial companies, our assets andliabilities are primarily monetary in nature. Therefore, the effect of changes in interest rates will have a moresignificant impact on our performance than will the effect of changing pricesand inflation in general.  In addition,interest rates may generally increase as the rate of inflation increases,although not necessarily in the same magnitude. As discussed previously, we seek to manage the relationships betweeninterest sensitive assets and liabilities in order to protect against wide ratefluctuations, including those resulting from inflation.

 

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**RecentlyIssued Accounting Standards**

 

Thefollowing is a summary of recent authoritative pronouncements that could impactthe accounting, reporting, and/or disclosure of financial information by us.

 

InDecember 2007, the FASB issued SFAS No. 141(R), “BusinessCombinations,” (“SFAS 141(R)”) which replaces SFAS 141. SFAS 141(R) establishesprinciples and requirements for how an acquirer in a business combinationrecognizes and measures in its financial statements the identifiable assetsacquired, the liabilities assumed, and any controlling interest; recognizes andmeasures goodwill acquired in the business combination or a gain from a bargainpurchase; and determines what information to disclose to enable users of thefinancial statements to evaluate the nature and financial effects of thebusiness combination. FAS 141(R) is effective for acquisitions by theCompany taking place on or after January 1, 2009. Early adoption isprohibited. Accordingly, a calendar year-end company is required to record anddisclose business combinations following existing accounting guidance untilJanuary 1, 2009. The Company will assess the impact of SFAS 141(R) ifand when a future acquisition occurs.

 

InDecember 2007, the FASB issued SFAS No. 160, “NoncontrollingInterests in Consolidated Financial Statements — an amendment of ARBNo. 51” (“SFAS 160”). SFAS 160 establishes new accounting and reportingstandards for the noncontrolling interest in a subsidiary and for thedeconsolidation of a subsidiary. Before this statement, limited guidanceexisted for reporting noncontrolling interests (minority interest). As aresult, diversity in practice exists. In some cases minority interest isreported as a liability and in others it is reported in the mezzanine sectionbetween liabilities and equity. Specifically, SFAS 160 requires the recognitionof a noncontrolling interest (minority interest) as equity in the consolidatedfinancials statements and separate from the parent’s equity. The amount of netincome attributable to the noncontrolling interest will be included inconsolidated net income on the face of the income statement. SFAS 160 clarifiesthat changes in a parent’s ownership interest in a subsidiary that do notresult in deconsolidation are equity transactions if the parent retains itscontrolling financial interest. In addition, this statement requires that aparent recognize gain or loss in net income when a subsidiary isdeconsolidated. Such gain or loss will be measured using the fair value of thenoncontrolling equity investment on the deconsolidation date. SFAS 160 alsoincludes expanded disclosure requirements regarding the interests of the parentand its noncontrolling interests. SFAS 160 is effective for the Company onJanuary 1, 2009.   Earlier adoptionis prohibited. At this time, the Company believes that upon adoption, SFAS 160will not materially impact on its financial position, results of operations orcash flows.

 

InMarch 2008, the FASB issued SFAS No. 161, “Disclosures aboutDerivative Instruments and Hedging Activities” (“SFAS 161”).  SFAS 161 requires enhanced disclosures aboutan entity’s derivative and hedging activities and thereby improving thetransparency of financial reporting.  Itis intended to enhance the current disclosure framework in SFAS 133 byrequiring that objectives for using derivative instruments be disclosed in termsof underlying risk and accounting designation. This disclosure better conveysthe purpose of derivative use in terms of the risks that the entity isintending to manage. SFAS 161 is effective for the Company on January 1,2009. This pronouncement does not impact accounting measurements but willresult in additional disclosures if the Company is involved in materialderivative and hedging activities at that time.

 

InFebruary 2008, the FASB issued FASB Staff Position No. 140-3,“Accounting for Transfers of Financial Assets and Repurchase FinancingTransactions” (“FSP 140-3”).  This FSP provides guidance on accounting fora transfer of a financial asset and the transferor’s repurchase financing ofthe asset.  This FSP presumes that an initial transfer of a financialasset and a repurchase financing are considered part of the same arrangement(linked transaction) under SFAS No. 140. However, if certain criteria aremet, the initial transfer and repurchase financing are not evaluated as alinked transaction and are evaluated separately under Statement 140.  FSP140-3 will be effective for financial statements issued for fiscal yearsbeginning after November 15, 2008, and interim periods within those fiscalyears and earlier application is not permitted. Accordingly, this FSP iseffective for the Company on January 1, 2009.  The Company iscurrently evaluating the impact, if any, the adoption of FSP 140-3 will have onits financial position, results of operations and cash flows.

 

InApril 2008, the FASB issued FASB Staff Position No. 142-3,“Determination of the Useful Life of Intangible Assets” (“FSP 142-3”).  This FSP amends the factors that should beconsidered in developing renewal or extension assumptions used to determine theuseful life of a recognized intangible asset under SFAS No. 142, “Goodwill and Other Intangible Assets”.  The intent of this FSP is to improve theconsistency between the useful life of a recognized intangible asset under SFASNo. 142 and the period of expected cash flows used to measure the fairvalue of the asset under SFAS No. 141(R), “Business Combinations,”**andother U.S. generally accepted accounting principles.  This FSP is effective for financialstatements issued for fiscal years beginning after December 15, 2008, andinterim periods within those fiscal years and early adoption isprohibited.  Accordingly, this FSP iseffective for the Company on January 1, 2009.  The Company does not believe the adoption ofFSP 142-3 will have a material impact on its financial position, results ofoperations, or cash flows.

 

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InMay, 2008, the Financial Accounting Standards Board (“FASB”) issued Statementof Financial Accounting Standard (“SFAS”) No. 162, “The Hierarchy ofGenerally Accepted Accounting Principles,” (“SFAS No. 162”).  SFAS No. 162 identifies the sources ofaccounting principles and the framework for selecting the principles used inthe preparation of financial statements of nongovernmental entities that arepresented in conformity with generally accepted accounting principles (GAAP) inthe United States (the GAAP hierarchy). SFAS No. 162 will be effective 60 days following the SEC’s approvalof the Public Company Accounting Oversight Board’s amendments to AUSection 411, “*The Meaning of*PresentFairly in Conformity With Generally Accepted Accounting Principles.”  The FASB has stated that it does not expectSFAS No. 162 will result in a change in current practice. The applicationof SFAS No. 162 will have no effect on the Company’s financial position,results of operations or cash flows.

 

Otheraccounting standards that have been issued or proposed by the FASB or otherstandards-setting bodies are not expected to have a material impact on theCompany’s financial position, results of operations or cash flows.

 

**Item3.  Quantitative and QualitativeDisclosures about Market Risk****.**

 

Market risk is the risk ofloss from adverse changes in market prices and rates.  Our market risk arises principally frominterest rate risk inherent in our lending, deposit, and borrowingactivities.  Management actively monitorsand manages its interest rate risk exposure. In addition to other risks that we manage in the normal course ofbusiness, such as credit quality and liquidity, management considers interestrate risk to be a significant market risk that could potentially have amaterial effect on our financial condition and results of operations.  The information contained in Item 2 in thesection captioned “Interest Rate Sensitivity” is incorporated herein byreference.  Other types of market risks,such as foreign currency risk and commodity price risk, do not arise in thenormal course of our business activities.

 

The primary objective ofasset and liability management is to manage interest rate risk and achievereasonable stability in net interest income throughout interest ratecycles.  This is achieved by maintainingthe proper balance of rate-sensitive earning assets and rate-sensitiveinterest-bearing liabilities.  Therelationship of rate-sensitive earning assets to rate-sensitiveinterest-bearing liabilities is the principal factor in projecting the effectthat fluctuating interest rates will have on future net interest income.  Rate-sensitive assets and liabilities arethose that can be repriced to current market rates within a relatively shorttime period. Management monitors the rate sensitivity of earning assets andinterest-bearing liabilities over the entire life of these instruments, butplaces particular emphasis on the next twelve months.  At June 30, 2008, on a cumulative basisthrough 12 months, rate-sensitive liabilities exceeded rate-sensitive assets by$30.4 million.  This liability-sensitiveposition is largely attributable to short-term certificates of deposit, moneymarket accounts and interest bearing checking accounts, which totaled $433.5million at June 30, 2008.

 

**Item 4. Controls and Procedures****.**

 

As of the end of the periodcovered by this report, we carried out an evaluation, under the supervision andwith the participation of our management, including our Chief Executive Officerand Chief Financial Officer, of the effectiveness of our disclosure controlsand procedures as defined in Exchange Act Rule 13a-15(e).  Based upon that evaluation, our ChiefExecutive Officer and Chief Financial Officer have concluded that our currentdisclosure controls and procedures are effective as of June 30, 2008.  There have been no significant changes in ourinternal controls over financial reporting during the fiscal quarter endedJune 30, 2008 that have materially affected, or are reasonably likely tomaterially affect, our internal controls over financial reporting.

 

The design of any system of controls and proceduresis based in part upon certain assumptions about the likelihood of future events.  There can be no assurance that any designwill succeed in achieving its stated goals under all potential futureconditions, regardless of how remote.

 

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**PART II**

**OTHER INFORMATION**

**Item 1.  Legal Proceedings.**

 

There are no material legalproceedings to which the company or any of our subsidiaries is a party or ofwhich any of our property is the subject.

 

**Item 1A.  Risk Factors.**

 

Other than as describedelsewhere in this Form 10-Q, there were no material changes from the risk factors presentedin our annual report on Form 10-K for the year ended December 31,2007.

 

**Item 2.  Unregistered Sales ofEquity Securities and Use of Proceeds.**

 

Not applicable.

 

**Item 3.  Defaults Upon SeniorSecurities.**

 

Not applicable.

 

**Item4.   Submission of Matters to a Vote of Security Holders**

 

On April 21, 2008, Beach First National Bancshares, Inc. heldits 2008 Annual Meeting of Shareholders. The only matter submitted to shareholders at the meeting was theelection of the Class I directors. The following describes the matter voted upon at the annual meeting andsets forth the number of votes cast for and those withheld (there were nobroker non-votes or abstentions).   Theresults of the 2008 Annual Meeting of Shareholders were as follows:

 

**Proposal #1 – Election of Class I Directors**

 
| ** **                   | ** ** | **Voting Shares in  Favor** | ** ** | **Withheld** | ** ** |
|------------------------------|------------|---------------------------------------|------------|--------------|------------|
| ** **                   | ** ** | **#**                                 | ** ** | **%**        | ** ** | **Authority** | ** ** |
| Raymond E. Cleary II, DDS    |       | 4,153,008                             |       | 85.7         |       | 65,817 |   |
| Thomas P. Anderson           |       | 4,150,583                             |       | 85.7         |       | 68,242 |   |
| Joe N. Jarrett, Jr., MD |       | 4,153,233                             |       | 85.7         |       | 65,592 |   |
| Richard E. Lester            |       | 4,152,783                             |       | 85.7         |       | 66,042 |   |
| Don J. Smith                 |       | 4,153,233                             |       | 85.7         |       | 65,592 |   |

 

**Item 5.  Other Information.**

 

Not applicable.

 

**Item 6.  Exhibits.**

 

| **Exhibit** | ** ** | **Description**                                                            |
|-------------|------------|----------------------------------------------------------------------------|
|        |       |                                                                       |
| 31.1        |       | Rule 13a-14(a) Certification  of the Principal Executive Officer |
|        |       |                                                                       |
| 31.2        |       | Rule 13a-14(a) Certification  of the Principal Financial Officer |
|        |       |                                                                       |
| 32          |       | Section 1350  Certifications                                          |

 

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SIGNATURES

 

In accordance with the requirements of the Exchange Act, the registrantcaused this report to be signed on its behalf by the undersigned, thereuntoduly authorized.

 
|   |                 |   |   | BEACH FIRST NATIONAL BANCSHARES, INC. |
|--------|----------------------|--------|--------|---------------------------------------|
|   |                 |   |   |                                  |
|   |                 |   |   |                                  |
| Date:  | August 8,  2008 |   |   | By:                                   | /s/ Walter E. Standish, III |
|   |                 |   |   |                                  | Walter E. Standish, III |
|   |                 |   |   |                                  | President and Chief Executive Officer |
|   |                 |   |   |                                  |   |
|   |                 |   |   |                                  |   |
| Date:  | August 8,  2008 |   |   | By:                                   | /s/ Gary S. Austin |
|   |                 |   |   |                                  | Gary S. Austin |
|   |                 |   |   |                                  | Chief Financial and Principal Accounting Officer |

 

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INDEX TO EXHIBITS

 

| **Exhibit** | ** ** | ** **                                                                 |
|-------------|------------|----------------------------------------------------------------------------|
| **Number**  | ** ** | **Description**                                                            |
|        |       |                                                                       |
| 31.1        |       | Rule 13a-14(a) Certification  of the Principal Executive Officer |
|        |       |                                                                       |
| 31.2        |       | Rule 13a-14(a) Certification  of the Principal Financial Officer |
|        |       |                                                                       |
| 32          |       | Section 1350  Certifications                                          |

 

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