**U.S. SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-KSB**

 

**(Mark One)**

 

| **ý** | ** ** | **Annual report  pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934**                                                                                                                                                          |
|------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|       |       |                                                                                                                                                                                                                                               |
| ** ** | ** ** | **For fiscal year ended December 31, 2005**                                                                                                                                                                                                        |
|       |       |                                                                                                                                                                                                                                               |
| **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:  000-51147**

 

**FIRSTBANK FINANCIAL SERVICES,INC.**

(Name of Small Business Issuer in Its Charter)

 

| **Georgia**                                                          | ** ** | **20-2198785**                    |
|----------------------------------------------------------------------|------------|-----------------------------------|
| (State or other jurisdiction of  incorporation or organization) |       | (IRS Employer Identification No.) |
|                                                                 |       |                              |
| **120 Keys Ferry Street, McDonough, GA**                             | ** ** | **30253**                         |
| (Address of Principal Executive Offices)                             |       | (Zip Code)                        |

 

**(678) 583-2265**

(Issuer’s Telephone Number, Including AreaCode)

 

Securitiesregistered pursuant to Section 12(b) of the Act:  **None**.

 

Securitiesregistered pursuant to Section 12(g) of the Act:  **Common Stock, Par Value$5.00 Per Share.**

 

Checkwhether the issuer is not required to file reports pursuant to Section 13 or15(d) of the Exchange Act. o

 

Checkwhether the issuer: (1) filed all reports required to be filed by Section 13 or15(d) of the Exchange Act during the past 12 months (or for such shorter periodthat the registrant was required to file such reports) and (2) has been subjectto such filing requirements for past 90 days. Yes   ý    No o

 

Checkif disclosure of delinquent filers in response to Item 405 of Regulation S-B isnot contained in this form, and no disclosure will be contained, to the best ofregistrant’s knowledge, in definitive proxy or information statementsincorporated by reference in Part III of this Form 10-KSB or any amendment tothis Form 10-KSB. o

 

Checkwhether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act):   Yes  o    No  ý

 

Statethe issuer’s revenues for its most recent fiscal year:  **$13,881,373**

 

Statethe aggregate market value of the voting and non-voting common equity held bynon-affiliates computed by reference to the price at which the common equitywas sold, or the average bid and asked price of such common equity, as of aspecified date within the past 60 days:  **$39,809,033 as of March 15, 2006.**

 

APPLICABLE ONLY TO CORPORATE REGISTRANTS

 

Statethe number of shares outstanding of each of the issuer’s classes of commonequity, as of the latest practicable date: **2,359,753shares outstanding of commonstock as of March 15, 2006.**

 

Transitional Small Business Disclosure format(check one):  Yes  o    No  ý

 

DOCUMENTS INCORPORATED BY REFERENCE

 

Proxy Statement for 2006 Annual Meeting ofShareholders (Part III, Items 9, 10 and 11)

 

 

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**TABLE OF CONTENTS**

 
| PART I     |                                                                                                             |   |
|------------|------------------------------------------------------------------------------------------------------------------|--------|
|       |                                                                                                             |   |
| ITEM 1.    | DESCRIPTION  OF BUSINESS                                                                                         |   |
| ITEM 2.    | DESCRIPTION  OF PROPERTY                                                                                         |   |
| ITEM 3.    | LEGAL PROCEEDINGS                                                                                                |   |
| ITEM  4.   | SUBMISSION  OF MATTERS TO A VOTE OF SECURITY HOLDERS                                                             |   |
|       |                                                                                                             |   |
| PART II    |                                                                                                             |   |
|       |                                                                                                             |   |
| ITEM  5.   | MARKET  FOR COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND SMALL BUSINESS ISSUER  PURCHASES OF EQUITY SECURITIES |   |
| ITEM  6.   | MANAGEMENT’S  DISCUSSION AND ANALYSIS                                                                       |   |
| ITEM 7.    | FINANCIAL  STATEMENTS                                                                                            |   |
| ITEM 8.    | CHANGES IN  AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE                            |   |
| ITEM 8A.   | CONTROLS AND  PROCEDURES                                                                                         |   |
| ITEM 8B.   | OTHER  INFORMATION                                                                                               |   |
|       |                                                                                                             |   |
| PART III   |                                                                                                             |   |
|       |                                                                                                             |   |
| ITEM 9.    | DIRECTORS  AND EXECUTIVE OFFICERS OF THE COMPANY                                                                 |   |
| ITEM 10.   | EXECUTIVE  COMPENSATION                                                                                          |   |
| ITEM 11.   | SECURITY  OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT                                                  |   |
| ITEM 12.   | CERTAIN  RELATIONSHIPS AND RELATED TRANSACTIONS                                                                  |   |
| ITEM 13.   | EXHIBITS                                                                                                         |   |
| ITEM 14.   | PRINCIPAL  ACCOUNTANT FEES AND SERVICES                                                                          |   |
|       |                                                                                                             |   |
| SIGNATURES |                                                                                                             |

 

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**PART I**

 

**ITEM 1.****                            ****DESCRIPTION OF BUSINESS**

 

**General**

 

FirstBankFinancial Services, Inc. (the “Company”) is a bank holding company whoseprincipal activity is the ownership and management of its wholly-ownedsubsidiary, First Bank of Henry County (the “Bank”). On February 1, 2005,pursuant to an Agreement and Plan of Share Exchange approved by the Bank’sshareholders, the Company acquired all of the Bank’s common stock in exchangefor one share of the Company’s stock.

 

TheBank began its banking operations on January 28, 2002, after receivingfinal approval from the Georgia Department of Banking and Finance (“GDBF”) andthe Federal Deposit Insurance Corporation (“FDIC”) to organize the Bank as astate-chartered commercial bank with federally insured deposits.

 

TheBank is a full-service commercial bank specializing in meeting the needs ofindividuals and small- to medium-sized businesses and professional concerns inHenry County. The Bank focuses on community involvement and personal servicewhile providing customers with sophisticated financial products. The Bankoffers a broad array of competitively priced deposit services, includinginterest-bearing and noninterest-bearing checking accounts, statement savingsaccounts, money market deposits, certificates of deposit and individualretirement accounts. In addition, the Bank complements its lending and depositproducts by offering ATM and debit cards, travelers’ checks, official checks,credit cards, direct deposit, automatic transfers, savings bonds, nightdepository, stop payments, collections, wire transfers and overdraftprotection.

 

**Market Area and Competition**

 

TheBank’s target market is specifically southern Henry County. The city ofMcDonough, which is the focal point of the Bank’s primary service area, andHenry County are immediately accessible to traffic from all directions viaInterstate 75 and Georgia Highways 81 and 155. Henry County is locatedapproximately 25 miles southeast of downtown Atlanta, in the southern portionof the Metropolitan Atlanta MSA, and 20 miles southeast of HartsfieldInternational Airport.

 

HenryCounty has a very active and highly competitive banking market. The Bankcompetes with all of the super-regionals as well as national competitors,including:  Bank of America, SunTrust,Wachovia, The First State Bank, Heritage Bank, First National Bank, Park AvenueBank and BB&T. Most of these institutions have offices within two miles ofthe location of the Bank’s main office. The FDIC reports that, as ofJune 30, 2005, commercial bank deposits in Henry County totaledapproximately $1,606,902,000. Presently, 19 commercial banks serve Henry Countywith a total of 53 branches.

 

**Lending Services**

 

**Lending Policy.**FirstBank of Henry County aggressively seeks creditworthy borrowers within itsprimary service area. The Bank’s primary lending function is to make loans tosmall- to medium-sized businesses. In addition to commercial loans, the Bankmakes installment loans, home equity loans, real estate loans and secondmortgage loans to individual consumers. Our current loan portfolio is comprisedof the following:

 

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| **Loan Category** | ** ** | **Ratio** | ** ** |
|------------------------|------------|-----------|------------|
|                   |       |      |       |
| Commercial  Lending    |       | 11        | %          |
| Real Estate  Lending   |       | 88        | %          |
| Consumer Lending       |       | 1         | %          |

 

**Loan Approval and Review.**First Bank of Henry County’s loan approval provides for various levelsof officer lending authority. When the total amount of loans to a singleborrower exceeds an individual officer’s lending authority, an officer with ahigher lending limit or the Bank’s Loan Committee determines whether to approvethe loan request.

 

**Lending Limits.**FirstBank of Henry County’s legal lending limits are 15% of its unimpaired capitaland surplus for unsecured loans and 25% of its unimpaired capital and surplusfor loans secured by readily marketable collateral. As of December 31, 2005,First Bank of Henry County’s legal lending limit for unsecured loans wasapproximately $3,294,000 and its legal lending limit for secured loans wasapproximately $5,490,000**.**While theBank generally employs more conservative lending limits, the Board of Directorshas discretion to lend up to its legal lending limits.

 

**Credit Risks**.The principal economic risk associated with each category of the loans that theBank makes is the creditworthiness of the borrower. General economic conditionsand the strength of the services and retail market segments affect borrowercreditworthiness. Risks associated with real estate loans also includefluctuations in the value of real estate, new job creation trends, tenantvacancy rates and, in the case of commercial borrowers, the quality of the borrower’smanagement. In addition, a commercial borrower’s ability both to evaluateproperly changes in the supply and demand characteristics affecting its marketsfor products and services and to respond effectively to these changes aresignificant factors in the creditworthiness of a commercial borrower. Generaleconomic factors affecting a borrower’s ability to repay include interest,inflation and employment rates, as well as other factors affecting a borrower’scustomers, suppliers and employees.

 

Thewell-established banks in Henry County are likely to make proportionately moreloans to medium- to large-sized businesses than First Bank of Henry County. Manyof the commercial loans that the Bank makes are made to small- to medium-sizedbusinesses, which may be less able to withstand competitive, economic andfinancial pressures than larger borrowers.

 

**Commercial Loans**.First Bank of Henry County makes loans to small- to medium-sized businesseswhose demand for funds falls within the legal lending limits of the Bank. Thiscategory of loans includes loans made to individual, partnership or corporateborrowers, and obtained for a variety of business purposes. Risks associatedwith these loans can be significant and include but are not limited to fraud,bankruptcy, economic downturn, deteriorated or non-existing collateral andchanges in interest rates.

 

**Real Estate Loans**. First Bank of Henry County makes and holds real estate loans,consisting primarily of single-family residential construction loans for one- tofour-unit family structures. The Bank requires a first lien position on theland associated with the construction project and offers these loans toprofessional building contractors and homeowners. Loan disbursements requireon-site inspections to assure the project is on budget and that the loanproceeds are being used for the construction project and not being diverted toanother project. The loan-to-value ratio for these loans is predominantly 80%of the lower of the as-built appraised value or project cost, and is a maximumof 90% if the loan is amortized. Loans for construction can present a highdegree of risk to the lender, depending upon, among other things, whether thebuilder can sell the home to a buyer, whether the buyer can obtain permanent 

 

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financing, whether the transaction produces income in the interim andthe nature of changing economic conditions.

 

**Consumer Loans**.First Bank of Henry County makes a variety of loans to individuals for personal,family and household purposes, including secured and unsecured installment andterm loans, home equity loans and lines of credit. Consumer loan repaymentsdepend upon the borrower’s financial stability and are more likely to beadversely affected by divorce, job loss, illness and personal hardships. Becausedepreciable assets such as boats, cars and trailers secure many consumer loans,the Bank amortizes these loans over the useful life of the asset. To minimizethe risk that the borrower cannot afford the monthly payments, fixed monthlyobligations are limited to no more than 40% of the borrower’s gross monthlyincome. The borrower should also be employed for at least 12 months prior toobtaining the loan. The loan officer reviews the borrower’s past credithistory, past income level, debt history and, when applicable, cash flow todetermine the impact of all of these factors on the borrower’s ability to makefuture payments as agreed.

 

**Investments**

 

Inaddition to loans, First Bank of Henry County makes other investments primarilyin obligations of the United States or obligations guaranteed as to principaland interest by the United States. As of December 31, 2005, investmentsecurities comprised approximately 14% of the Bank’s assets, with net loans comprisingapproximately 75%. No investment in any of these instruments exceeds applicablelimitation imposed by law or regulation.

 

**Deposits**

 

FirstBank of Henry County offers a wide range of commercial and consumer depositaccounts, including checking accounts, money market accounts, a variety ofcertificates of deposit, and IRA accounts. The Bank attracts deposits with anaggressive marketing plan, a broad product line and competitive products andservices. The primary sources of deposits are Henry County residents, localbusinesses and their employees and brokered deposits.

 

**Asset and Liability Management**

 

FirstBank of Henry County manages its assets and liabilities to provide an optimumand stable net interest margin, a profitable after-tax return on assets andreturn on equity, and adequate liquidity. These management functions areconducted within the framework of the Bank’s written loan and investmentpolicies. The Bank attempts to maintain a balanced position betweenrate-sensitive assets and rate-sensitive liabilities. It charts assets andliabilities on a matrix by maturity, effective duration, and interestadjustment period, and endeavors to manage any gaps in maturity ranges.

 

**Employees**

 

Asof December 31, 2005, the Bank had 39 full-time employees. The Bank is not aparty to any collective bargaining agreement and, in the opinion of management,enjoys excellent relations with its employees.

 

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**Supervision and Regulation**

 

Boththe Company and the Bank are subject to extensive state and federal bankingregulations that impose restrictions on and provide for general regulatoryoversight of our operations. These laws generally are intended to protectdepositors and not shareholders. The following discussion describes thematerial elements of the regulatory framework that applies to us.

 

**The Company**

 

Becausewe own all of the capital stock of the Bank, we are a bank holding companyunder the federal Bank Holding Company Act of 1956 (the “Bank Holding CompanyAct”). As a result, we are primarily subject to the supervision, examinationand reporting requirements of the Bank Holding Company Act and the regulationsof the Federal Reserve Board. As a bank holding company located in Georgia, theGeorgia Department of Banking and Finance also regulates and monitors allsignificant aspects of our operations.

 

***Acquisitions of Banks.***The Bank Holding Company Act requires everybank holding company to obtain the Federal Reserve Board’s prior approvalbefore:

 

•                                          acquiring direct or indirect ownership orcontrol of any voting shares of any bank if, after the acquisition, the bankholding company will directly or indirectly own or control more than 5% of thebank’s voting shares;

•                                          acquiring all or substantially all of theassets of any bank; or

•                                          merging or consolidating with any other bankholding company.

 

Additionally,the Bank Holding Company Act provides that the Federal Reserve Board may notapprove any of these transactions if it would result in or tend to create a monopolyor, substantially lessen competition or otherwise function as a restraint oftrade, unless the anti-competitive effects of the proposed transaction areclearly outweighed by the public interest in meeting the convenience and needsof the community to be served. The Federal Reserve Board is also required toconsider the financial and managerial resources and future prospects of thebank holding companies and banks concerned and the convenience and needs of thecommunity to be served. The Federal Reserve Board’s consideration of financialresources generally focuses on capital adequacy, which is discussed below.

 

Underthe Bank Holding Company Act, if adequately capitalized and adequately managed,we, as well as other banks located within Georgia, may purchase a bank locatedoutside of Georgia. Conversely, an adequately capitalized and adequatelymanaged bank holding company located outside of Georgia may purchase a banklocated inside Georgia. In each case, however, restrictions may be placed onthe acquisition of a bank that has only been in existence for a limited amountof time or will result in specified concentrations of deposits. Currently,Georgia law prohibits a bank holding company from acquiring control of afinancial institution until the target financial institution has beenincorporated for three years. Because our the bank has been chartered for morethan three years, this limitation would not limit our ability to sell.

 

***Change in Bank Control.******  ***Subject to various exceptions, the Bank HoldingCompany Act and the Change in Bank Control Act, together with relatedregulations, require Federal Reserve Board approval prior to any person orcompany acquiring “control” of a bank holding company. Control is conclusivelypresumed to exist if an individual or company acquires 25% or more of any classof voting securities of the bank holding company. Control is rebuttablypresumed to exist if a person or company acquires 10% or more, but less than25%, of any class of voting securities and either:

 

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•                                          the bank holding company has registeredsecurities under Section 12 of the Securities Act of 1934; or

•                                          no other person owns a greater percentage ofthat class of voting securities immediately after the transaction.

 

Ourcommon stock is registered under Section 12 of the Securities Exchange Actof 1934. The regulations provide a procedure for challenging any rebuttablepresumption of control.

 

***Permitted Activities.******  ***A bank holding company is generally permittedunder the Bank Holding Company Act, to engage in or acquire direct or indirectcontrol of more than 5% of the voting shares of any company engaged in thefollowing activities:

 

•                                          banking or managing or controlling banks; and

•                                          any activity that the Federal Reserve Boarddetermines to be so closely related to banking as to be a proper incident tothe business of banking.

 

Activitiesthat the Federal Reserve Board has found to be so closely related to banking asto be a proper incident to the business of banking include:

 

•                                          factoring accounts receivable;

•                                          making, acquiring, brokering or servicingloans and related activities;

•                                          leasing personal or real property;

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

•                                          trust company functions;

•                                          financial and investment advisory activities;

•                                          conducting discount securities brokerageactivities;

•                                          underwriting and dealing in governmentobligations and money market instruments;

•                                          providing specified management consulting andcounseling activities;

•                                          performing selected data processing servicesand support services;

•                                          acting as agent or broker in selling creditlife insurance and other types of insurance in connection with credittransactions; and

•                                          performing selected insurance underwritingactivities.

 

Despiteprior approval, the Federal Reserve Board may order a bank holding company orits subsidiaries to terminate any of these activities or to terminate itsownership or control of any subsidiary when it has reasonable cause to believethat the bank holding company’s continued ownership, activity or controlconstitutes a serious risk to the financial safety, soundness or stability ofit or any of its bank subsidiaries.

 

Inaddition to the permissible bank holding company activities listed above, abank holding company may qualify and elect to become a financial holdingcompany, permitting the holding company to engage in additional activities thatare financial in nature or incidental or complementary to financial activity.The following activities are considered financial in nature:

 

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•                                          lending, trust and other banking activities;

•                                          insuring, guaranteeing or indemnifyingagainst loss or harm, or providing and issuing annuities and acting asprincipal, agent or broker for these purposes, in any state;

•                                          providing financial, investment or advisoryservices;

•                                          issuing or selling instruments representinginterests in pools of assets permissible for a bank to hold directly;

•                                          underwriting, dealing in or making a marketin securities;

•                                          other activities that the Federal ReserveBoard may determine to be so closely related to banking or managing orcontrolling banks as to be a proper incident to managing or controlling banks;

•                                          foreign activities permitted outside of theUnited States if the Federal Reserve Board has determined them to be usual inconnection with banking operations abroad;

•                                          merchant banking through securities orinsurance affiliates; and

•                                          insurance company portfolio investments.

 

Toqualify to become a financial holding company, any subsidiary bank must be wellcapitalized and well managed and must have a Community Reinvestment Act ratingof at least “satisfactory.” Additionally, we would be required to file anelection with the Federal Reserve Board to become a financial holding companyand must provide the Federal Reserve Board with 30 days’ written notice priorto engaging in a permitted financial activity. While we meet the qualificationstandards applicable to financial holding companies, we have not elected tobecome a financial holding company at this time.

 

***Support of Subsidiary Institution.***Under Federal Reserve Board policy, we areexpected to act as a source of financial strength and commit resources tosupport the Bank. This support may be required at times when, without thisFederal Reserve Board policy, we might not be inclined to provide it.Accordingly, in connection with the formation of the bank holding company wemade a commitment to the Federal Reserve Board not to incur any debt withoutits approval. In addition, any capital loans made by us to the Bank will berepaid only after its deposits and various other obligations are repaid infull. In the unlikely event of our bankruptcy, any commitment we give to afederal bank regulatory agency to maintain the capital of the Bank will beassumed by the bankruptcy trustee and entitled to a priority of payment.

 

**The Bank**

 

Sincethe Bank is a commercial bank chartered under the laws of the State of Georgia,we are primarily subject to the supervision, examination and reportingrequirements of the FDIC and the Georgia Department of Banking and Finance. TheFDIC and Department of Banking and Finance regularly examine the bank’s operationsand have the authority to approve or disapprove mergers, the establishment ofbranches and similar corporate actions. Both regulatory agencies have the powerto prevent the continuance or development of unsafe or unsound bankingpractices or other violations of law. Additionally, our deposits are insured bythe FDIC to the maximum extent provided by law. We are also subject to numerousstate and federal statutes and regulations that affect our business, activitiesand operations.

 

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***Branching.*****  **Under current Georgia law, we may open branchoffices throughout Georgia with the prior approval of the Department of Bankingand Finance. In addition, with prior regulatory approval, we may acquirebranches of existing banks located in Georgia. the Bank and any other nationalor state-chartered bank generally may branch across state lines only if allowedby the applicable states’ laws. Georgia law, with limited exceptions, currentlypermits branching across state lines only through interstate mergers.

 

Underthe Federal Deposit Insurance Act, states may “opt-in” and allow out-of-statebanks to branch into their state by establishing a new start-up branch in thestate. Currently, Georgia has not opted-in to this provision. Therefore,interstate merger is the only method through which a bank located outside ofGeorgia may branch into Georgia. This provides a limited barrier of entry intothe Georgia banking market, which protects us from an important segment ofpotential competition. However, because Georgia has elected not to opt-in, ourability to establish a new start-up branch in another state is limited. Manystates that have elected to opt-in have done so on a reciprocal basis, meaningthat an out-of-state bank may establish a new start-up branch only if theirhome state has also elected to opt-in. Consequently, until Georgia changes itselection, the only way we will be able to branch into states that have electedto opt-in on a reciprocal basis will be through interstate merger.

 

***Prompt Corrective Action.***The Federal Deposit Insurance CorporationImprovement Act of 1991 established a system of prompt corrective action toresolve the problems of undercapitalized financial institutions. Under thissystem, the federal banking regulators have established five capital categories(well capitalized, adequately capitalized, undercapitalized, significantlyundercapitalized and critically undercapitalized) into which all institutionsare placed. The federal banking agencies have specified by regulation therelevant capital level for each category. Federal banking regulators arerequired to take various mandatory supervisory actions and are authorized totake other discretionary actions with respect to institutions in the three undercapitalizedcategories. The severity of the action depends upon the capital category inwhich the institution is placed. Generally, subject to a narrow exception, thebanking regulator must appoint a receiver or conservator for an institutionthat is critically undercapitalized.

 

An institution that is categorized asundercapitalized, significantly undercapitalized or critically undercapitalizedis required to submit an acceptable capital restoration plan to its appropriatefederal regulator. A bank holding company must guarantee that a subsidiarydepository institution meets its capital restoration plan, subject to variouslimitations. The controlling holding company’s obligation to fund a capitalrestoration plan is limited to the lesser of 5% of an undercapitalizedsubsidiary’s assets at the time it became undercapitalized or the amountrequired to meet regulatory capital requirements. An undercapitalizedinstitution is also generally prohibited from increasing its average totalassets, making acquisitions, establishing any branches or engaging in any newline of business, except under an accepted capital restoration plan or withFDIC approval. The regulations also establish procedures for downgrading aninstitution to a lower capital category based on supervisory factors other thancapital.

 

***FDIC Insurance Assessments.*****  **The FDIC has adopted a risk-based assessmentsystem for insured depository institutions that takes into account the risksattributable to different categories and concentrations of assets andliabilities. The system assigns an institution to one of three capitalcategories:  (1) well capitalized,(2) adequately capitalized and (3) undercapitalized. These threecategories are substantially similar to the prompt corrective action categoriesdescribed above, with the “undercapitalized” category including institutionsthat are undercapitalized, significantly undercapitalized and criticallyundercapitalized for prompt corrective action purposes. The FDIC also assignsan institution to one of three supervisory subgroups based on a supervisoryevaluation that the institution’s primary federal regulator provides to theFDIC and information that the FDIC determines to be relevant to the institution’sfinancial condition and the risk posed to the deposit insurance funds.Assessments range from 

 

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0 to 27 cents per $100 of deposits, depending on the institution’scapital group and supervisory subgroup. In addition, the FDIC imposesassessments to help pay off the $780 million in annual interest payments on the$8 billion Financing Corporation bonds issued in the late 1980s as part of thegovernment rescue of the thrift industry. This assessment rate is adjustedquarterly and was set at 1.32 cents per $100 of deposits for the first quarterof 2006.

 

TheFDIC may terminate its insurance of deposits if it finds that the institutionhas engaged in unsafe and unsound practices; is in an unsafe or unsoundcondition to continue operations; or has violated any applicable law,regulation, rule, order or condition imposed by the FDIC.

 

***Community Reinvestment Act.***The Community Reinvestment Act requires that,in connection with examinations of financial institutions within theirrespective jurisdictions, the Federal Reserve, the FDIC or the OCC shallevaluate the record of each financial institution in meeting the credit needsof its local community, including low and moderate-income neighborhoods. Thesefacts are also considered in evaluating mergers, acquisitions and applicationsto open a branch or facility. Failure to adequately meet these criteria couldimpose additional requirements and limitations on the Bank. Additionally, wemust publicly disclose the terms of various Community Reinvestment Act-relatedagreements.

 

***Other Regulations.*****  **Interest and other charges collected or contractedfor by the Bank are subject to state usury laws and federal laws concerninginterest rates. The Bank’s loan operations will be subject to federal lawsapplicable to credit transactions, such as the:

 

•                                          Federal Truth-In-Lending Act, governingdisclosures of credit terms to consumer borrowers;

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

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

•                                          Fair Credit Reporting Act of 1978, as amendedby the Fair and Accurate Credit Transactions Act, governing the use andprovision of information to credit reporting agencies, certain identity theftprotections, and certain credit and other disclosures;

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

•                                          Servicemembers Civil Relief Act, whichamended the Soldiers’ and Sailors’ Civil Relief Act of 1940, governing therepayment terms of, and property rights underlying, secured obligations ofpersons in military service; and

•                                          rules and regulations of the variousfederal agencies charged with the responsibility of implementing these federallaws.

 

The deposit operations ofthe bank are subject to the:

 

•                                          Right to Financial Privacy Act, which imposesa duty to maintain confidentiality of consumer financial records and prescribesprocedures for complying with administrative subpoenas of financial records;and

 

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•                                          Electronic Funds Transfer Act and RegulationE issued by the Federal Reserve Board to implement that act, which governautomatic deposits to and withdrawals from deposit accounts and customers’rights and liabilities arising from the use of automated teller machines andother electronic banking services.

 

**Capital Adequacy**

 

Weare required to comply with the capital adequacy standards established by theFederal Reserve Board, in the case of the Company, and the FDIC, in the case ofthe bank.

 

TheFederal Reserve Board has established a risk-based and a leverage measure ofcapital adequacy for bank holding companies. The risk-based capital standardsare designed to make regulatory capital requirements more sensitive todifferences in risk profiles among banks and bank holding companies, to accountfor off-balance-sheet exposure, and to minimize disincentives for holdingliquid assets. Assets and off-balance-sheet items, such as letters of creditand unfunded loan commitments, are assigned to broad risk categories, each withappropriate risk weights. The resulting capital ratios represent capital as apercentage of total risk-weighted assets and off-balance-sheet items.

 

Theminimum guideline for the ratio of total capital to risk-weighted assets is 8%.Total capital consists of two components, Tier 1 Capital and Tier 2 Capital.Tier 1 Capital generally consists of common stock, minority interests in theequity accounts of consolidated subsidiaries, noncumulative perpetual preferredstock and a limited amount of qualifying cumulative perpetual preferred stock, lessgoodwill and other specified intangible assets. Tier 1 Capital must equal atleast 4% of risk-weighted assets. Tier 2 Capital generally consists ofsubordinated debt, other preferred stock and a limited amount of loan lossreserves. The total amount of Tier 2 Capital is limited to 100% of Tier 1Capital. At December 31 2005, our ratio of total capital to risk-weightedassets was 14.37% and our ratio of Tier 1 Capital to risk-weighted assets was13.36%.

 

Inaddition, the Federal Reserve Board has established minimum leverage ratioguidelines for bank holding companies. These guidelines provide for a minimumratio of Tier 1 Capital to average assets, less goodwill and other specifiedintangible assets, of 3% for bank holding companies that meet specified criteria,including having the highest regulatory rating and implementing the FederalReserve Board’s risk-based capital measure for market risk. All other bankholding companies generally are required to maintain a leverage ratio of atleast 4%.****At December 30, 2005,our leverage ratio was 11.80%. The guidelines also provide that bank holdingcompanies experiencing internal growth or making acquisitions will be expectedto maintain strong capital positions substantially above the minimum supervisorylevels without reliance on intangible assets. The Federal Reserve Boardconsiders the leverage ratio and other indicators of capital strength inevaluating proposals for expansion or new activities.

 

Failureto meet capital guidelines could subject a bank and a bank holding company to avariety of enforcement remedies, including issuance of a capital directive, thetermination of deposit insurance by the FDIC, a prohibition on acceptingbrokered deposits and certain other restrictions on its business. As described above,significant additional restrictions can be imposed on FDIC-insured depositoryinstitutions that fail to meet applicable capital requirements.

 

**Payment of Dividends**

 

TheCompany is a legal entity separate and distinct from the Bank. The principalsources of our cash flow, including cash flow to pay dividends to itsshareholders, are dividends that we receive from the bank. Statutory andregulatory limitations apply to the payment of dividends by a subsidiary bankto its 

 

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bank holding company. These same limitations apply to a bank holdingcompany’s payment of dividends to its shareholders. Our payment of dividendsmay also be affected by other factors, such as the requirement to maintainadequate capital above regulatory guidelines.

 

Statutoryand regulatory limitations apply to our payment of dividends to ourshareholders. If, in the opinion of the federal banking regulator, we wereengaged in or about to engage in an unsafe or unsound practice, the federalbanking regulator could require, after notice and a hearing, that we cease anddesist from its practice. The federal banking agencies have indicated thatpaying dividends that deplete a depository institution’s capital base to aninadequate level would be an unsafe and unsound banking practice. Under theFederal Deposit Insurance Corporation Improvement Act of 1991, a depositoryinstitution may not pay any dividend if payment would cause it to becomeundercapitalized or if it already is undercapitalized. Moreover, the federalagencies have issued policy statements that provide that insured banks shouldgenerally only pay dividends out of current operating earnings

 

TheDepartment of Banking and Finance also regulates our dividend payments and mustapprove dividend payments that would exceed 50% of the bank’s net income forthe prior year. Our payment of dividends may also be affected or limited byother factors, such as the requirement to maintain adequate capital aboveregulatory guidelines. At December 31, 2005, the Bank could pay cashdividends of approximately $1,286,000 to the Company without prior regulatoryapproval.

 

In2005, we declared no cash dividends. We have not declared a cash dividend sinceour inception and we do not expect to do so in the foreseeable future. Instead,we anticipate that all of our earnings, if any, will be used for workingcapital, to support our operations and to finance the growth and development ofour business. Any future determination relating to dividend policy will be madeat the discretion of our Board of Directors and will depend on many of thestatutory and regulatory factors mentioned above.

 

**Restrictions on Transactions with Affiliates**

 

TheCompany and the Bank are subject to the provisions of Section 23A of theFederal Reserve Act. Section 23A places limits on the amount of:

 

•                                          a bank’s loans or extensions of credit toaffiliates;

•                                          a bank’s investment in affiliates;

•                                          assets a bank may purchase from affiliates,except for real and personal property exempted by the Federal Reserve Board;

•                                          loans or extensions of credit to thirdparties collateralized by the securities or obligations of affiliates; and

•                                          a bank’s guarantee, acceptance or letter ofcredit issued on behalf of an affiliate.

 

Thetotal amount of the above transactions is limited in amount, as to any oneaffiliate, to 10% of a bank’s capital and surplus and, as to all affiliatescombined, to 20% of a bank’s capital and surplus. In addition to the limitationon the amount of these transactions, each of the above transactions must alsomeet specified collateral requirements. We must also comply with otherprovisions designed to avoid the taking of low-quality assets.

 

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Weare subject to the provisions of Section 23B of the Federal Reserve Actwhich, among other things, prohibit an institution from engaging in the abovetransactions with affiliates unless the transactions are on terms substantiallythe same, or at least as favorable to the institution or its subsidiaries, asthose prevailing at the time for comparable transactions with nonaffiliatedcompanies.

 

Weare subject to restrictions on extensions of credit to our executive officers,directors, principal shareholders and their related interests. These extensionsof credit (1) must be made on substantially the same terms, includinginterest rates and collateral, as those prevailing at the time for comparabletransactions with third parties and (2) must not involve more than thenormal risk of repayment or present other unfavorable features.

 

**Privacy**

 

Underthe Gramm-Leach-Bliley Act, financial institutions are required to disclosetheir policies for collecting and protecting confidential information.Customers generally may prevent financial institutions from sharing nonpublicpersonal financial information with nonaffiliated third parties except undernarrow circumstances, such as the processing of transactions requested by theconsumer or when the financial institution is jointly sponsoring a product orservice with a nonaffiliated third party. Additionally, financial institutionsgenerally may not disclose consumer account numbers to any nonaffiliated thirdparty for use in telemarketing, direct mail marketing or other marketing toconsumers. We have established policies and procedures to assure our compliancewith all privacy provisions of the Gramm-Leach-Bliley Act.

 

**Anti-Terrorism and Money Laundering Legislation**

 

Weare subject to the Uniting and Strengthening America by Providing AppropriateTools Required to Intercept and Obstruct Terrorism of 2001 (the USA PATRIOTAct), the Bank Secrecy Act and rules and regulations of the Office ofForeign Assets Control (the OFAC). These statutes and related rules andregulations impose requirements and limitations on specific financialtransactions and account relationships, intended to guard against moneylaundering and terrorism financing. We have established a customeridentification program pursuant to Section 326 of the USA PATRIOT Act andthe Bank Secrecy Act, and otherwise has implemented policies and procedures tocomply with the foregoing rules.

 

**Federal Deposit Insurance Reform**

 

OnFebruary 8, 2006, President Bush signed the Federal Deposit Insurance ReformAct of 2005 (FDIRA). The FDIC must adopt rules implementing the variousprovisions of FDIRA by November 5, 2006.

 

Among other things, FDIRA changes the Federaldeposit insurance system by:

 

•                                          raising the coverage level for retirementaccounts to $250,000;

•                                          indexing deposit insurance coverage levelsfor inflation beginning in 2012;

•                                          prohibiting undercapitalized financialinstitutions from accepting employee benefit plan deposits;

•                                          merging the Bank Insurance Fund and SavingsAssociation Insurance Fund into a new Deposit Insurance Fund (the DIF); and

•                                          providing credits to financial institutionsthat capitalized the FDIC prior to 1996 to offset future assessment premiums.

 

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FDIRAalso authorizes the FDIC to revise the current risk-based assessment system,subject to notice and comment and caps the amount of the DIF at 1.50% ofdomestic deposits. The FDIC must issue cash dividends, awarded on a historicalbasis, for the amount of the DIF over the 1.50% ratio. Additionally, if the DIFexceeds 1.35% of domestic deposits at year-end, the FDIC must issue cashdividends, awarded on a historical basis, for half of the amount of the excess.

 

**Proposed Legislation and Regulatory Action**

 

Newregulations and statutes are regularly proposed that contain wide-rangingpotential changes to the structures, regulations and competitive relationshipsof financial institutions operating and doing business in the United States. Wecannot predict whether or in what form any proposed regulation or statute willbe adopted or the extent to which our business may be affected by any newregulation or statute.

 

**Effect of Governmental Monetary Polices**

 

Ourearnings are affected by domestic economic conditions and the monetary andfiscal policies of the United States government and its agencies. The FederalReserve Board’s monetary policies have had, and are likely to continue to have,an important impact on the operating results of commercial banks through itspower to implement national monetary policy in order, among other things, tocurb inflation or combat a recession. The monetary policies of the FederalReserve Board affect the levels of bank loans, investments and deposits throughits control over the issuance of United States government securities, itsregulation of the discount rate applicable to member banks and its influenceover reserve requirements to which member banks are subject. We cannot predictthe nature or impact of future changes in monetary and fiscal policies.

 

**Risk Factors**

 

*An investment in our common stock involves risks. If any of thefollowing risks or other risks, which have not been identified or which we maybelieve are immaterial or unlikely, actually occur, our business, financialcondition and results of operations could be harmed. In such a case, the tradingprice of our common stock could decline, and shareholders may lose all or partof their investment. The risks discussed below also include forward-lookingstatements, and our actual results may differ substantially from thosediscussed in these forward-looking statements.*

 

***We could suffer loan losses from a decline in creditquality.***

 

Wecould sustain losses if borrowers, guarantors and related parties fail toperform in accordance with the terms of their loans. We have adoptedunderwriting and credit monitoring procedures and policies, including theestablishment and review of the allowance for credit losses that we believe areappropriate to minimize this risk by assessing the likelihood ofnonperformance, tracking loan performance and diversifying our credit portfolio.These policies and procedures, however, may not prevent unexpected losses thatcould materially adversely affect our results of operations.

 

***If the value of real estate in our core market were todecline materially, a significant portion of our loan portfolio could becomeunder-collateralized, which could have a material adverse effect on ourbusiness, financial condition and results of operations.***

 

Withmost of our loans concentrated in Henry County, a decline in local economicconditions could adversely affect the values of our real estate collateral. Consequently,a decline in local economic 

 

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conditions may have a greater effect on our earnings and capital thanon the earnings and capital of larger financial institutions whose real estateloan portfolios are geographically diverse.

 

Inaddition to considering the financial strength and cash flow characteristics ofborrowers, we often secure loans with real estate collateral. At December 31,2005, approximately 88% of our loans had real estate as a primary or secondarycomponent of collateral. The real estate collateral in each case provides analternate source of repayment in the event of default by the borrower and maydeteriorate in value during the time the credit is extended. If we are requiredto liquidate the collateral securing a loan to satisfy the debt during a periodof reduced real estate values, our earnings and capital could be adverselyaffected.

 

***Our profitability is vulnerable to interest ratefluctuations.***

 

Ourprofitability depends substantially upon our net interest income. Net interestincome is the difference between the interest earned on assets, such as loansand investment securities, and the interest paid for liabilities, such assavings and time deposits and out-of-market certificates of deposit. Marketinterest rates for loans, investments and deposits are highly sensitive to manyfactors beyond our control. Recently, interest rate spreads have generallynarrowed due to changing market conditions, policies of various government andregulatory authorities and competitive pricing pressures, and we cannot predictwhether these rate spreads will narrow even further. This narrowing of interestrate spreads could adversely affect our financial condition and results ofoperations. In addition, we cannot predict whether interest rates will continueto remain at present levels. Changes in interest rates may cause significantchanges, up or down, in our net interest income. Depending on our portfolio ofloans and investments, our results of operations may be adversely affected bychanges in interest rates.

 

***Our business strategy includes the continuation of growthplans, and our financial condition and results of operations could benegatively affected if we fail to grow or fail to manage our growtheffectively.***

 

Weintend to continue pursuing a growth strategy for our business. Our prospectsmust be considered in light of the risks, expenses and difficulties frequentlyencountered by companies in growth stages of development. We cannot assure youwe will be able to expand our market presence in our existing markets orsuccessfully enter new markets or that any such expansion will not adverselyaffect our results of operations. Failure to manage our growth effectivelycould have a material adverse effect on our business, financial condition,results of operations, or future prospects, and could adversely affect ourability to successfully implement our business strategy. Also, if our growthoccurs more slowly than anticipated or declines, our results of operationscould be materially adversely affected.

 

Ourability to grow successfully will depend on a variety of factors including thecontinued availability of desirable business opportunities, the competitiveresponses from other financial institutions in our market areas and our abilityto manage our growth. While we believe we have the management resources andinternal systems in place to manage our future growth, there can be noassurance that growth opportunities will be available or growth will be managedsuccessfully.

 

***Additional growth may require us to raise additional capitalin the future, but that capital may not be available when it is needed, whichcould adversely affect our financial condition and results of operations.***

 

Weare required by federal and state regulatory authorities to maintain adequatelevels of capital to support our operations. We anticipate that our currentcapital resources will satisfy our capital 

 

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requirements for the foreseeable future. We may at some point, however,need to raise additional capital to support our continued growth.

 

Ourability to raise additional capital, if needed, will depend on conditions inthe capital markets at that time, which are outside our control, and on ourfinancial performance. Accordingly, we cannot assure you of our ability toraise additional capital, if needed, on terms acceptable to us. If we cannotraise additional capital when needed, our ability to further expand ouroperations could be materially impaired.

 

***Our plans for future expansion depend, in some instances, onfactors beyond our control, and an unsuccessful attempt to achieve growth couldhave a material adverse effect on our business, financial condition, results ofoperations and future prospects.***

 

Weexpect to continue to engage in new branch expansion in the future. We may alsoseek to acquire other financial institutions, or parts of those institutions,though we have no present plans in that regard. Expansion involves a number ofrisks, including:

 

•                                          the time and costs of evaluating new markets,hiring experienced local management and opening new offices;

•                                          the time lags between these activities andthe generation of sufficient assets and deposits to support the costs of theexpansion;

•                                          we may not be able to finance an acquisitionwithout diluting the interests of our existing shareholders;

•                                          the diversion of our management’s attentionto the negotiation of a transaction may detract from their businessproductivity;

•                                          we may enter into new markets where we lackexperience; and

•                                          we may introduce new products and serviceswith which we have no prior experience into our business.

 

***Our corporate culture has contributed to our success, and ifwe cannot maintain this culture as we grow, we could lose the teamwork andincreased productivity fostered by our culture, which could harm our business.***

 

We believe that a critical contributor to oursuccess has been our corporate culture, which we believe fosters teamwork andincreased productivity. As our organization grows and we are required to implement more complex organization management structures, we mayfind it increasingly difficult to maintain the beneficial aspects of ourcorporate culture. This could negatively impact our future success.

 

***An economic downturn, especially one affecting our marketareas, could adversely affect our financial condition, results of operations orcash flows.***

 

Oursuccess depends upon the growth in population, income levels, deposits andhousing starts in our primary market areas. If the communities in which weoperate do not grow, or if prevailing economic conditions locally or nationallyare unfavorable, our business may not succeed. Unpredictable economicconditions may have an adverse effect on the quality of our loan portfolio andour financial performance. Economic recession over a prolonged period or othereconomic problems in our market areas could have a material adverse impact onthe quality of the loan portfolio and the demand for our products and services.Future adverse changes in the economies in our market areas may have a materialadverse effect 

 

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on our financial condition, results of operations or cash flows. Further,the banking industry in Georgia is affected by general economic conditions suchas inflation, recession, unemployment and other factors beyond our control. Asa community bank, we are less able to spread the risk of unfavorable localeconomic conditions than larger or more regional banks. Moreover, we cannotgive any assurance that we will benefit from any market growth or favorableeconomic conditions in our primary market areas even if they do occur.

 

***Our recent results may not be indicative of our futureresults, and may not provide guidance to assess the risk of an investment inour common stock.***

 

Wemay not be able to sustain our historical rate of growth or may not even beable to grow our business at all. In addition, our recent and rapid growth maydistort some of our historical financial ratios and statistics. In the future,we may not have the benefit of several recently favorable factors, such as agenerally increasing interest rate environment, a strong residential mortgagemarket or the ability to find suitable expansion opportunities. Variousfactors, such as economic conditions, regulatory and legislative considerationsand competition, may also impede or prohibit our ability to expand our marketpresence. If we experience a significant decrease in our historical rate ofgrowth, our results of operations and financial condition may be adverselyaffected due to a high percentage of our operating costs being fixed expenses.

 

***Competition from other financial institutions may adverselyaffect our profitability.***

 

Thebanking business is highly competitive, and we experience strong competitionfrom many other financial institutions. We compete with commercial banks,credit unions, savings and loan associations, mortgage banking firms, consumerfinance companies, securities brokerage firms, insurance companies, moneymarket funds and other financial institutions, which operate in our primarymarket areas and elsewhere.

 

Wecompete with these institutions both in attracting deposits and in making loans.In addition, we have to attract our customer base from other existing financialinstitutions and from new residents. Many of our competitors arewell-established and much larger financial institutions. While we believe wecan and do successfully compete with these other financial institutions in ourmarkets, we may face a competitive disadvantage as a result of our smaller sizeand lack of geographic diversification.

 

Althoughwe compete by concentrating our marketing efforts in our primary market areawith local advertisements, personal contacts and greater flexibility in workingwith local customers, we can give no assurance that this strategy will besuccessful.

 

***Opening new offices may not result in increased assets orrevenues for us.***

 

The investment necessary for branch expansion maynegatively impact our efficiency ratio. There is a risk that we will be unableto manage our growth, as the process of opening new branches may divert ourtime and resources. There is also risk that we may fail to open any additionalbranches, and a risk that, if we do open these branches, they may not beprofitable which would negatively impact our results of operations.

 

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***We are subject to extensive regulation that could limit orrestrict our activities and impose financial requirements or limitations on theconduct of our business, which limitations or restrictions could adverselyaffect our profitability.***

 

Asa bank holding company, we are primarily regulated by the Board of Governors ofthe Federal Reserve System (“Federal Reserve Board”). Our subsidiary bank isprimarily regulated by the Federal Deposit Insurance Corporation (the “FDIC”)and the Georgia Department of Banking and Finance. Our compliance with FederalReserve Board, FDIC and Department of Banking and Finance regulations is costlyand may limit our growth and restrict certain of our activities, includingpayment of dividends, mergers and acquisitions, investments, loans and interestrates charged, interest rates paid on deposits and locations of offices. We arealso subject to capital requirements of our regulators.

 

Thelaws and regulations applicable to the banking industry could change at anytime, and we cannot predict the effects of these changes on our business andprofitability. Because government regulation greatly affects the business andfinancial results of all commercial banks and bank holding companies, our costof compliance could adversely affect our ability to operate profitably.

 

TheSarbanes-Oxley Act of 2002, the related rules and regulations promulgated bythe SEC that currently apply to us and the related exchange rules andregulations, have increased the scope, complexity and cost of corporategovernance, reporting and disclosure practices. As a result, we may experiencegreater compliance costs.

 

***As a community bank, we have different lending risks thanlarger banks.***

 

Weprovide services to our local community. Our ability to diversify our economicrisks is limited by our own local market and economy. We lend primarily tosmall to medium-sized businesses, and, to a lesser extent, individuals whichmay expose us to greater lending risks than those of banks lending to larger,better-capitalized businesses with longer operating histories.

 

Wemanage our credit exposure through careful monitoring of loan applicants andloan concentrations in particular industries, and through loan approval andreview procedures. We have established an evaluation process designed todetermine the adequacy of our allowance for loan losses. While this evaluationprocess uses historical and other objective information, the classification ofloans and the establishment of loan losses is an estimate based on experience,judgment and expectations regarding our borrowers, the economies in which weand our borrowers operate, as well as the judgment of our regulators. We cannotassure you that our loan loss reserves will be sufficient to absorb future loanlosses or prevent a material adverse effect on our business, financialcondition, or results of operations.

 

***Changes in monetary policies may have an adverse effect onour business, financial condition and results of operations.***

 

Ourfinancial condition and results of operations are affected by credit policiesof monetary authorities, particularly the Federal Reserve Board. Actions bymonetary and fiscal authorities, including the Federal Reserve Board, couldhave an adverse effect on our deposit levels, loan demand or business andearnings.

 

***If we fail to retain our key employees, our growth andprofitability could be adversely affected.***

 

Oursuccess is, and is expected to remain, highly dependent on our executivemanagement team, consisting of J. Randall Dixon, our President and ChiefExecutive Officer, and Thaddeus M. Williams, 

 

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our Executive Vice President and Chief Lending Officer. This isparticularly true because, as a community bank, we depend on our managementteam’s ties to the community to generate business for us. Our growth willcontinue to place significant demands on our management, and the loss of anysuch person’s services may have an adverse effect upon our growth andprofitability.

 

***Our directors and executive officers own a significantportion of our common stock and can influence stockholder decisions.***

 

Our directors and executive officers, as a group,beneficially owned approximately 29.2% of our fully diluted outstanding commonstock as of December 31, 2005. As a result of their ownership, the directorsand executive officers will have the ability, if they voted their shares inconcert, to influence the outcome of all matters submitted to our stockholdersfor approval, including the election of directors.

 

***Our ability to pay dividends is limited and we may be unableto pay future dividends. As a result, capital appreciation, if any, of ourcommon stock may be your sole opportunity for gains on your investment for theforeseeable future.***

 

We make no assurances that we will pay anydividends in the future. Any future determination relating to dividend policywill be made at the discretion of our Board of Directors and will depend on anumber of factors, including our future earnings, capital requirements,financial condition, future prospects, regulatory restrictions and otherfactors that our Board of Directors may deem relevant. The holders of ourcommon stock are entitled to receive dividends when, and if declared by ourBoard of Directors out of funds legally available for that purpose. Aspart of our consideration to pay cash dividends, we intend to retain adequatefunds from future earnings to support the development and growth of ourbusiness. In addition, our ability to pay dividends is restricted by federalpolicies and regulations. It is the policy of the Federal Reserve Board thatbank holding companies should pay cash dividends on common stock only out ofnet income available over the past year and only if prospective earningsretention is consistent with the organization’s expected future needs andfinancial condition. Further, our principal source of funds to pay dividends iscash dividends that we receive from the bank.

 

***Environmental liability associated with lending activitiescould result in losses.***

 

Inthe course of our business, we may foreclose on and take title to propertiessecuring our loans. If hazardous substances are discovered on any of theseproperties, we may be liable to governmental entities or third parties for thecosts of remediation of the hazard, as well as for personal injury and propertydamage. Many environmental laws can impose liability regardless of whether weknew of, or were responsible for, the contamination. In addition, if we arrangefor the disposal of hazardous or toxic substances at another site, we may beliable for the costs of cleaning up and removing those substances from thesite, even if we neither own nor operate the disposal site. Environmental lawsmay require us to incur substantial expenses and may materially limit the useof properties that we acquire through foreclosure, reduce their value or limitour ability to sell them in the event of a default on the loans they secure. Inaddition, future laws or more stringent interpretations or enforcement policieswith respect to existing laws may increase our exposure to environmentalliability.

 

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**ITEM 2.****                                                    ****DESCRIPTION OF PROPERTY**

 

FirstBank of Henry County’s main office is located at 120 Keys Ferry Street,McDonough, Georgia 30253. The main office is a one-story building ofapproximately 6,700 square feet and features traditional bank architecture. TheBank’s main office includes a three-lane drive-up facility, an external ATM andadequate parking.

 

The Bank’s Stockbridge branch sits on 1.11 acres andis located at 4421 N. Henry Boulevard, Stockbridge, Georgia 30281. The branchis a one-story building of approximately 4,200 square feet and featurestraditional bank architecture. The Bank includes a two-lane drive-up facility,an external ATM and adequate parking.

 

In2005, First Bank of Henry County purchased the following property to be used asa branch office of the Bank, to be known as the South Point Branch. Thisproperty consists of 1.25 acres and is located at 1375 Highway 20 West,McDonough, Georgia 30253. The building is currently under construction.

 

**ITEM 3.****                                                    ****LEGAL PROCEEDINGS**

 

Weare aware of no material pending legal proceedings to which the Company is aparty or of which any of its properties are subject; nor are we aware of anymaterial proceedings to be contemplated by any governmental authority; nor dowe know of any material proceedings, pending or contemplated, in which anydirector, officer or affiliate or any principal security holder of the Companyor any associate of any of the foregoing, is a party or has an interest adverseto the Company.

 

**ITEM 4.****                                                    ****SUBMISSION OF MATTERS TO A VOTEOF SECURITY HOLDERS**

 

Nomatter was submitted to a vote of security holders during the fourth quarter of2005.

 

**PART II**

 

**ITEM 5.****                                                  ****MARKET FOR COMMON EQUITY, RELATEDSTOCKHOLDER MATTERS AND SMALL BUSINESS ISSUER PURCHASES OF EQUITY SECURITIES**

 

TheCompany’s common stock began trading on the OTC Bulletin Board under the symbol“FBHC” in the second quarter of 2004. On December 12, 2005, NASDAQ changed thesymbol to “FBFS”, in connection with the formation of the bank holding company.The market for our common stock must be characterized as a limited market dueto its relatively low trading volume and lack of analyst coverage. Thefollowing table sets forth for the periods indicated the quarterly high and lowbid quotation per share as reported by the OTC Bulletin Board. These quotationsalso reflect inter-dealer prices without retail markups, markdowns orcommissions, and may not necessarily represent actual transactions. The tradesof our common stock on the OTC Bulletin Board represents the high end of thestock prices. We are aware of privately negotiated sales during this timeperiod for which the high and low sales price of the stock was $11.00 to$13.00.

 

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| ** **                           | ** ** | **High** | ** ** | **Low** | ** ** |
|--------------------------------------|------------|----------|------------|---------|------------|
| Fiscal year  ended December 31, 2005 |       |     |       |    |       |
| First Quarter                        |       | 17.25    |       | 15.25   |       |
| Second Quarter                       |       | 17.15    |       | 14.45   |       |
| Third Quarter                        |       | 16.99    |       | 16.50   |       |
| Fourth Quarter                       |       | 17.05    |       | 15.28   |       |
| Fiscal year  ended December 31, 2004 |       |     |       |    |       |
| First Quarter                        |       | 12.12    |       | 12.12   |       |
| Second Quarter                       |       | 19.75    |       | 9.50    |       |
| Third Quarter                        |       | 15.17    |       | 11.00   |       |
| Fourth Quarter                       |       | 19.00    |       | 10.00   |       |

 

TheCompany had 630 shareholders as of March 15, 2006.

 

OnNovember 17, 2005, the Company declared a ten-percent stock dividend toshareholders of record as of November 30, 2005 payable to shareholders onJanuary 31, 2006.

 

The Company did not repurchase any of its stock in2005.

 

**ITEM 6.****                                                    ****MANAGEMENT’S DISCUSSION ANDANALYSIS**

 

Thefollowing is a discussion of our financial condition at December 31, 2005 and2004 and the results of operations for the years then ended. The purpose ofthis discussion is to focus on information about our financial condition andour results of operations that are not otherwise apparent from our auditedconsolidated financial statements. Reference should be made to those statementsand the selected financial data presented elsewhere in this report for anunderstanding of the following discussion and analysis.

 

**Forward-LookingStatements**

 

Wemay from time to time make written or oral forward-looking statements,including statements contained in our filings with the Securities and ExchangeCommission and reports to stockholders. Statements made in this annual report,other than those concerning historical information, should be consideredforward-looking and subject to various risks and uncertainties. Suchforward-looking statements are made based upon management’s belief as well asassumptions made by, and information currently available to, managementpursuant to “safe harbor” provisions of the Private Securities LitigationReform Act of 1995. Our actual results may differ materially from the resultsanticipated in forward-looking statements due to a variety of factors,including governmental monetary and fiscal policies, deposit levels, loandemand, loan collateral values, securities portfolio values, interest rate riskmanagement, the effects of competition in the banking business from othercommercial banks, thrifts, mortgage banking firms, consumer finance companies,credit unions, securities brokerage firms, insurance companies, money marketfunds and other financial institutions operating in our market area andelsewhere, including institutions operating through the Internet, changes ingovernmental regulation relating to the banking industry, including regulationsrelating to branching and acquisitions, failure of assumptions underlying theestablishment of allowance for loan losses, including the value of collateralunderlying delinquent loans and other factors. We caution that such factors arenot exclusive. We do not undertake to update any forward-looking statement thatmay be made from time to time by, or on behalf of us.

 

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**Critical Accounting Policies**

 

We have adopted various accountingpolicies which govern the application of accounting principles generallyaccepted in the United States of America in the preparation of our consolidatedfinancial statements. Our significant accounting policies are described in thefootnotes to the consolidated financial statements at December 31, 2005 whichare made a part of this annual report.

 

Certain accounting policies involvesignificant judgments and assumptions by us which have a material impact on thecarrying value of certain assets and liabilities. We consider these accountingpolicies to be critical accounting policies. The judgments and assumptions weuse are based on historical experience and other factors, which we believe tobe reasonable under the circumstances. Because of the nature of the judgmentsand assumptions we make, actual results could differ from these judgments andestimates which could have a material impact on our carrying values of assetsand liabilities and our results of operations.

 

Webelieve the allowance for loan losses is a critical accounting policy thatrequires the most significant judgments and estimates used in the preparationof our consolidated financial statements. Refer to the portion of thisdiscussion that addresses our allowance for loan losses for a description ofour processes and methodology for determining our allowance for loan losses.

 

**Overview**

 

Our2005 results were highlighted by the overall asset growth of $45.7 million inthe Company’s total assets and by net earnings of $2,544,167. The Company’scapital base will allow for substantial growth in 2006. Our primary market areaof Henry County, Georgia continues to grow and we are strategically positionedto take advantage of the growth. The area’s growth should provide a base forcontinued profitability.

 

**Financial Condition at December31, 2005 and 2004**

 

Following is a summary ofour balance sheets for the periods indicated:

 
| ** **                     | ** ** | **December 31,**                | ** ** |
|--------------------------------|------------|--------------------------------------|------------|
| ** **                     | ** ** | **2005**                             | ** ** | **2004** | ** ** |
| ** **                     | ** ** | **(Dollars in Thousands)** | ** ** |
|                           |       |                                 |       |   |   |
| Cash and due  from banks       |       | $                                    | 2,027      |   | $ | 3,098 |   |
| Federal funds  sold            |       | 13,765                               |       | 9,558 |   |
| Securities  available-for-sale |       | 31,125                               |       | 26,087 |   |
| Restricted  equity securities  |       | 1,584                                |       | 1,406 |   |
| Loans, net                     |       | 166,757                              |       | 132,309 |   |
| Premises and  equipment        |       | 4,113                                |       | 2,737 |   |
| Other assets                   |       | 3,110                                |       | 1,628 |   |
|                           |       |                                 |       |   |   |
|                           |       | $                                    | 222,481    |   | $ | 176,823 |   |
|  

Total deposits         |       | $                                    | 174,336    |   | $ | 131,363 |   |
| Other borrowings               |       | 22,000                               |       | 22,000 |   |
| Other  liabilities             |       | 1,362                                |       | 751 |   |
| Stockholders’  equity     |       | 24,783                               |       | 22,709 |   |
|                           |       | $                                    | 222,481    |   | $ | 176,823 |   |

 

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Asof December 31, 2005, we had total assets of $222.5 million. Our total assetsgrew by 26% in 2005. Deposit growth of $43 million, consisting of a $17 millionincrease in brokered deposits and a $26 million increase in localdeposits, was used to fund net loan growth of $34 million with the remainderbeing primarily invested in securities and federal funds sold. Loan demandcontinues to be strong in our primary market area of Henry County, Georgia andsurrounding counties. Our loan to available funding ratio has remained steadysince December 31, 2004, holding in the 80-90% range. We expect that loan anddeposit growth will be significant during the coming year. Stockholders’ equityhas increased by $2.1 million due to net income of $2.5 million offset byincreased unrealized losses on securities available-for-sale, net of tax, ofapproximately $466,000.

 

**Securities**

 

Oursecurities portfolio, consisting of U.S. Government and Agency securities,mortgage-backed securities and state and municipal securities, amounted to$31.1 million at December 31, 2005. Unrealized losses on securities amounted to$717,009 at December 31, 2005. Management has not specifically identified any securitiesfor sale in future periods that, if so designated, would require a charge tooperations if the market value would not be reasonably expected to recoverprior to the time of sale.

 

**Loans**

 

Wehave 88% of our loan portfolio collateralized by real estate located in ourprimary market area of Henry County, Georgia and surrounding counties. Our realestate mortgages and construction portfolio consists of loans collateralized byone- to four-family residential properties (5%), construction loans to buildone- to four-family residential properties (72%), and nonresidential propertiesconsisting primarily of small business commercial properties (23%). Wegenerally require that loans collateralized by real estate not exceed thecollateral values by the following percentages for each type of real estateloan as follows.

 
| One- to  four-family residential properties                       |   | 80 | % |
|-------------------------------------------------------------------|--------|----|---|
| Construction  loans on one- to four-family residential properties |   | 80 | % |
| Nonresidential  property                                          |   | 90 | % |

 

Theremaining 12% of the loan portfolio consists of commercial, consumer, and otherloans. We require collateral commensurate with the repayment ability andcreditworthiness of the borrower.

 

Thespecific economic and credit risks associated with our loan portfolio,especially the real estate portfolio, include, but are not limited to, ageneral downturn in the economy which could affect unemployment rates in ourmarket area, general real estate market deterioration, interest ratefluctuations, deteriorated or non-existing collateral, title defects,inaccurate appraisals, financial deterioration of borrowers, fraud, and anyviolation of banking protection laws. Construction lending can also presentother specific risks to the lender such as whether developers can find buildersto buy lots for home construction, whether the builders can obtain financingfor the construction, whether the builders can sell the home to a buyer, andwhether the buyer can obtain permanent financing. Currently, real estate valuesand employment trends in our market area are showing some signs of downwardpressure as a result of a slowdown in the general economy.

 

22

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Weattempt to reduce these economic and credit risks not only by adhering to loanto value guidelines, but also by investigating the creditworthiness of theborrower and monitoring the borrower’s financial position. Also, we establishand periodically review our lending policies and procedures. Bankingregulations limit exposure by prohibiting loan relationships that exceed 25% ofthe Bank’s statutory capital, as defined by the State of Georgia.

 

**Liquidityand Capital Resources**

 

Thepurpose of liquidity management is to ensure that there are sufficient cashflows to satisfy demands for credit, deposit withdrawals, and our other needs. Traditionalsources of liquidity include asset maturities and growth in core deposits. Acompany may achieve its desired liquidity objectives from the management ofassets and liabilities and through funds provided by operations. Funds investedin short-term marketable instruments and the continuous maturing of otherearning assets are sources of liquidity from the asset perspective. Theliability base provides sources of liquidity through deposit growth, thematurity structure of liabilities, and accessibility to market sources offunds.

 

Scheduledloan payments are a relatively stable source of funds, but loan payoffs anddeposit flows fluctuate significantly, being influenced by interest rates andgeneral economic conditions and competition. We attempt to price deposits tomeet asset/liability objectives consistent with local market conditions.

 

Ourliquidity and capital resources are monitored on a periodic basis by managementand regulatory authorities. As determined under guidelines established byregulatory authorities and internal policy, our liquidity was consideredsatisfactory.

 

AtDecember 31, 2005 we had loan commitments outstanding of $39.4 million. Becausethese commitments generally have fixed expiration dates and many will expirewithout being drawn upon, the total commitment amounts do not necessarilyrepresent future cash requirements. If needed, we have the ability on ashort-term basis to borrow and purchase Federal funds from other financialinstitutions. At December 31, 2005, we had arrangements with two commercialbanks for short-term advances of $11,200,000.

 

AtDecember 31, 2005, our capital ratios were considered adequate based onregulatory minimum capital requirements. Our shareholders’ equity increased dueto earnings of $2.5 million. Banking regulations limit the amount of thedividends that may be paid without prior approval of the Bank’s regulatoryagency. Currently, $1,286,000 could be paid in dividends by the Bank to theCompany.

 

Theminimum capital requirements to be considered well capitalized under promptcorrective action provisions and the actual capital ratios for the Company asof December 31, 2005 are as follows:

 
| ** **                  | ** ** | **Company** | ** ** | **Bank**   | ** ** | **Regulatory**   | ** ** |
|-----------------------------|------------|-------------|------------|------------|------------|------------------|------------|
| ** **                  | ** ** | **Actual**  | ** ** | **Actual** | ** ** | **Requirements** | ** ** |
|                        |       |        |       |       |       |             |       |
| Leverage capital  ratio     |       | 11.80       | %          | 11.79      | %          | 5.00             | %          |
| Risk-based  capital ratios: |       |        |       |       |       |             |       |
| Core capital                |       | 13.37       | %          | 13.36      | %          | 6.00             | %          |
| Total capital               |       | 14.38       | %          | 14.37      | %          | 10.00            | %          |

 

Theseratios will decline as asset growth continues, but are expected to exceed theregulatory minimum requirements.

 

23

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*ContractualObligations*

 

Summarizedbelow are our contractual obligations as of December 31, 2005.

 
| **Contractual Obligations** | ** ** | ** ** | ** ** | **Less than** | ** ** | **1 to 3** | ** ** | **3 to 5** | ** ** | **More than** | ** ** |
|----------------------------------|------------|------------|------------|--------------------|------------|----------------------|------------|----------------------|------------|--------------------|------------|
| **(Dollars in Thousands)**       | ** ** | **Total**  | ** ** | **1 year**    | ** ** | **years**            | ** ** | **years**            | ** ** | **5 years**   | ** ** |
| ** **                       | ** ** | ** ** | ** ** | ** **         | ** ** | ** **           | ** ** | ** **           | ** ** | ** **         | ** ** |
|                             |       |       |       |               |       |                 |       |                 |       |               |       |
| FHLB Advances                    |       | $          | 22,000     |               | $          | 5,000                |       | $                    | 4,000      |               | $          | 2,000 |   | $ | 11,000 |   |
| Lease  Commitments               |       | 210        |       | 70                 |       | 140                  |       | 0                    |       | 0                  |       |
| Purchase  Obligations            |       | 1,214      |       | 1,214              |       | 0                    |       | 0                    |       | 0                  |       |
|                             |       |       |       |               |       |                 |       |                 |       |               |       |
|                             |       | $          | 23,424     |               | $          | 6,284                |       | $                    | 4,140      |               | $          | 2,000 |   | $ | 11,000 |   |

 

*Off-Balance-SheetFinancing*

 

Ourfinancial statements do not reflect various commitments and contingentliabilities that arise in the normal course of business. Theseoff-balance-sheet financial instruments include commitments to extend creditand standby letters of credit. These financial instruments are included in thefinancial statements when funds are distributed or the instruments becomepayable. We use the same credit policies in making commitments as we do foron-balance-sheet instruments. Our exposure to credit loss in the event ofnonperformance by the other party to the financial instrument for commitmentsto extend credit and standby letters of credit is represented by thecontractual amount of those instruments. At December 31, 2005, we hadoutstanding commitments to extend credit through open lines of $38.4 millionand outstanding standby letters of credit of approximately $996,000.

 

AtDecember 31, 2005, we had material commitments for capital expenditures forapproximately $1,214,000 to construct our South Point branch facility at 1375Highway 20 West, McDonough, Georgia.

 

Webelieve that our liquidity and capital resources are adequate and will meet ourforeseeable short and long-term needs. We anticipate that we will havesufficient funds available to meet current loan commitments and to fund orrefinance, on a timely basis, our other material commitments and liabilities.

 

Managementis not aware of any known trends, events or uncertainties other than thosediscussed above that will have or that are reasonably likely to have a materialeffect on our liquidity, capital resources or operations. Management is alsonot aware of any current recommendations by the regulatory authorities that, ifthey were implemented, would have such an effect.

 

Effectsof Inflation

 

Theimpact of inflation on banks differs from its impact on non-financialinstitutions. Banks, as financial intermediaries, have assets that areprimarily monetary in nature and that tend to fluctuate in concert withinflation. A bank can reduce the impact of inflation if it can manage its ratesensitivity gap. This gap represents the difference between rate sensitiveassets and rate sensitive liabilities. We, through our asset-liabilitycommittee, attempt to structure the assets and liabilities and manage the ratesensitivity gap, thereby seeking to minimize the potential effects of inflation.For information on the management of our interest rate sensitive assets andliabilities, see “Asset/Liability Management.”

 

24

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**Resultsof Operations****For The Years Ended December 31, 2005 and 2004**

 

Thefollowing is a summary of our operations for the periods indicated.

 
| ** **                  | ** ** | **Years Ended**                 | ** ** |
|-----------------------------|------------|--------------------------------------|------------|
| ** **                  | ** ** | **2005**                             | ** ** | **2004** | ** ** |
| ** **                  | ** ** | **(Dollars in Thousands)** | ** ** |
|                        |       |                                 |       |   |   |
| Interest income             |       | $                                    | 13,340     |   | $ | 7,784 |   |
|                        |       |                                 |       |   |   |   |   |
| Interest expense            |       | (5,360                               | )          | (2,649 | ) |
|                        |       |                                 |       |   |   |
| Net interest  income        |       | 7,980                                |       | 5,135 |   |
|                        |       |                                 |       |   |   |
| Provision for  loan losses  |       | (740                                 | )          | (763 | ) |
|                        |       |                                 |       |   |   |
| Other income                |       | 541                                  |       | 258 |   |
|                        |       |                                 |       |   |   |
| Other expenses              |       | (3,803                               | )          | (2,425 | ) |
|                        |       |                                 |       |   |   |
| Income before  income taxes |       | 3,978                                |       | 2,205 |   |
|                        |       |                                 |       |   |   |
| Income tax  expense         |       | (1,434                               | )          | (401 | ) |
|                        |       |                                 |       |   |   |
| Net income                  |       | $                                    | 2,544      |   | $ | 1,804 |   |

 

NetInterest Income

 

Ourresults of operations are determined by our ability to manage interest incomeand expense effectively, to minimize loan and investment losses, to generatenon-interest income, and to control operating expenses. Because interest ratesare determined by market forces and economic conditions beyond our control, ourability to generate net interest income is dependent upon our ability to obtainan adequate net interest spread between the rate we pay on interest-bearingliabilities and the rate we earn on interest-earning assets.

 

Ournet interest income increased by $2.8 million in 2005 as compared to the sameperiod in 2004. Our net interest margin increased to 4.01% for 2005 as comparedto 3.78% in 2004. The increase in net interest margin is due primarily to theincrease in volume of interest-earning assets in comparison to 2004. Our costof funds increased to 3.19% for 2005 as compared to 2.41% in 2004. Averageloans were $157 million, average securities were $31.1 million, and averagefederal funds sold were $9.3 million. Average interest-bearing liabilities were$168 million. The rate earned on average interest-earning assets was 6.71% in2005 compared to 5.73% in 2004.

 

Provisionfor Loan Losses

 

Theprovision for loan losses was $739,615 in 2005 as compared to $763,000 in 2004.The amount provided was due primarily to the growth of the portfolio. Basedupon our evaluation of the loan portfolio, we believe the allowance for loanlosses is adequate to absorb possible losses on existing loans that may becomeuncollectible. Our evaluation considers past due and classified loans,underlying collateral values, and current economic conditions that may affectthe borrower’s ability to repay.

 

25

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Asof December 31, 2005, we had $178,882 in nonperforming loans and assets ascompared to $4,270 in 2004. The allowance for loan losses as a percentage oftotal loans was 1.14% at December 31, 2005 as compared to 1.10% as of December31, 2004.

 

OtherIncome

 

Otherincome consists of service charges on deposit accounts and other miscellaneousrevenues and fees. Other operating income was $541,263 in 2005 as compared to$257,905 in 2004. In addition to the increase in service charges on depositaccounts due to growth, a gain on repayment of debt of $257,763 accounted forthe year-to-date increase in other income.

 

Non-interestExpense

 

Otherexpenses for the year ended December 31, 2005 consists of salaries and employeebenefits ($2,064,271), equipment and occupancy expenses ($394,955), and otheroperating expenses ($1,344,349). Other expenses increased by $1,379,000 for the2005 as compared to 2004. Salaries and employee benefits have increased overallby $740,000 due to an increase in the number of full time equivalent employeesto 39 at December 31, 2005 from 25 at December 31, 2004 and to other annualsalary increases. Bonuses paid to executive officers under employmentagreements for 2005 and 2004 were $185,850 and $25,000, respectively. Equipmentand occupancy expenses have increased overall by $171,000 due to increaseddepreciation expense for additional equipment needs for employees, board roomrenovation into offices and other occupancy expenses related to the operationscenter. The Company has signed an operating lease agreement for approximately$70,000 a year in lease expense to provide space for an operations center. Otheroperating expenses have increased overall by $468,000 due primarily to ouroverall growth.

 

IncomeTax

 

Theincome tax expense was $1,433,502 for 2005 as compared to $401,541 in 2004. Theincome tax expense in 2004 was reduced by $398,000 due to the recognition ofdeferred tax assets previously accorded valuation allowance.

 

Asset/LiabilityManagement

 

Ourobjective is to manage assets and liabilities to provide a satisfactory,consistent level of profitability within the framework of established cash,loan, investment, borrowing, and capital policies. Certain officers are chargedwith the responsibility for monitoring policies and procedures that aredesigned to ensure acceptable composition of the asset/liability mix. Ourmanagement’s overall philosophy is to support asset growth primarily throughgrowth of core deposits of all categories made by local individuals,partnerships, and corporations.

 

Ourasset/liability mix is monitored on a regular basis with a report reflectingthe interest rate-sensitive assets and interest rate-sensitive liabilitiesbeing prepared and presented to the Board of Directors on a periodic basis. Theobjective of this policy is to monitor interest rate-sensitive assets andliabilities so as to minimize the impact of substantial movements in interestrates on earnings. An asset or liability is considered to be interestrate-sensitive if it will reprice or mature within the time period analyzed,usually one year or less. The interest rate-sensitivity gap is the differencebetween the interest-earning assets and interest-bearing liabilities scheduledto mature or reprice within such time period. A gap is considered positive whenthe amount of interest rate-sensitive assets exceeds the amount of interestrate-sensitive liabilities. A gap is considered negative when the amount ofinterest rate-sensitive liabilities exceeds the interest rate-sensitive assets.During a period of rising interest rates, a negative gap

 

26

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would tend to affect net interest incomeadversely, while a positive gap would tend to result in an increase in netinterest income. Conversely, during a period of falling interest rates, anegative gap would tend to result in an increase in net interest income, whilea positive gap would tend to affect net interest income adversely. If ourassets and liabilities were equally flexible and moved concurrently, the impactof any increase or decrease in interest rates on net interest income would beminimal.

 

Asimple interest rate “gap” analysis by itself may not be an accurate indicatorof how net interest income will be affected by changes in interest rates. Accordingly,we also evaluate how the repayment of particular assets and liabilities isimpacted by changes in interest rates. Income associated with interest-earningassets and costs associated with interest-bearing liabilities may not beaffected uniformly by changes in interest rates. In addition, the magnitude andduration of changes in interest rates may have a significant impact on netinterest income. For example, although certain assets and liabilities may havesimilar maturities or periods of repricing, they may react in different degreesto changes in market interest rates. Interest rates on certain types of assetsand liabilities fluctuate in advance of changes in general market rates, whileinterest rates on other types may lag behind changes in general market rates. Inaddition, certain assets, such as adjustable rate mortgage loans, have features(generally referred to as “interest rate caps and floors”) that limit changesin interest rates. Prepayment and early withdrawal levels also could deviatesignificantly from those assumed in calculating the interest rate gap. Theability of many borrowers to service their debts also may decrease duringperiods of rising interest rates.

 

Changesin interest rates also affect our liquidity position. We currently pricedeposits in response to market rates and it is management’s intention tocontinue this policy. If deposits are not priced in response to market rates, aloss of deposits could occur that would negatively affect our liquidityposition.

 

AtDecember 31, 2005, our cumulative one year interest rate-sensitivity gap ratiowas 121%. Our targeted ratio is 90% to 120% in this time horizon. Thisindicates that our interest-earning assets will reprice during this period at arate faster than our interest-bearing liabilities.

 

Thefollowing table sets forth the distribution of the repricing of ourinterest-earning assets and interest-bearing liabilities as of December 31,2005, the interest rate-sensitivity gap, the cumulative interest rate-sensitivitygap, the interest rate-sensitivity gap ratio and the cumulative interestrate-sensitivity gap ratio. The table also sets forth the time periods in whichinterest-earning assets and interest-bearing liabilities will mature or mayreprice in accordance with their contractual terms. However, the table does notnecessarily indicate the impact of general interest rate movements on the netinterest margin as the repricing of various categories of assets andliabilities is subject to competitive pressures and the needs of our customers.In addition, various assets and liabilities indicated as repricing within thesame period may in fact, reprice at different times within this period and atdifferent rates.

 

27

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| ** **                                      | ** ** | ** **                 | ** ** | **After**    | ** ** | **After**         | ** ** | ** ** | ** ** | ** ** | ** ** |
|-------------------------------------------------|------------|----------------------------|------------|--------------|------------|-------------------|------------|------------|------------|------------|------------|
| ** **                                      | ** ** | ** **                 | ** ** | **Three**    | ** ** | **One**           | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                      | ** ** | ** **                 | ** ** | **Months**   | ** ** | **Year but** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                      | ** ** | **Within**                 | ** ** | **but**      | ** ** | **Within**        | ** ** | **After**  | ** ** | ** ** | ** ** |
| ** **                                      | ** ** | **Three**                  | ** ** | **Within**   | ** ** | **Five**          | ** ** | **Five**   | ** ** | ** ** | ** ** |
| ** **                                      | ** ** | **Months**                 | ** ** | **One Year** | ** ** | **Years**         | ** ** | **Years**  | ** ** | **Total**  | ** ** |
| ** **                                      | ** ** | **(Dollars in Thousands)** | ** ** |
|                                            |       |                       |       |         |       |              |       |       |       |       |       |
| Interest-earning assets:                        |       |                       |       |         |       |              |       |       |       |       |       |
| Federal funds sold                              |       | 13,765                     |       | —       |       | —            |       | —     |       | 13,765     |       |
| Interest-bearing due from                       |       | 710                        |       | —       |       | 80                |       | —     |       | 790        |       |
| Securities                                      |       | —                     |       | —       |       | 15,708            |       | 15,417     |       | 31,125     |       |
| Loans                                           |       | 132,661                    |       | 9,383        |       | 26,174            |       | 547        |       | 168,765    |       |
|                                            |       | 147,136                    |       | 9,383        |       | 41,962            |       | 15,964     |       | 214,445    |       |
| Interest-bearing liabilities:                   |       |                       |       |         |       |              |       |       |       |       |       |
| Interest-bearing demand deposits                |       | 2,859                      |       | —       |       | 5,549             |       | —     |       | 8,408      |       |
| Savings                                         |       | 4,993                      |       | —       |       | 4,993             |       | —     |       | 9,986      |       |
| Certificates, less than $100,000                |       | 10,495                     |       | 19,270       |       | 3,676             |       | —     |       | 33,441     |       |
| Certificates, $100,000 and over                 |       | 16,399                     |       | 70,273       |       | 23,834            |       | —     |       | 110,506    |       |
| Other borrowings                                |       | 4,000                      |       | 1,000        |       | 6,000             |       | 11,000     |       | 22,000     |       |
|                                            |       | 38,746                     |       | 90,543       |       | 44,052            |       | 11,000     |       | 184,341    |       |
|                                            |       |                       |       |         |       |              |       |       |       |       |       |
| Interest rate sensitivity gap                   |       | 108,390                    |       | (81,160      | )          | (2,090            | )          | 4,964      |       | 30,104     |       |
|                                            |       |                       |       |         |       |              |       |       |       |       |       |
| Cumulative interest rate sensitivity gap        |       | 108,390                    |       | 27,230       |       | 25,140            |       | 30,104     |       |       |       |
|                                            |       |                       |       |         |       |              |       |       |       |       |       |
| Interest rate sensitivity gap ratio             |       | 380                        | %          | 10           | %          | 95                | %          | 145        | %          |       |       |
|                                            |       |                       |       |         |       |              |       |       |       |       |       |
| Cumulative interest rate sensitivity gap  ratio |       | 380                        | %          | 121          | %          | 115               | %          | 116        | %          |       |       |

 

28

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**SELECTED FINANCIAL INFORMATION ANDSTATISTICAL DATA**

 

The tables and schedules on the following pages set forth certainsignificant financial information and statistical data with respect to the distributionof assets, liabilities and shareholders’ equity, the interest rates weexperienced; our investment portfolio; our loan portfolio, including types ofloans, maturities, and sensitivities of loans to changes in interest rates andinformation on nonperforming loans; summary of the loan loss experience andallowance for loan losses; types of deposits and the return on equity andassets.

 

**DISTRIBUTION OF ASSETS, LIABILITIES, AND**

**SHAREHOLDERS’ EQUITY:**

**INTEREST RATES AND INTEREST DIFFERENTIALS**

 

**Average Balances**

 

The condensed average balance sheet for the period indicated ispresented below. (1)

 
| ** **                                         | ** ** | **December 31, 2005**                | ** ** | **December 31, 2004** | ** ** |
|----------------------------------------------------|------------|--------------------------------------|------------|-----------------------|------------|
| ** **                                         | ** ** | **(Dollars in Thousands)** | ** ** |
| ASSETS                                             |       |                                 |       |                  |       |
|                                               |       |                                 |       |                  |       |
| Cash and due from banks                            |       | $                                    | 2,071      |                  | $          | 1,539 |   |
| Interest bearing due from                          |       | 1,825                                |       | 2,095                 |       |
| Federal funds sold                                 |       | 9,287                                |       | 8,282                 |       |
| Taxable securities available-for-sale, at  cost    |       | 28,480                               |       | 22,466                |       |
| Tax-free securities available-for-sale, at  cost   |       | 2,604                                |       | 952                   |       |
| Unrealized gains on securities  available-for-sale |       | (327                                 | )          | (190                  | )          |
| Loans (2)                                          |       | 156,621                              |       | 101,981               |       |
| Allowance for loan losses                          |       | (1,764                               | )          | (1,099                | )          |
| Other assets                                       |       | 5,601                                |       | 3,624                 |       |
|                                               |       | $                                    | 204,398    |                  | $          | 139,650 |   |
|                                               |       |                                 |       |                  |       |
| Total interest-earning assets                      |       | $                                    | 198,817    |                  | $          | 135,776 |   |
|                                               |       |                                 |       |                  |       |
| LIABILITIES  AND STOCKHOLDERS’ EQUITY         |       |                                 |       |                  |       |
|                                               |       |                                 |       |                  |       |
| Deposits:                                          |       |                                 |       |                  |       |
| Noninterest-bearing demand                         |       | $                                    | 11,428     |                  | $          | 8,260 |   |
| Interest-bearing demand and savings                |       | 13,180                               |       | 9,886                 |       |
| Time                                               |       | 129,021                              |       | 82,690                |       |
| Total deposits                                     |       | $                                    | 153,629    |                  | $          | 100,836 |   |
|                                               |       |                                 |       |                  |       |
| Other borrowed funds                               |       | 25,859                               |       | 17,219                |       |
| Other liabilities                                  |       | 1,182                                |       | 640                   |       |
| Total liabilities                                  |       | 180,670                              |       | 118,695               |       |
| Stockholders’ equity                          |       | 23,728                               |       | 20,955                |       |
|                                               |       | $                                    | 204,398    |                  | $          | 139,650 |   |
|                                               |       |                                 |       |                  |       |
| Total interest-bearing liabilities                 |       | $                                    | 168,060    |                  | $          | 109,795 |   |

 

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(1)            Averagebalances were determined using the daily average balances during the year endedDecember 31, 2005 and December 31, 2004 .

 

(2)            Therewere $142,000 of nonaccrual loans included in average loans in 2005 and$101,000 in 2004.

 

29

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**InterestIncome and Interest Expense**

 

Thefollowing tables set forth the amount of our interest income and interestexpense for each category of interest-earning assets and interest-bearingliabilities and the average interest rate for total interest-earning assets andtotal interest-bearing liabilities, net interest spread and net yield onaverage interest-earning assets.

 
| ** **                                                | ** ** | **Year Ended**                  | ** ** | **Year Ended**             | ** ** |
|-----------------------------------------------------------|------------|--------------------------------------|------------|---------------------------------|------------|
| ** **                                                | ** ** | **December 31, 2005**      | ** ** | **December 31, 2004** | ** ** |
| ** **                                                | ** ** | ** **                           | ** ** | **Average**                     | ** ** | ** ** | ** ** | **Average** | ** ** |
| ** **                                                | ** ** | **Interest**                         | ** ** | **Yields**                      | ** ** | **Interest** | ** ** | **Yields** | ** ** |
| ** **                                                | ** ** | **(Dollars in Thousands)** | ** ** |
|                                                      |       |                                 |       |                            |       |   |   |   |   |
| INTEREST INCOME:                                          |       |                                 |       |                            |       |   |   |   |   |
| Interest and fees on loans (1)                            |       | $                                    | 11,750     |                            | 7.50       | % | $ | 6,722 |   | 6.59 | % |
| Interest on taxable securities                            |       | 1,128                                |       | 3.96                            | %          | 889 |   | 3.96 | % |
| Interest on tax-free securities                           |       | 108                                  |       | 4.15                            | %          | 41 |   | 4.31 | % |
| Interest on federal funds sold                            |       | 297                                  |       | 3.20                            | %          | 96 |   | 1.16 | % |
| Interest on due from banks                                |       | 57                                   |       | 3.12                            | %          | 36 |   | 1.72 | % |
| Total interest income                                     |       | $                                    | 13,340     |                            | 6.71       | % | $ | 7,784 |   | 5.73 | % |
|                                                      |       |                                 |       |                            |       |   |   |   |   |
| INTEREST EXPENSE:                                         |       |                                 |       |                            |       |   |   |   |   |
| Interest on interest-bearing demand  deposits and savings |       | $                                    | 269        |                            | 2.04       | % | $ | 123 |   | 1.24 | % |
| Interest on time deposits                                 |       | 4,312                                |       | 3.34                            | %          | 2,111 |   | 2.55 | % |
| Interest on other borrowed funds                          |       | 780                                  |       | 3.02                            | %          | 415 |   | 2.41 | % |
| Total interest expense                                    |       | $                                    | 5,361      |                            | 3.19       | % | $ | 2,649 |   | 2.41 | % |
|                                                      |       |                                 |       |                            |       |   |   |   |   |
| NET INTEREST INCOME                                       |       | $                                    | 7,979      |                            |       |   | $ | 5,135 |   |   |   |
|                                                      |       |                                 |       |                            |       |   |   |   |   |
| Net interest spread                                       |       |                                 |       | 3.52                            | %          |   |   | 3.32 | % |
| Net yield on average interest-earning  assets             |       |                                 |       | 4.01                            | %          |   |   | 3.78 | % |

 

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(1)            Interestand fees on loans includes $908,578 and $645,241 of loan fee income for theyears ended December 31, 2005 and 2004, respectively. There was no interestincome recognized on nonaccrual loans during 2005 or 2004.

 

30

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**Rateand Volume Analysis**

 

Thefollowing table describes the extent to which changes in interest rates andchanges in volume of interest-earning assets and interest-bearing liabilitieshave affected our interest income and expense during the years indicated. Foreach category of interest-earning assets and interest-bearing liabilities,information is provided on changes attributable to (1) change in volume (changein volume multiplied by old rate); (2) change in rate (change in ratemultiplied by old volume); and (3) a combination of change in rate and changein volume. The changes in interest income and interest expense attributable toboth volume and rate have been allocated proportionately to the change due tovolume and the change due to rate.

 
| ** **                                                         | ** ** | **Year Ended December 31,** | ** ** |
|--------------------------------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                                         | ** ** | **2005 to 2004**                 | ** ** |
| ** **                                                         | ** ** | ** **                                 | ** ** | **Increase (decrease)  due to change in** | ** ** | ** ** | ** ** |
| ** **                                                         | ** ** | **Rate**                                   | ** ** | **Volume** | ** ** | **Net** | ** ** |
| ** **                                                         | ** ** | **(Dollars in Thousands)**       | ** ** |
| Income from interest-earning assets:                               |       |                                       |       |   |   |   |   |
| Interest and fees on loans                                         |       | $                                          | 1,031      |   | $ | 3,997 |   | $ | 5,028 |   |
| Interest on taxable securities                                     |       | 1                                          |       | 238 |   | 239 |   |
| Interest on tax-free securities                                    |       | (2                                         | )          | 69 |   | 67 |   |
| Interest on federal funds sold                                     |       | 188                                        |       | 13 |   | 201 |   |
| Interest on interest-bearing deposits in  banks                    |       | 26                                         |       | (5 | ) | 21 |   |
| Total interest income                                              |       | 1,244                                      |       | 4,312 |   | 5,556 |   |
| ** **                                                         | ** ** | ** **                                 | ** ** | ** ** | ** ** | ** ** | ** ** |
| Expense from interest-bearing liabilities:                         | ** ** | ** **                                 | ** ** | ** ** | ** ** | ** ** | ** ** |
| Interest on interest-bearing demand deposits  and savings deposits |       | 96                                         |       | 50 |   | 146 |   |
| Interest on time deposits                                          |       | 783                                        |       | 1,418 |   | 2,201 |   |
| Interest on borrowings                                             |       | 122                                        |       | 243 |   | 365 |   |
| Total interest expense                                             |       | 1,001                                      |       | 1,711 |   | 2,712 |   |
|                                                               |       |                                       |       |   |   |   |   |
| Net interest income                                                |       | $                                          | 243        |   | $ | 2,601 |   | $ | 2,844 |   |

 

31

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**INVESTMENT PORTFOLIO**

 

**Typesof Investments**

 

Thecarrying amounts of securities at the dates indicated, which are all classifiedas available-for-sale, are summarized as follows:

 
| ** **                   | ** ** | **December 31,**                | ** ** |
|------------------------------|------------|--------------------------------------|------------|
| ** **                   | ** ** | **2005**                             | ** ** | **2004** | ** ** |
| ** **                   | ** ** | **(Dollars in Thousands)** | ** ** |
|                         |       |                                 |       |   |   |
| U.S. Government agencies     |       | $                                    | 18,006     |   | $ | 13,569 |   |
| Mortgage-backed securities   |       | 9,612                                |       | 10,308 |   |
| Municipals                   |       | 3,507                                |       | 2,210 |   |
| Restricted equity securities |       | 1,584                                |       | 1,405 |   |
|                         |       | $                                    | 32,709     |   | $ | 27,492 |   |

 

**Maturities**

 

Theamounts of debt securities, including the weighted average yield in eachcategory as of December 31, 2005 are shown in the following table according tocontractual maturity classifications (1) one year or less, (2) after onethrough five years, (3) after five through ten years and (4) after ten years. Restrictedequity securities are not included in the table because they have nocontractual maturity.

 
| ** **                            | ** ** | ** **                          | ** ** | ** **                       | ** ** | **After one year**    | ** ** | **After five years** | ** ** |
|---------------------------------------|------------|-------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|--------------------------------|------------|
| ** **                            | ** ** | **One year or less** | ** ** | **through five years** | ** ** | **through ten years** | ** ** |
| ** **                            | ** ** | **Amount**                          | ** ** | **Yield (1)**               | ** ** | **Amount**                      | ** ** | **Yield (1)**             | ** ** | **Amount** | ** ** | **Yield(1)** | ** ** |
|                                  |       |                                |       |                             |       |                            |       |                           |       |   |   |   |   |
| U.S. Government and agency securities |       | $                                   | —     |                             |       |                            | $          | 12,665                         |       | 3.86 | % | $ | 5,341 |   | 4.55 | % |
| Mortgage-backed securities            |       | —                              |       |                             |       | 1,510                           |       | 2.94                           | %          | 3,054 |   | 3.92 | % |
| Municipals                            |       | —                              |       |                             |       | 884                             |       | 3.90                           | %          | 133 |   | 1.89 | % |
|                                  |       | $                                   | —     |                             |       |                            | $          | 15,059                         |       | 3.77 | % | $ | 8,528 |   | 4.28 | % |

 
| ** **                            | ** ** | **After  ten years** | ** ** | **Total**          | ** ** | ** ** | ** ** |
|---------------------------------------|------------|----------------------|------------|--------------------|------------|------------|------------|
| ** **                            | ** ** | **Amount**           | ** ** | **Yield (1)** | ** ** | **Amount** | ** ** | **Yield (1)** | ** ** | ** ** | ** ** | ** ** | ** ** |
|                                  |       |                 |       |               |       |       |       |   |   |   |   |   |   |
| U.S. Government and agency securities |       | $                    | —     |               |       |       | $          | 18,006 |   | 4.06 | % |   |   |   |   |
| Mortgage-backed securities            |       | 5,048                |       | 4.16               | %          | 9,612      |       | 3.89 | % |   |   |   |   |
| Municipals                            |       | 2,490                |       | 4.52               | %          | 3,507      |       | 4.26 | % |   |   |   |   |
|                                  |       | $                    | 7,538      |               | 4.28       | %          | $          | 31,125 |   | 4.03 | % |   |   |   |   |

 

----

(1)           Theweighted average yields were computed using coupon interest, adding discountaccretion or subtracting premium amortization, as appropriate, on a ratablebasis over the life of each security.

 

32

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**LOAN PORTFOLIO**

 

**Typesof Loans**

 

Theamount of loans outstanding at the indicated dates are shown in the followingtable according to the type of loan.

 
| ** **                     | ** ** | **December 31,**                | ** ** |
|--------------------------------|------------|--------------------------------------|------------|
| ** **                     | ** ** | **2005**                             | ** ** | **2004** | ** ** |
| ** **                     | ** ** | **(Dollars in Thousands)** | ** ** |
|                           |       |                                 |       |   |   |
| Commercial                     |       | $                                    | 18,233     |   | $ | 14,537 |   |
| Real estate-construction       |       | 107,945                              |       | 74,287 |   |
| Real estate-mortgage           |       | 41,166                               |       | 43,623 |   |
| Consumer installment and other |       | 1,600                                |       | 1,675 |   |
|                           |       | 168,944                              |       | 134,122 |   |
| Less deferred loan fees        |       | (270                                 | )          | (342 | ) |
| Less allowance for loan losses |       | (1,917                               | )          | (1,471 | ) |
| Net loans                      |       | $                                    | 166,757    |   | $ | 132,309 |   |

 

**Maturitiesand Sensitivities of Loans to Changes in Interest Rates**

 

Totalloans as of December 31, 2005 are shown in the following table according tocontractual maturity classifications one year or less, after one year throughfive years, and after five years.

 
| ** **                        | ** ** | **(Dollars in Thousands)** | ** ** |
|-----------------------------------|------------|--------------------------------------|------------|
| Commercial                        |       |                                 |       |
| One year or less                  |       | $                                    | 13,839     |   |
| After one year through five years |       | 4,127                                |       |
| After five years                  |       | 267                                  |       |
|                              |       | 18,233                               |       |
| Construction                      |       |                                 |       |
| One year or less                  |       | 106,470                              |       |
| After one year through five years |       | 1,475                                |       |
| After five years                  |       | —                               |       |
|                              |       | 107,945                              |       |
| Other                             |       |                                 |       |
| One year or less                  |       | 21,913                               |       |
| After one year through five years |       | 20,572                               |       |
| After five years                  |       | 281                                  |       |
|                              |       | 42,766                               |       |
|                              |       |                                 |       |
|                              |       | $                                    | 168,944    |   |

 

33

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Thefollowing table summarizes loans at December 31, 2005 with the due dates afterone year that have predetermined and floating or adjustable interest rates.

 
| ** **                            | ** ** | **(Dollars in Thousands)** | ** ** |
|---------------------------------------|------------|--------------------------------------|------------|
|                                  |       |                                 |       |
| Predetermined interest rates          |       | $                                    | 12,668     |   |
| Floating or adjustable interest rates |       | 14,054                               |       |
|                                  |       | $                                    | 26,722     |   |

 

**RiskElements**

 

Informationwith respect to nonaccrual, past due, and restructured loans is as follows:

 
| ** **                                                                                                                      | ** ** | **December 31,**                | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------|------------|
| ** **                                                                                                                      | ** ** | **2005**                             | ** ** | **2004** | ** ** |
| ** **                                                                                                                      | ** ** | **(Dollars in Thousands)** | ** ** |
|                                                                                                                            |       |                                 |       |   |   |
| Nonaccrual loans                                                                                                                |       | $                                    | 179        |   | $ | 4 |   |
| Loans contractually past due ninety days or  more as to interest or principal payments and still accruing                       |       | 1                                    |       | 0 |   |
| Restructured loans                                                                                                              |       | 0                                    |       | 0 |   |
| Loans, now current about which there are  serious doubts as to the ability of the borrower to comply with loan  repayment terms |       | 0                                    |       | 0 |   |
| Interest income that would have been  recorded on nonaccrual and restructured loans under original terms                        |       | 7                                    |       | 0 |   |
| Interest income that was recorded on  nonaccrual and restructured loans                                                         |       | 0                                    |       | 0 |   |
|                                                                                                                                 |            |                                      |            |  |  |  |  |

 

Itis our policy to discontinue the accrual of interest income when, in theopinion of management, collection of interest becomes doubtful. The collectionof interest becomes doubtful when there is a significant deterioration in thefinancial condition of the borrower and full repayment of principal andinterest is not expected unless the loan is both well-secured and in theprocess of collection.

 

Loansclassified for regulatory purposes as loss, doubtful, substandard, or specialmention that have not been included in the table above do not represent orresult from trends or uncertainties that management reasonably expects willmaterially impact future operating results, liquidity, or capital resources. Theseclassified loans do not represent material credits about which we are aware ofany information that causes us to have serious doubts as to the ability of suchborrowers to comply with the loan repayment terms.

 

34

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**SUMMARY OF LOAN LOSS EXPERIENCE**

 

Thefollowing table summarizes average loan balances for the year determined usingthe daily average balances during the period of banking operations; changes inthe allowance for loan losses arising from loans charged off and recoveries onloans previously charged off; additions to the allowance which have beencharged to operating expense; and the ratio of net charge-offs during theperiod to average loans.

 
| ** **                                                                     | ** ** | **2005**                             | ** ** | **2004** | ** ** |
|--------------------------------------------------------------------------------|------------|--------------------------------------|------------|----------|------------|
| ** **                                                                     | ** ** | **(Dollars in Thousands)** | ** ** |
|                                                                           |       |                                 |       |     |       |
| Average amount of loans outstanding                                            |       | $                                    | 156,621    |     | $          | 101,981 |   |
|                                                                           |       |                                 |       |     |       |
| Balance of allowance for loan losses at  beginning of period                   |       | 1,471                                |       | 712      |       |
|                                                                           |       |                                 |       |     |       |
| Loans charged off                                                              |       |                                 |       |     |       |
| Commercial                                                                     |       | (277                                 | )          | —   |       |
| Consumer installment and other                                                 |       | (20                                  | )          | (11      | )          |
|                                                                           |       | (297                                 | )          | (11      | )          |
| Loans recovered                                                                |       |                                 |       |     |       |
| Consumer installment and other                                                 |       | 3                                    |       | 7        |       |
|                                                                           |       |                                 |       |     |       |
| Net charge-offs                                                                |       | (294                                 | )          | (4       | )          |
|                                                                           |       |                                 |       |     |       |
| Additions to the allowance charged to  operating expense during period         |       | 740                                  |       | 763      |       |
|                                                                           |       |                                 |       |     |       |
| Balance of allowance for loan losses at end  of period                         |       | $                                    | 1,917      |     | $          | 1,471 |   |
|                                                                           |       |                                 |       |     |       |
| Ratio of net loans charged off during the  period to average loans outstanding |       | .19                                  | %          | .01      | %          |

 

**Allowancefor Loan Losses**

 

Theallowance for loan losses is maintained at a level that is deemed appropriateby management to adequately cover all known and inherent risks in the loanportfolio. The allowance for loan losses is maintained at a level that isdeemed appropriate by management to adequately cover all known and inherentrisks in the loan portfolio. Management’s evaluation of the loan portfolioincludes a loan classification program. Under the program, as each loan ismade, we assign a loan grade. Each loan grade is assigned an allowancepercentage determined based on our experience specifically and the historicalexperience of the banking industry generally. Loan classifications are thensubject to periodic review by the responsible lending officers and by seniormanagement based upon their judgment, our loan loss experience, currenteconomic conditions that may affect the borrower’s ability to repay, lenderrequirements, the underlying collateral value of the loans and otherappropriate information. Management relies predominantly on this ongoing reviewof the loan portfolio to assess the risk characteristics of the portfolio inthe aggregate and to determine adjustments, if any, to our allowance for loanlosses. Based upon this ongoing review, we may identify loans that could beimpaired. A loan is considered impaired when it is probable that we will beunable to collect all principal and interest due in accordance with thecontractual terms of the loan agreement. When we identify a loan as impaired,the allowance for loan losses is increased if we determine that the amount ofimpairment is in excess of the allowance of the allowance determined under ourloan classification program. We maintain an allowance for loan losses of noless than 1% of outstanding loans at all times.

 

35

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Asof December 31, 2005, we had made no allocations of our allowance for loanlosses to specific categories of loans. Based on our best estimate, theallocation of the allowance for loan losses to types of loans, as of theindicated dates, is as follows:

 
| ** **                     | ** ** | **December 31,**                | ** ** |
|--------------------------------|------------|--------------------------------------|------------|
| ** **                     | ** ** | **2005**                             | ** ** | **2004** | ** ** |
| ** **                     | ** ** | ** **                           | ** ** | **Percent of loans in** | ** ** | ** ** | ** ** | **Percent of loans in** | ** ** |
| ** **                     | ** ** | ** **                           | ** ** | **each category** | ** ** | ** ** | ** ** | **each category** | ** ** |
| ** **                     | ** ** | **Amount**                           | ** ** | **to total loans** | ** ** | **Amount** | ** ** | **to total loans** | ** ** |
| ** **                     | ** ** | **(Dollars in Thousands)** | ** ** |
|                           |       |                                 |       |   |   |   |   |   |   |
| Commercial                     |       | $                                    | 479        |   | 11 | % | $ | 368 |   | 11 | % |
| Real estate - construction     |       | 863                                  |       | 64 | % | 662 |   | 55 | % |
| Real estate - mortgage         |       | 383                                  |       | 24 | % | 294 |   | 33 | % |
| Consumer installment and other |       | 192                                  |       | 1 | % | 147 |   | 1 | % |
|                           |       | $                                    | 1,917      |   | 100 | % | $ | 1,471 |   | 100 | % |

 

**DEPOSITS**

 

Averageamount of deposits and average rates paid thereon, classified as tononinterest-bearing demand deposits, interest-bearing demand deposits, savingsdeposits, and time deposits, for the period of operations is presentedbelow.(1)

 
| ** **                                    | ** ** | **2005**                             | ** ** | **2004**    | ** ** |
|-----------------------------------------------|------------|--------------------------------------|------------|-------------|------------|
| ** **                                    | ** ** | **Amount**                           | ** ** | **Percent** | ** ** | **Amount** | ** ** | **Percent** | ** ** |
| ** **                                    | ** ** | **(Dollars in Thousands)** | ** ** |
|                                          |       |                                 |       |        |       |   |   |   |   |
| Noninterest-bearing demand deposits           |       | $                                    | 11,428     |        |       |   | $ | 8,260 |   |   |   |
| Interest-bearing demand deposits and  savings |       | 13,180                               |       | 2.04        | %          | 9,886 |   | 1.24 | % |
| Time deposits                                 |       | 129,021                              |       | 3.34        | %          | 82,690 |   | 2.55 | % |
| Total deposits                                |       | $                                    | 153,629    |        |       |   | $ | 100,836 |   |   |   |

 

----

(1)            Averagebalances were determined using the daily average balances during the year endedDecember 31, 2005 and December 31, 2004.

 

Theamounts of time certificates of deposit issued in amounts of $100,000 or moreas of December 31, 2005 are shown below by category, which is based on timeremaining until maturity of (1) three months or less, (2) over three throughsix months, (3) over six through twelve months, and (4) over twelve months.

 
| ** **                            | ** ** | **(Dollars in Thousands)** | ** ** |
|---------------------------------------|------------|--------------------------------------|------------|
|                                  |       |                                 |       |
| Three months or less                  |       | $                                    | 16,399     |   |
| Over three months through six months  |       | 20,019                               |       |
| Over six months through twelve months |       | 50,254                               |       |
| Over twelve months                    |       | 23,834                               |       |
| Total                                 |       | $                                    | 110,506    |   |

 

36

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**RETURN ON ASSETS AND STOCKHOLDERS’ EQUITY**

 

Thefollowing rate of return information for the year indicated is presented below.

 
| ** **                 | ** ** | **2005** | ** ** | **2004** | ** ** |
|----------------------------|------------|----------|------------|----------|------------|
|                       |       |     |       |     |       |
| Return on assets (1)       |       | 1.24     | %          | 1.29     | %          |
| Return on equity (2)       |       | 10.72    | %          | 8.61     | %          |
| Dividend payout ratio (3)  |       | n/a      |       | n/a      |       |
| Equity to assets ratio (4) |       | 11.61    | %          | 15.01    | %          |

 

----

(1)            Netincome divided by average total assets.

(2)            Netincome divided by average equity.

(3)            Dividendsdeclared per share of common stock divided by net income per share.

(4)           Average common equitydivided by average total assets.

 

**ITEM 7.**** ****FINANCIAL STATEMENTS**

 

Theconsolidated financial statements, notes thereto and independent auditors’report thereon for year ended December 31, 2005 and attached hereto beginningat page F-1.

 

Thefollowing financial statements are attached on page F-1 of this Report:

 

Report of Independent Registered PublicAccounting Firm

Consolidated Balance Sheets

Consolidated Statements of Income

Consolidated Statements of ComprehensiveIncome

Consolidated Statements of Changes inStockholders’ Equity

Consolidated Statements of Cash Flows

Notes to Financial Statements

 

**ITEM 8.****                 ****CHANGES IN AND DISAGREEMENTS WITHACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE**

 

Not Applicable.

 

**ITEM8A.****              ****CONTROLS AND PROCEDURES**

 

Atthe end of the period covered by this report, our management, including ourChief Executive Officer and Chief Financial Officer, reviewed the effectivenessand design of our disclosure controls and procedures under Rule 13a-15 of theSecurities Exchange Act of 1934. Based upon that evaluation, our ChiefExecutive Officer and Chief Financial Officer concluded that such disclosurecontrols and procedures are adequate to ensure that material informationrelating to the Company, including its consolidated subsidiary, that isrequired to be included in its periodic filings with the FDIC is timely madeknown to them. During the period covered by this Report, there were nosignificant changes in internal controls or, to management’s knowledge, inother factors that could significantly affect those internal controlssubsequent to the date on which management carried out its evaluation, andthere has been no corrective action with respect to significant deficiencies ormaterial weaknesses.

 

37

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**ITEM8B.****              ****OTHER INFORMATION**

 

Not applicable.

 

**PART III**

 

**ITEM 9.****                 ****DIRECTORS AND EXECUTIVE OFFICERSOF THE COMPANY**

 

Theinformation required by this Item is included in the Company’s Proxy Statementfor the Annual Meeting of Shareholders to be held on May 18, 2006 under theheadings “Proposal — Election of Directors — Director Nominees and ContinuingDirectors,” “Executive Officers,” “Meetings and Committees of the Board” and “FilingsUnder Section 16(a)” and is incorporated herein by reference.

 

**ITEM10.****              ****EXECUTIVE COMPENSATION**

 

Theinformation required by this Item is included in the Company’s Proxy Statementfor the Annual Meeting of Shareholders to be held on May 18, 2006 under theheading “Executive Compensation” and is incorporated herein by reference.

 

**ITEM11.****              ****SECURITY OWNERSHIP OF CERTAINBENEFICIAL OWNERS AND MANAGEMENT**

 

Theother information required by this item is included in the Company’s ProxyStatement for the Annual Meeting of Shareholders to be held on May 18, 2006under the heading “Security Ownership of Certain Beneficial Owners andManagement Related Matters” and is incorporated herein by reference.

 

**2000 Stock Incentive Plan Information**

 

The following table sets forth information regarding the number ofshares subject to options issued and reserved for future issuance under the2000 Stock Incentive Plan. The 2000 Stock Incentive Plan was adopted by theBoard of Directors on December 10, 2001 and approved by the shareholderson June 20, 2002. On May 19, 2005, the shareholders amended the Plan toincrease the number of shares reserved under the Plan from 100,000 to 250,000and to provide that shares issued pursuant to awards under the Plan would beshares of FirstBank Financial Services, Inc. The Company does not maintain anyother equity compensation plan.

 
| ** **                                              | ** ** | **Number of securities  to be issued upon  exercise of  outstanding options** | ** ** | **Weighted-average  exercise price of  outstanding options** | ** ** | **Number of shares  remaining available  for future issuance  under the Plan  (excludes outstanding  options)** | ** ** |
|---------------------------------------------------------|------------|------------------------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------|------------|
|                                                    |       |                                                                                                             |       |                                                                        |       |                                                                                                                                                    |       |
| Equity compensation plans approved by  security holders |       | 138,499                                                                                                          |       | $                                                                           | 12.78      |                                                                                                                                                    | 111,501    |   |
|                                                         |            |                                                                                                                  |            |                                                                             |            |                                                                                                                                                         |            |  |

 

38

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**ITEM 12.****              ****CERTAIN RELATIONSHIPS AND RELATEDTRANSACTIONS**

 

The information required by this Item is included in the Company’sProxy Statement for the Annual Meeting of Shareholders to be held on May 18,2006 under the headings “Certain Relationships and Related Transactions withManagement” and is incorporated herein by reference.

 
| **ITEM 13.** |   | **EXHIBITS** |
|--------------|--------|--------------|
|         | 3.1    |         | Articles of Incorporation of FirstBank  Financial Services, Inc. |
|         | 3.2    |         | Bylaws of FirstBank Financial Services,  Inc. |
|         | 4.1    |         | Instruments Defining the Rights of Security  Holders. See Articles of Incorporation at Exhibit 3.1 hereto and Bylaws at  Exhibit 3.2 hereto. |
|         | 10.1*  |         | Employment Agreement by and between First  Bank of Henry County and J. Randall Dixon.(1) |
|         | 10.2*  |         | Addendum to Employment Agreement by and  between First Bank of Henry County and J. Randall Dixon.  (1) |
|         | 10.3*  |         | Employment Agreement by and between First  Bank of Henry County and Thaddeus M. Williams.(1) |
|         | 10.4*  |         | Addendum to Employment Agreement by and  between First Bank of Henry County and Thaddeus M. Williams.  (1) |
|         | 10.5*  |         | Employment Agreement by and between First  Bank of Henry County and Lisa J. Maxwell.  (1) |
|         | 10.6*  |         | Addendum to Employment  Agreement by and between First Bank of Henry County and Lisa J. Maxwell.(1) |
|         | 10.7*  |         | First Bank of Henry County 2000  Stock Incentive Plan.  (1) |
|         | 10.8*  |         | First Amendment to First Bank  of Henry County 2000 Stock Incentive Plan.  (1) |
|         | 21.1   |         | Subsidiaries of FirstBank Financial  Services, Inc. |
|         | 24.1   |         | Power of Attorney (appears on the signature  pages to this Annual Report on 10-KSB). |
|         | 31.1   |         | Certification of Chief Executive Officer. |
|         | 31.2   |         | Certification of Chief Financial Officer. |
|         | 32.1   |         | Certifications pursuant to 18 U.S.C.  Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of  2002. |

 

----

*      Compensatoryplan or warrant

(1)   Incorporatedherein by reference to Exhibits of same number in the Company’s Form 8-K filedJanuary 23, 2006.

 

39

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**ITEM 14.****               PRINCIPALACCOUNTANT FEES AND SERVICES**

 

The information required by this Item is included in the Company’sProxy Statement for the Annual Meeting of Shareholders to be held on May 18,2006 under the heading “Audit and Other Fees Paid to Independent Accountants”and is incorporated herein by reference.

 

40

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**SIGNATURES**

 

Pursuant to the requirements of Section 13 or 15(d)of the Securities Exchange Act of 1934, the Registrant has duly caused thisReport to be signed on its behalf by the undersigned, thereunto dulyauthorized.

 

 
|   | FIRSTBANK FINANCIAL SERVICES, INC. |
|--------|------------------------------------|
|   |                               |   |   |
|   |                               |   |   |
|   | By:                                |   | /s/ J. Randall Dixon |   |
|   |                               |   | J. Randall Dixon |   |
|   |                               |   | President and Chief Executive Officer |   |
|   |                               |   |   |   |
|   |                               |   |   |   |
|   | Date:                              |   | March 16, 2006 |   |

 

 

POWER OF ATTORNEY

 

KNOW ALL MEN BY THESE PRESENTS, that each personwhose signature appears on the signature page to this Report constitutes andappoints J. Randall Dixon his true and lawful attorney-in-fact and agent,with full power of substitution and resubstitution, for him and in his name,place, and stead, in any and all capacities, to sign any and all amendments tothis Report, and to file the same, with all exhibits hereto, and otherdocuments in connection herewith with the Federal Deposit InsuranceCorporation, granting unto said attorney-in-fact and agent full power andauthority to do and perform each and every act and thing requisite andnecessary to be done in and about the premises, as fully to all intents andpurposes as he might or could do in person, hereby ratifying and confirming allthat said attorney-in-fact and agent or his substitute or substitutes, maylawfully do or cause to be done by virtue hereof.

 

41

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Pursuant to the requirements of the SecuritiesExchange Act of 1934, this Report has been signed below by the followingpersons on behalf of the Registrant and in the capacities and on the datesindicated.

 
| **Signature**                  | ** ** | **Title**                           | ** ** | **Date**        | ** ** |
|--------------------------------|------------|-------------------------------------|------------|-----------------|------------|
|                           |       |                                |       |            |       |
| /s/  J. Randall Dixon          |       |                                |       |            |       |
| J.  Randall Dixon              |       | President,  Chief Executive Officer |       | March  16, 2006 |       |
|                           |       |                                |       |            |       |
|                           |       |                                |       |            |       |
| /s/  Larry D. Adams            |       |                                |       |            |       |
| Larry  D. Adams                |       | Director                            |       | March  16, 2006 |       |
|                           |       |                                |       |            |       |
|                           |       |                                |       |            |       |
| /s/  Wiley A. Brown, Jr.       |       |                                |       |            |       |
| Wiley  A. Brown, Jr.           |       | Director                            |       | March  16, 2006 |       |
|                           |       |                                |       |            |       |
|                           |       |                                |       |            |       |
| /s/  Don Cagle                 |       |                                |       |            |       |
| Don  Cagle                     |       | Chairman  of the Board              |       | March  16, 2006 |       |
|                           |       |                                |       |            |       |
|                           |       |                                |       |            |       |
| /s/  James Troy Chafin, III    |       |                                |       |            |       |
| James  Troy Chafin, III        |       | Director                            |       | March  16, 2006 |       |
|                           |       |                                |       |            |       |
|                           |       |                                |       |            |       |
| /s/  William Lee Craddock, Jr. |       |                                |       |            |       |
| William  Lee Craddock, Jr.     |       | Director                            |       | March  16, 2006 |       |
|                           |       |                                |       |            |       |
|                           |       |                                |       |            |       |
| /s/  Luther Martin Denney, III |       |                                |       |            |       |
| Luther  Martin Denney, III     |       | Director                            |       | March  16, 2006 |       |
|                           |       |                                |       |            |       |
|                           |       |                                |       |            |       |
| /s/  Milton Stanley Goggins    |       |                                |       |            |       |
| Milton  Stanley Goggins        |       | Director                            |       | March  16, 2006 |       |
|                           |       |                                |       |            |       |
|                           |       |                                |       |            |       |
| /s/  Richard Allen Grimes      |       |                                |       |            |       |
| Richard  Allen Grimes          |       | Director                            |       | March  16, 2006 |       |
|                           |       |                                |       |            |       |
|                           |       |                                |       |            |       |
| /s/  Larry Max Phillips        |       |                                |       |            |       |
| Larry  Max Phillips            |       | Director                            |       | March  16, 2006 |       |
|                           |       |                                |       |            |       |
|                           |       |                                |       |            |       |
| /s/  Lisa J. Maxwell           |       |                                |       |            |       |
| Lisa  J. Maxwell               |       | Chief  Financial Officer            |       | March  16, 2006 |       |

 

42

----

 

**FIRSTBANK FINANCIAL SERVICES,INC.**

**AND SUBSIDIARY**

 

 

**CONSOLIDATEDFINANCIAL REPORT**

 

**DECEMBER31, 2005**

 

F-1

----

 

**FIRSTBANK FINANCIAL SERVICES,INC.**

**AND SUBSIDIARY**

 

**CONSOLIDATEDFINANCIAL REPORT**

**DECEMBER31, 2005**

 

**TABLE OF CONTENTS**

 
| **REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM** |   |
|-------------------------------------------------------------|--------|
|                                                        |   |
| **FINANCIAL STATEMENTS**                                    |   |
|                                                        |   |
| **Consolidated balance sheets**                             |   |
| **Consolidated statements of income**                       |   |
| **Consolidated statements of comprehensive income**         |   |
| **Consolidated statements of stockholders’ equity**    |   |
| **Consolidated statements of cash flows**                   |   |
| **Notes to  consolidated financial statements**             |   |

 

F-2

----

 

**REPORT OF INDEPENDENT REGISTERED PUBLICACCOUNTING FIRM**

 

**To the Board of Directors**

**FirstBank Financial Services, Inc.**

**McDonough, Georgia**

 

We have audited the accompanying consolidatedbalance sheets of **FirstBank FinancialServices, Inc. and subsidiary**as of December 31, 2005 and 2004,and the related consolidated statements of income, comprehensive income,stockholders’ equity and cash flows for the years then ended. These financialstatements are the responsibility of the Company’s management. Ourresponsibility is to express an opinion on these financial statements based onour audits.

 

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

 

In our opinion, the consolidated financialstatements referred to above present fairly, in all material respects, thefinancial position of FirstBank Financial Services, Inc. and subsidiary as ofDecember 31, 2005 and 2004, and the results of their operations and their cashflows for the years then ended, in conformity with U.S. generally acceptedaccounting principles.

 
|   | /s/ MAULDIN & JENKINS, LLC |   |
|--------|--------------------------------|--------|

 

 

Atlanta, Georgia

February 17, 2006

 

F-3

----

 

**FIRSTBANK FINANCIAL SERVICES, INC.**

**AND SUBSIDIARY**

**CONSOLIDATED BALANCE SHEETS**

**DECEMBER 31, 2005 AND 2004**

 
| ** **                                                                                                               | ** ** | **2005**        | ** **      | **2004**    | ** ** |
|--------------------------------------------------------------------------------------------------------------------------|------------|-----------------|-----------------|-------------|------------|
| **Assets**                                                                                                               |       |            | ** **      |        |       |
| Cash and due from banks                                                                                                  | ** ** | **$**           | **1,236,443**   | ** **  | $          | 1,136,424 |   |
| Interest-bearing deposits in banks                                                                                       | ** ** | **789,979**     | ** **      | 1,961,793   |       |
| Federal funds sold                                                                                                       | ** ** | **13,765,000**  | ** **      | 9,558,000   |       |
| Securities available for sale, at fair  value                                                                            | ** ** | **31,125,111**  | ** **      | 26,086,812  |       |
| Restricted equity securities, at cost                                                                                    | ** ** | **1,584,256**   | ** **      | 1,405,556   |       |
|                                                                                                                     |       |            | ** **      |        |       |
| Loans, net of unearned income                                                                                            | ** ** | **168,674,463** | ** **      | 133,780,775 |       |
| Less allowance for loan losses                                                                                           | ** ** | **1,917,216**   | ** **      | 1,471,333   |       |
| Loans, net                                                                                                               | ** ** | **166,757,247** | ** **      | 132,309,442 |       |
|                                                                                                                     |       |            | ** **      |        |       |
| Premises and equipment                                                                                                   | ** ** | **4,112,851**   | ** **      | 2,736,587   |       |
| Other assets                                                                                                             | ** ** | **3,110,034**   | ** **      | 1,628,251   |       |
|                                                                                                                     |       |            | ** **      |        |       |
| **Total assets**                                                                                                         | ** ** | **$**           | **222,480,921** | ** **  | $          | 176,822,865 |   |
|                                                                                                                     |       |            | ** **      |        |       |
| **Liabilities  and Stockholders’ Equity**                                                                           |       |            | ** **      |        |       |
|                                                                                                                     |       |            | ** **      |        |       |
| Deposits                                                                                                                 |       |            | ** **      |        |       |
| Noninterest-bearing                                                                                                      | ** ** | **$**           | **11,994,193**  | ** **  | $          | 8,546,778 |   |
| Interest-bearing                                                                                                         | ** ** | **162,341,815** | ** **      | 122,816,562 |       |
| Total deposits                                                                                                           | ** ** | **174,336,008** | ** **      | 131,363,340 |       |
| Other borrowings                                                                                                         | ** ** | **22,000,000**  | ** **      | 22,000,000  |       |
| Other liabilities                                                                                                        | ** ** | **1,361,448**   | ** **      | 751,019     |       |
| **Total liabilities**                                                                                                    | ** ** | **197,697,456** | ** **      | 154,114,359 |       |
|                                                                                                                     |       |            | ** **      |        |       |
| **Commitments and contingencies**                                                                                        |       |            | ** **      |        |       |
|                                                                                                                     |       |            | ** **      |        |       |
| **Stockholders’ equity**                                                                                            |       |            | ** **      |        |       |
| Preferred stock, no par value per share,  2,000,000 shares authorized; no shares issued or outstanding                   | ** ** | **—**      | ** **      | —      |       |
| Common stock, par value $5; 10,000,000  shares authorized; 2,359,753 and 2,145,250 issued and outstanding,  respectively | ** ** | **10,726,250**  | ** **      | 10,726,250  |       |
| Surplus                                                                                                                  | ** ** | **11,235,374**  | ** **      | 11,235,374  |       |
| Retained earnings                                                                                                        | ** ** | **3,298,408**   | ** **      | 754,241     |       |
| Accumulated other comprehensive loss                                                                                     | ** ** | **(476,567**    | **)**           | (7,359      | )          |
| **Total stockholders’ equity**                                                                                      | ** ** | **24,783,465**  | ** **      | 22,708,506  |       |
|                                                                                                                     |       |            | ** **      |        |       |
| **Total liabilities and stockholders’ equity**                                                                      | ** ** | **$**           | **222,480,921** | ** **  | $          | 176,822,865 |   |

 

**See notes to consolidated financialstatements.**

 

F-4

----

 

**FIRSTBANK FINANCIAL SERVICES, INC.**

**AND SUBSIDIARY**

**CONSOLIDATED STATEMENTS OF INCOME**

**YEARS ENDED DECEMBER 31, 2005 AND 2004**

 
| ** **                                               | ** ** | **2005**       | ** **     | **2004**   | ** ** |
|----------------------------------------------------------|------------|----------------|----------------|------------|------------|
| **Interest income:**                                     |       |           | ** **     |       |       |
| Loans, including fees                                    | ** ** | **$**          | **11,749,942** | ** ** | $          | 6,721,974 |   |
| Taxable securities                                       | ** ** | **1,127,673**  | ** **     | 888,610    |       |
| Tax-free securities                                      | ** ** | **108,491**    | ** **     | 41,047     |       |
| Deposits in banks                                        | ** ** | **56,857**     | ** **     | 36,462     |       |
| Federal funds sold                                       | ** ** | **297,147**    | ** **     | 95,830     |       |
| **Total interest income**                                | ** ** | **13,340,110** | ** **     | 7,783,923  |       |
|                                                     |       |           | ** **     |       |       |
| **Interest expense:**                                    |       |           | ** **     |       |       |
| Deposits                                                 | ** ** | **4,580,602**  | ** **     | 2,234,068  |       |
| Other borrowings                                         | ** ** | **779,912**    | ** **     | 414,639    |       |
| **Total interest expense**                               | ** ** | **5,360,514**  | ** **     | 2,648,707  |       |
|                                                     |       |           | ** **     |       |       |
| **Net interest income**                                  | ** ** | **7,979,596**  | ** **     | 5,135,216  |       |
| **Provision for loan losses**                            | ** ** | **739,615**    | ** **     | 763,000    |       |
| **Net interest income after provision for loan  losses** | ** ** | **7,239,981**  | ** **     | 4,372,216  |       |
|                                                     |       |           | ** **     |       |       |
| **Other income:**                                        |       |           | ** **     |       |       |
| Service charges on deposit accounts                      | ** ** | **207,337**    | ** **     | 172,046    |       |
| Gain on sales of securities available for  sale          | ** ** | **—**     | ** **     | 13,054     |       |
| Other operating income                                   | ** ** | **333,926**    | ** **     | 72,805     |       |
| **Total other income**                                   | ** ** | **541,263**    | ** **     | 257,905    |       |
|                                                     |       |           | ** **     |       |       |
| **Other expenses:**                                      |       |           | ** **     |       |       |
| Salaries and employee benefits                           | ** ** | **2,064,271**  | ** **     | 1,324,409  |       |
| Equipment and occupancy expenses                         | ** ** | **394,955**    | ** **     | 224,351    |       |
| Other operating expenses                                 | ** ** | **1,344,349**  | ** **     | 875,915    |       |
| **Total other expenses**                                 | ** ** | **3,803,575**  | ** **     | 2,424,675  |       |
|                                                     |       |           | ** **     |       |       |
| **Income before income taxes**                           | ** ** | **3,977,669**  | ** **     | 2,205,446  |       |
|                                                     |       |           | ** **     |       |       |
| **Income tax expense**                                   | ** ** | **1,433,502**  | ** **     | 401,541    |       |
|                                                     |       |           | ** **     |       |       |
| **Net income**                                           | ** ** | **$**          | **2,544,167**  | ** ** | $          | 1,803,905 |   |
|                                                     |       |           | ** **     |       |       |
| **Basic earnings per share**                             | ** ** | **$**          | **1.08**       | ** ** | $          | 0.79 |   |
|                                                     |       |           | ** **     |       |       |
| **Diluted earnings per share**                           | ** ** | **$**          | **1.02**       | ** ** | $          | 0.78 |   |

 

**See notes to consolidated financialstatements.**

 

F-5

----

 

**FIRSTBANK FINANCIAL SERVICES, INC**

**AND SUBSIDIARY**

**CONSOLIDATED STATEMENTS OF COMPREHENSIVEINCOME**

**YEARS ENDED DECEMBER 31, 2005 AND 2004**

 
| ** **                                                                                               | ** ** | **2005**     | ** **    | **2004**   | ** ** |
|----------------------------------------------------------------------------------------------------------|------------|--------------|---------------|------------|------------|
|                                                                                                     |       |         |          |       |       |
| **Net income**                                                                                           | ** ** | **$**        | **2,544,167** |       | $          | 1,803,905 |   |
|                                                                                                     |       |         |          |       |       |
| **Other comprehensive loss:**                                                                            |       |         |          |       |       |
|                                                                                                     |       |         |          |       |       |
| Unrealized losses on securities available  for sale:                                                     |       |         |          |       |       |
|                                                                                                     |       |         |          |       |       |
| Net unrealized holding losses arising during  period, net of tax of $239,992 and $4,878, respectively    | ** ** | **(465,867** | )             | (9,467     | )          |
|                                                                                                     |       |         |          |       |       |
| Reclassification adjustment for gains  realized in net income, net of tax of $0 and $4,438, respectively | ** ** | **—**   |          | (8,616     | )          |
| ** **                                                                                               |       | **(465,867** | **)**         | (18,083    | )          |
|                                                                                                     |       |         |          |       |       |
| Unrealized losses on interest rate floor:                                                                |       |         |          |       |       |
|                                                                                                     |       |         |          |       |       |
| Net unrealized holding losses arising during  period, net of tax of $1,721 and $0, respectively          | ** ** | **(3,341**   | )             | —     |       |
| ** **                                                                                               | ** ** | **(3,341**   | **)**         | **—** | ** ** |
|                                                                                                     |       |         |          |       |       |
| **Other comprehensive loss**                                                                             | ** ** | **(469,208** | )             | (18,083    | )          |
|                                                                                                     |       |         |          |       |       |
| **Comprehensive income**                                                                                 | ** ** | **$**        | **2,074,959** |       | $          | 1,785,822 |   |

 

**See notes to consolidated financialstatements.**

 

F-6

----

 

**FIRSTBANK FINANCIAL SERVICES, INC.**

**AND SUBSIDIARY**

**CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY**

**YEARS ENDED DECEMBER 31, 2005 AND 2004**

 
| ** **                     | ** ** | ** **            | ** ** | ** **         | ** ** | ** **   | ** ** | ** **                  | ** ** | **Accumulated**        | ** ** | ** ** | ** ** |
|--------------------------------|------------|-----------------------|------------|--------------------|------------|--------------|------------|-----------------------------|------------|------------------------|------------|------------|------------|
| ** **                     | ** ** | ** **            | ** ** | ** **         | ** ** | ** **   | ** ** | ** **                  | ** ** | **Other**              | ** ** | **Total**  | ** ** |
| ** **                     | ** ** | **Common Stock** | ** ** | ** **         | ** ** | **Retained** | ** ** | **Comprehensive**           | ** ** | **Stockholders’** | ** ** |
| ** **                     | ** ** | **Shares**            | ** ** | **Par Value** | ** ** | **Surplus**  | ** ** | **Earnings (Deficit)** | ** ** | **Income (Loss)** | ** ** | **Equity** | ** ** |
|                           |       |                  |       |               |       |         |       |                        |       |                   |       |       |       |
| **Balance, December 31, 2003** |       | 987,000               |       | $                  | 4,935,000  |         | $          | 4,864,999                   |       | $                      | (1,049,664 | )          | $          | 10,724 |   | $ | 8,761,059 |   |
| Net income                     |       | —                |       | —             |       | —       |       | 1,803,905                   |       | —                 |       | 1,803,905  |       |
| Issuance of common stock       |       | 1,158,250             |       | 5,791,250          |       | 6,370,375    |       | —                      |       | —                 |       | 12,161,625 |       |
| Other comprehensive loss       |       | —                |       | —             |       | —       |       | —                      |       | (18,083                | )          | (18,083    | )          |
| **Balance, December 31, 2004** |       | 2,145,250             |       | 10,726,250         |       | 11,235,374   |       | 754,241                     |       | (7,359                 | )          | 22,708,506 |       |
| Net income                     |       | —                |       | —             |       | —       |       | 2,544,167                   |       | —                 |       | 2,544,167  |       |
| Other comprehensive loss       |       | —                |       | —             |       | —       |       | —                      |       | (469,208               | )          | (469,208   | )          |
| **Balance, December 31, 2005** |       | 2,145,250             |       | $                  | 10,726,250 |         | $          | 11,235,374                  |       | $                      | 3,298,408  |       | $          | (476,567 | ) | $ | 24,783,465 |   |

 

**See notes to consolidated financialstatements.**

 

F-7

----

 

 

**FIRSTBANK FINANCIAL SERVICES, INC.**

**AND SUBSIDIARY**

**CONSOLIDATED STATEMENTS OF CASH FLOWS**

**YEARS ENDED DECEMBER 31, 2005 AND 2004**

 
| ** **                                                     | ** ** | **2005**        | ** **    | **2004**    | ** ** |
|----------------------------------------------------------------|------------|-----------------|---------------|-------------|------------|
| **OPERATING ACTIVITIES**                                       |       |            | ** **    |        |       |
| Net income                                                     | ** ** | **$**           | **2,544,167** | ** **  | $          | 1,803,905 |   |
| Adjustments to reconcile net income to net                     |       |            | ** **    |        |       |
| cash provided by operating activities:                         |       |            | ** **    |        |       |
| Gain on sales of securities available for  sale                | ** ** | **—**      | ** **    | (13,054     | )          |
| Loss on disposal of equipment                                  | ** ** | **5,792**       | ** **    | 9,030       |       |
| Gain on sale of other real estate owned                        | ** ** | **(4,691**      | **)**         | (23,965     | )          |
| Depreciation and amortization                                  | ** ** | **207,764**     | ** **    | 141,145     |       |
| Deferred taxes                                                 | ** ** | **(145,949**    | **)**         | (623,343    | )          |
| Provision for loan losses                                      | ** ** | **739,615**     | ** **    | 763,000     |       |
| Increase in interest receivable                                | ** ** | **(662,122**    | **)**         | (459,425    | )          |
| Increase in interest payable                                   | ** ** | **503,148**     | ** **    | 302,540     |       |
| Net other operating activities                                 | ** ** | **(13,555**     | **)**         | 148,590     |       |
|                                                           |       |            | ** **    |        |       |
| Net cash provided by operating activities                      | ** ** | **3,174,169**   | ** **    | 2,048,423   |       |
|                                                           |       |            | ** **    |        |       |
| **INVESTING ACTIVITIES**                                       |       |            | ** **    |        |       |
| Net (increase) decrease in interest-bearing  deposits in banks | ** ** | **1,171,814**   | ** **    | (1,685,602  | )          |
| Purchases of securities available for sale                     | ** ** | **(11,459,580** | **)**         | (23,843,186 | )          |
| Proceeds from sales of securities available  for sale          | ** ** | **—**      | ** **    | 1,031,500   |       |
| Proceeds from maturities of securities  available for sale     | ** ** | **5,715,422**   | ** **    | 5,422,214   |       |
| Purchases of restricted equity securities                      | ** ** | **(178,700**    | **)**         | (1,015,000  | )          |
| Net (increase) decrease in federal funds  sold                 | ** ** | **(4,207,000**  | **)**         | 1,828,000   |       |
| Net increase in loans                                          | ** ** | **(35,091,660** | **)**         | (69,361,640 | )          |
| Proceeds from sale of other real estate  owned                 | ** ** | **8,627**       | ** **    | 139,558     |       |
| Proceeds from sale premises and equipment                      | ** ** | **39,769**      | ** **    | —      |       |
| Purchase of premises, equipment and  software                  | ** ** | **(1,655,510**  | **)**         | (1,267,465  | )          |
| Purchase of interest rate floor                                | ** ** | **(390,000**    | **)**         |        |       |
|                                                           |       |            | ** **    |        |       |
| Net cash used in investing activities                          | ** ** | **(46,046,818** | **)**         | (88,751,621 | )          |
|                                                           |       |            | ** **    |        |       |
| **FINANCING ACTIVITIES**                                       |       |            | ** **    |        |       |
| Net increase in deposits                                       | ** ** | **42,972,668**  | ** **    | 56,058,375  |       |
| Net increase in borrowings                                     | ** ** | **—**      | ** **    | 19,000,000  |       |
| Net proceeds from sale of common stock                         | ** ** | **—**      | ** **    | 12,161,625  |       |
|                                                           |       |            | ** **    |        |       |
| Net cash provided by financing activities                      | ** ** | **42,972,668**  | ** **    | 87,220,000  |       |
|                                                           |       |            | ** **    |        |       |
| Net increase in cash and due from banks                        | ** ** | **100,019**     | ** **    | 516,802     |       |
|                                                           |       |            | ** **    |        |       |
| Cash and due from banks at beginning of year                   | ** ** | **1,136,424**   | ** **    | 619,622     |       |
|                                                           |       |            | ** **    |        |       |
| Cash and due from banks at end of year                         | ** ** | **$**           | **1,236,443** | ** **  | $          | 1,136,424 |   |
|                                                           |       |            | ** **    |        |       |
| **SUPPLEMENTAL DISCLOSURES**                                   |       |            | ** **    |        |       |
| Cash paid for:                                                 |       |            | ** **    |        |       |
| Interest                                                       | ** ** | **$**           | **4,857,366** | ** **  | $          | 2,346,167 |   |
|                                                           |       |            | ** **    |        |       |
| Income taxes                                                   | ** ** | **$**           | **1,496,323** | ** **  | $          | 856,000 |   |
|                                                           |       |            | ** **    |        |       |
| Financed sales of other real estate owned                      | ** ** | **$**           | **95,760**    | ** **  | $          | 189,738 |   |

 

**See notes to consolidated financialstatements.**

 

F-8

----

 

**FIRSTBANK FINANCIAL SERVICES, INC.**

**AND SUBSIDIARY**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS**

 

**NOTE 1.****                                               SUMMARYOF SIGNIFICANT ACCOUNTING POLICIES**

 

**Nature ofBusiness**

 

FirstBankFinancial Services, Inc. (the “Company”) is a bank holding company whose businessis conducted by its wholly-owned commercial bank, First Bank of Henry County(the “Bank”). The Bank is located in McDonough, Henry County, Georgia with abranch in Stockbridge, Georgia. The Bank provides a full range of bankingservices in its primary market areas of Henry County and surrounding counties.

 

The shareholders of theBank approved an Agreement and Plan of Share Exchange on June 30, 2004, and theholding company formation became effective on February 1, 2005. Pursuant to thePlan, each share of Bank common stock was exchanged on a one-for-one basis forshares of Company common stock.

 

**Basis ofPresentation**

 

Theconsolidated financial statements include the accounts of the Company and itssubsidiary. Significant intercompany transactions and balances have beeneliminated in consolidation.

 

Inpreparing the consolidated financial statements in accordance with accountingprinciples generally accepted in the United States of America, management isrequired to make estimates and assumptions that affect the reported amounts ofassets and liabilities and the disclosure of contingent assets and liabilitiesas of the balance sheet date and the reported amounts of revenues and expensesduring the reporting period. Actual results could differ from those estimates.

 

Materialestimates that are particularly susceptible to significant change in the nearterm relate to the determination of the allowance for loan losses, deferredtaxes, and contingent assets and liabilities. Thedetermination of the adequacy of the allowance for loan losses is based onestimates that are susceptible to significant changes in the economicenvironment and market conditions. In connection with the determination of theestimated losses on loans, management obtains independent appraisals forsignificant collateral.

 

**Cash, Duefrom Banks and Cash Flows**

 

Forpurposes of reporting cash flows, cash and due from banks includes cash onhand, cash items in process of collection and amounts due from banks. Cashflows from loans, federal funds sold, deposits and other borrowings arereported net.

 

The Bankis required to maintain reserve balances in cash or on deposit with the FederalReserve Bank, based on a percentage of deposits. The total of those reservebalances was approximately $265,000 and $64,000 at December 31, 2005 and 2004,respectively.

 

**Securities**

 

Debtsecurities that management has the positive intent and ability to hold tomaturity are classified as held to maturity and recorded at amortized cost. Securitiesnot classified as held to maturity are classified as available for sale andrecorded at fair value with unrealized gains and losses excluded from earningsand reported in other comprehensive income, net of the related deferred taxeffect. Restricted equity securities without a readily determinable fair valueare recorded at cost.

 

F-9

----

 

The amortization of premiums and accretion of discounts arerecognized in interest income using methods approximating the interest methodover the life of the securities. Realized gains and losses, determined on thebasis of the cost of specific securities sold, are included in earnings on thesettlement date. Declines in the fair value of held to maturity and availablefor sale securities below their cost that are deemed to be other than temporaryare reflected in earnings as realized losses. In estimatingother-than-temporary impairment losses, management considers (1) the length oftime and the extent to which the fair value has been less than cost, (2) thefinancial condition and near-term prospects of the issuer, and (3) the intentand ability of the Company to retain its investment in the issuer for a periodof time sufficient to allow for any anticipated recovery in fair value.

 

**Loans**

 

Loansare reported at their outstanding principal balances less unearned income andthe allowance for loan losses. Interest income is accrued on the outstandingprincipal balance.

 

Nonrefundableloan fees and costs incurred for loans are deferred and recognized in incomeover the life of the loans using a method which approximates a level yield.

 

The accrual of intereston loans is discontinued when, in management’s opinion, the borrower may beunable to meet payments as they become due, unless the loan is well-secured. Allinterest accrued but not collected for loans that are placed on nonaccrual orcharged off is reversed against interest income, unless management believesthat the accrued interest is recoverable through the liquidation of collateral.Interest income on nonaccrual loans is recognized on the cost-recovery method,until the loans are returned to accrual status. Loans are returned to accrualstatus when all the principal and interest amounts are brought current andfuture payments are reasonably assured.

 

A loan is consideredimpaired when it is probable, based on current information and events, theCompany will be unable to collect all principal and interest payments due inaccordance with the contractual terms of the loan agreement. Impaired loans aremeasured by either the present value of expected future cash flows discountedat the loan’s effective interest rate, the loan’s obtainable market price, orthe fair value of the collateral if the loan is collateral dependent. Theamount of impairment, if any, and any subsequent changes are included in theallowance for loan losses. Interest on accruing impaired loans is recognized aslong as such loans do not meet the criteria for nonaccrual status.

 

**Allowance for Loan Losses**

 

Theallowance for loan losses is established through a provision for loan lossescharged to expense. Loan losses are charged against the allowance whenmanagement believes the collectibility of the principal is unlikely. Subsequentrecoveries, if any, are credited to the allowance.

 

F-10

----

 

The allowance is anamount that management believes will be adequate to absorb estimated lossesrelating to specifically identified loans, as well as probable credit lossesinherent in the balance of the loan portfolio, based on an evaluation of thecollectibility of existing loans and prior loss experience. This evaluationalso takes into consideration such factors as changes in the nature and volumeof the loan portfolio, overall portfolio quality, review of specific problemloans, concentrations and current economic conditions that may affect theborrower’s ability to pay. This evaluation does not include the effects ofexpected losses on specific loans or groups of loans that are related to futureevents or expected changes in economic conditions. While management uses thebest information available to make its evaluation, future adjustments to theallowance may be necessary if there are any significant changes in economicconditions. In addition, regulatory agencies, as an integral part of theirexamination process, periodically review the Company’s allowance for loanlosses, and may require the Company to make additions to the allowance based ontheir judgment about information available to them at the time of theirexaminations.

 

The allowance consists ofspecific, general and unallocated components. The specific component relates toloans that are classified as either doubtful, substandard or special mention. Forsuch loans that are also classified as impaired, an allowance is establishedwhen the discounted cash flows (or collateral value or observable market price)of the impaired loan is lower than the carrying value of that loan. The generalcomponent covers non-classified loans and is based on historical experienceadjusted for qualitative factors. An unallocated component is maintained tocover uncertainties that could affect management’s estimate of probable losses.The unallocated component of the allowance reflects the margin of imprecisioninherent in the underlying assumptions used in the methodologies for estimatingspecific and general losses in the portfolio.

 

**Premisesand Equipment**

 

Landis carried at cost. Premises and equipment, including software costs, arecarried at cost less accumulated depreciation and amortization computedprincipally on the straight-line method over the following estimated usefullives of the assets:  Buildings, 40years; equipment, 3-7 years; leasehold improvements and software, 3 years.

 

**OtherReal Estate Owned**

 

Otherreal estate owned represents properties acquired through or in lieu of loanforeclosure and is initially recorded at the lower of cost or fair value less estimated costs to sell. Anywrite-down to fair value at the time of transfer to other real estate owned ischarged to the allowance for loan losses. Costs of improvements arecapitalized, whereas costs relating to holding other real estate owned andsubsequent adjustments to the value are expensed. The Company had no other realestate owned at December 31, 2005 and 2004.

 

**IncomeTaxes**

 

Deferredincome tax assets and liabilities are determined using the balance sheet method.Under this method, the net deferred tax asset or liability is determined basedon the tax effects of the temporary differences between the book and tax basesof the various balance sheet assets and liabilities and gives currentrecognition to changes in tax rates and laws.

 

F-11

----

 

**EarningsPer Share**

 

Basicearnings per share are computed by dividing net income by the weighted-averagenumber of shares of common stock outstanding. Diluted earnings per share arecomputed by dividing net income by the sum of the weighted-average number ofshares outstanding and potential common shares. Potential common shares consistof stock options and warrants.

 

**Stock-BasedCompensation**

 

At December 31, 2005, theCompany has two stock-based employee compensation plans, which are describedmore fully in Note 7. The Company accounts for those plans under therecognition and measurement principles of APB Opinion No. 25, *Accounting for Stock Issued to Employees*,and related Interpretations. No stock-based employee compensation cost isreflected in net income, as all options and warrants granted under those planshad an exercise price equal to the market value of the underlying stock on thedate of grant. The following table illustrates the effect on net income andearnings per share if the Company had applied the fair value recognitionprovisions of SFAS Statement No. 123, *Accountingfor Stock-Based Compensation*, to stock-based employee compensation.

 
| ** **                                                                                                                                                    | ** ** | **Years Ended December 31,** | ** **    |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------|---------------|
| ** **                                                                                                                                                    | ** ** | **2005**                                    | ** **    | **2004** | ** ** |
|                                                                                                                                                          |       |                                        |          |   |   |
| Net income, as reported                                                                                                                                       | ** ** | **$**                                       | **2,544,167** |   | $ | 1,803,905 |   |
| Deduct: Total stock-based employee compensation expense determined under  fair value based method for all awards, net of tax of $47,769 and $0,  respectively | ** ** | **(423,642**                                | **)**         | (259,084 | ) |
| Pro forma net income                                                                                                                                          | ** ** | **$**                                       | **2,120,525** |   | $ | 1,544,821 |   |
| Earnings per share:                                                                                                                                           |       |                                        |          |   |   |
| Basic - as reported                                                                                                                                           | ** ** | **$**                                       | **1.08**      |   | $ | 0.79 |   |
| Basic - pro forma                                                                                                                                             | ** ** | **$**                                       | **.90**       |   | $ | 0.68 |   |
| Diluted - as reported                                                                                                                                         | ** ** | **$**                                       | **1.02**      |   | $ | 0.78 |   |
| Diluted - pro forma                                                                                                                                           | ** ** | **$**                                       | **.85**       |   | $ | 0.67 |   |

 

In December 2004, the FASB published Statement No. 123(revised 2004), “Share-Based Payment” (“SFAS 123(R)” or the “Statement”). SFAS123(R) requires that the compensation cost relating to share-based paymenttransactions, including grants of employee stock options, be recognized infinancial statements. That cost will be measured based on the fair value of theequity or liability instruments issued. SFAS 123(R) covers a wide range ofshare-based compensation arrangements including stock options, restricted shareplans, performance-based awards, share appreciation rights, and employee sharepurchase plans. SFAS 123(R) is a replacement of FASB Statement No. 123, *Accounting for Stock-Based Compensation*,and supersedes APB Opinion No. 25, *Accountingfor Stock Issued to Employees*, and its related interpretive guidance(APB 25).

 

The effect of the Statement will be to require entities tomeasure the cost of employee services received in exchange for stock optionsbased on the grant-date fair value of the award, and to recognize the cost overthe period the employee is required to provide services for the award.

 

F-12

----

 

SFAS 123(R) permits entities to use any option-pricingmodel that meets the fair value objective in the Statement. The Company will berequired to apply SFAS 123(R) as of the beginning of its first interim periodthat begins after December 15, 2005, which will be the quarter ending March 31,2006.

 

SFAS 123(R) allows two methods for determining the effectsof the transition: the modified prospective transition method and the modifiedretrospective method of transition. Under the modified prospective transitionmethod, an entity would use the fair value based accounting method for allemployee awards granted, modified, or settled after the effective date. As ofthe effective date, compensation cost related to the nonvested portion ofawards outstanding as of that date would be based on the grant-date fair valueof those awards as calculated under the original provisions of Statement No.123; that is, an entity would not remeasure the grant-date fair value estimateof the unvested portion of awards granted prior to the effective date. Anentity will have the further option to either apply the Statement to only thequarters in the period of adoption and subsequent periods, or apply theStatement to all quarters in the fiscal year of adoption. Under the modifiedretrospective method of transition, an entity would revise its previouslyissued financial statements to recognize employee compensation cost for priorperiods presented in accordance with the original provisions of Statement No.123.

 

The Company will elect the modifiedprospective transition method. Under this method, the Company estimates thatthe adoption of SFAS 123(R) will require the Company to record approximately$50,000 of stock compensation expense in the year ended December 31, 2006 relatedto employee options issued and outstanding at December 31, 2005. The impact ofthis Statement on the Company in fiscal 2007 and beyond will depend uponvarious factors, among them being the Company’s future compensation strategy. Thepro forma compensation costs presented in the table above and in prior filingsfor the Company have been calculated using a Black-Scholes option pricing modeland may not be indicative of amounts which should be expected in future years.

 

**DerivativeInstruments and Hedging Activities**

 

In accordance with SFASNo. 133, *Accounting for Derivative Instruments and HedgingActivities*, the Company recognizes the fair value of derivatives asassets or liabilities in the financial statements. The accounting for thechanges in the fair value of a derivative depends on the intended use of thederivative instrument at inception. The change in fair value of instrumentsused as fair value hedges is accounted for in earnings of the periodsimultaneous with accounting for the fair value change of the item being hedged.The change in fair value of the effective portion of cash flow hedges isaccounted for in comprehensive income rather than income. Changes in fair valueof derivative instruments that are not intended as a hedge are accounted for inearnings of the period of the change.

 

**ComprehensiveIncome**

 

Accountingprinciples generally require that recognized revenue, expenses, gains andlosses be included in net income. Although certain changes in assets andliabilities, such as unrealized gains and losses on available for salesecurities, are reported as a separate component of the equity section of thebalance sheet, such items, along with net income, are components ofcomprehensive income.

 

F-13

----

 

**NOTE 2.****                                                 SECURITIESAVAILABLE FOR SALE**

 

Theamortized cost and fair value of securities available for sale are summarizedas follows:

 
| ** **                                | ** ** | **Amortized****Cost** | ** **     | **Gross****UnrealizedGains** | ** ** | **Gross****UnrealizedLosses** | ** ** | **Fair****Value** | ** **   |
|-------------------------------------------|------------|-----------------------|----------------|------------------------------|------------|-------------------------------|------------|-------------------|--------------|
| **December 31, 2005:**                    |       |                  |           |                         |       |                          |       |              |         |
| **U.S. Government and agency securities** | ** ** | **$**                 | **18,342,527** | ** **                   | **$**      | **366**                       | ** ** | **(336,648**      | **)**        | **$** | **18,006,245** | ** ** |
| **Mortgage-backed securities**            | ** ** | **10,010,592**        | ** **     | **—**                   | ** ** | **(398,631**                  | **)**      | **9,611,961**     | ** **   |
| **Municipal securities**                  | ** ** | **3,489,001**         | ** **     | **42,428**                   | ** ** | **(24,524**                   | **)**      | **3,506,905**     | ** **   |
| ** **                                | ** ** | **$**                 | **31,842,120** | ** **                   | **$**      | **42,794**                    | ** ** | **$**             | **(759,803** | **)** | **$** | **31,125,111** | ** ** |
| December 31, 2004:                        |       |                  |           |                         |       |                          |       |              |         |
| U.S. Government and agency securities     |       | $                     | 13,513,646     |                         | $          | 63,572                        |       | $                 | (8,662       | ) | $ | 13,568,556 |   |
| Mortgage-backed securities                |       | 10,434,004            |           | 15,626                       |       | (141,076                      | )          | 10,308,554        |         |
| Municipal  securities                     |       | 2,150,313             |           | 59,670                       |       | (281                          | )          | 2,209,702         |         |
|                                      |       | $                     | 26,097,963     |                         | $          | 138,868                       |       | $                 | (150,019     | ) | $ | 26,086,812 |   |

 

Securitieswith a carrying value of $26,353,000 and $20,126,000 at December 31, 2005 and2004, respectively, were pledged to secure public deposits and for otherpurposes required or permitted by law.

The market value ofsecurities is based on quoted market values and is significantly affected bythe interest rate environment. At December 31, 2005, unrealized lossesrepresented 2.39% of the amortized cost. These unrealized losses are consideredtemporary because of acceptable investment grades on each security and therepayment sources of principal and interest are government backed.

 

The following tables showthe gross unrealized losses and fair value of securities, aggregated bycategory and length of time that securities have been in a continuousunrealized loss position at December 31, 2005 and 2004.

 
| ** **                                 | ** ** | **December 31, 2005**        | ** **     |
|--------------------------------------------|------------|----------------------------------------|----------------|
| ** **                                 | ** ** | **Less Than 12 Months** | ** **     | **12 Months or More** | ** ** | **Total** | ** ** |
| **Description of Securities:**   | ** ** | **Fair  Value**                        | ** **     | **Gross  Unrealized  Losses** | ** ** | **Fair  Value** | ** ** | **Gross****Unrealized  Losses** | ** ** | **Fair  Value** | ** ** | **Gross  Unrealized  Losses** | ** ** |
| **U.S.  Government agencies**              | ** ** | **$**                                  | **13,858,570** | ** ** | **$** | **(255,799** | **)** | **$** | **3,653,175** | ** ** | **$** | **(80,849** | **)** | **$** | **17,511,745** | ** ** | **$** | **(336,648** | **)** |
| **State  and municipal securities**        | ** ** | **1,530,550**                          | ** **     | **(23,848** | **)** | **133,622** | ** ** | **(676** | **)** | **1,664,172** | ** ** | **(24,524** | **)** |
| **Mortgage-backed  securities**            | ** ** | **2,263,573**                          | ** **     | **(55,939** | **)** | **7,348,388** | ** ** | **(342,692** | **)** | **9,611,961** | ** ** | **(398,631** | **)** |
| **Total  temporarily impaired securities** | ** ** | **$**                                  | **17,652,693** | ** ** | **$** | **(335,586** | **)** | **$** | **11,135,185** | ** ** | **$** | **(424,217** | **)** | **$** | **28,787,878** | ** ** | **$** | **(759,803** | **)** |

 
| ** **                             | ** ** | **December 31, 2004**   | ** ** |
|----------------------------------------|------------|-------------------------|------------|
| ** **                             | ** ** | **Less Than 12 Months** | ** ** | **12 Months or More** | ** ** | **Total** | ** ** |
| **Description of  Securities:**        | ** ** | **Fair  Value**         | ** ** | **Gross  Unrealized  Losses** | ** ** | **Fair  Value** | ** ** | **Gross****Unrealized  Losses** | ** ** | **Fair  Value** | ** ** | **Gross  Unrealized  Losses** | ** ** |
| U.S. Government  agencies              |       | $                       | 3,227,734  |   | $ | (8,662 | ) | $ | — |   | $ | — |   | $ | 3,227,734 |   | $ | (8,662 | ) |
| State and  municipal securities        |       | 137,684                 |       | (281 | ) | — |   | — |   | 137,684 |   | (281 | ) |
| Mortgage-backed  securities            |       | 8,134,264               |       | (127,144 | ) | 1,229,279 |   | (13,932 | ) | 9,363,543 |   | (141,076 | ) |
| Total  temporarily impaired securities |       | $                       | 11,499,682 |   | $ | (136,087 | ) | $ | 1,229,279 |   | $ | (13,932 | ) | $ | 12,728,961 |   | $ | (150,019 | ) |

 

F-14

----

 

Theamortized cost and fair value of debt securities as of December 31, 2005 bycontractual maturity are shown below. Maturities may differ from contractualmaturities of mortgage-backed securities because the mortgages underlying thesecurities may be called or repaid without penalty. Therefore, these securitiesare not included in the maturity categories in the following summary.

 
| ** **                      | ** ** | **Amortized****Cost** | ** ** | **Fair****Value** | ** ** |
|---------------------------------|------------|-----------------------|------------|-------------------|------------|
| Due from one to five years      |       | $                     | 13,803,439 |              | $          | 13,548,443 |   |
| Due from five to ten years      |       | 5,567,568             |       | 5,475,072         |       |
| Due from greater than ten years |       | 2,460,521             |       | 2,489,635         |       |
| Mortgage-backed securities      |       | 10,010,592            |       | 9,611,961         |       |
|                            | ** ** | $                     | 31,842,120 | ** **        | $          | 31,125,111 |   |

 

Gains and losses on salesof securities available for sale consist of the following:

 
| ** **         | ** ** | **Years Ended December 31,** | ** ** |
|--------------------|------------|---------------------------------------------|------------|
| ** **         | ** ** | **2005**                                    | ** ** | **2004** | ** ** |
|               |       |                                        |       |   |   |
| Gross gains        | ** ** | **$**                                       | **—** |   | $ | 13,054 |   |
| Gross losses       | ** ** | **—**                                  |       | — |   |
| Net realized gains | ** ** | **$**                                       | **—** |   | $ | 13,054 |   |

 

**NOTE 3.****                                                 LOANS**

 

Thecomposition of loans is summarized as follows:

 
| ** **                       | ** ** | **December 31,** | ** **      |
|----------------------------------|------------|-----------------------|-----------------|
| ** **                       | ** ** | **2005**              | ** **      | **2004** | ** ** |
|                             |       |                  |            |   |   |
| Commercial                       | ** ** | **$**                 | **18,233,000**  | ** ** | $ | 14,537,000 |   |
| Real estate –  construction | ** ** | **107,945,000**       | ** **      | 74,287,000 |   |
| Real estate – other         | ** ** | **41,166,000**        | ** **      | 43,623,000 |   |
| Consumer                         | ** ** | **1,600,526**         | ** **      | 1,675,719 |   |
| ** **                       |       | **168,944,526**       | ** **      | 134,122,719 |   |
| Unearned income                  | ** ** | **(270,063**          | **)**           | (341,944 | ) |
| Allowance for  loan losses       | ** ** | **(1,917,216**        | **)**           | (1,471,333 | ) |
| Loans, net                       | ** ** | **$**                 | **166,757,247** | ** ** | $ | 132,309,442 |   |

 

F-15

----

 

Changesin the allowance for loan losses are as follows:

 
| ** **                                  | ** ** | **Years Ended December 31,** | ** **    |
|---------------------------------------------|------------|---------------------------------------------|---------------|
| ** **                                  | ** ** | **2005**                                    | ** **    | **2004** | ** ** |
|                                        |       |                                        |          |   |   |
| Balance,  beginning of year                 | ** ** | **$**                                       | **1,471,333** |   | $ | 712,380 |   |
| Provision for  loan losses                  | ** ** | **739,615**                                 |          | 763,000 |   |
| Loans charged  off                          | ** ** | **(296,299**                                | **)**         | (11,067 | ) |
| Recoveries of  loans previously charged off | ** ** | **2,567**                                   |          | 7,020 |   |
| Balance, end of  year                       | ** ** | **$**                                       | **1,917,216** |   | $ | 1,471,333 |   |

 

The total recordedinvestment in impaired loans, consisting solely of loans on nonaccrual status,was $178,882 and $4,270 at December 31, 2005 and 2004, respectively. There wereno impaired loans that had related allowances determined in accordance withSFAS No. 114, *Accounting by Creditors for Impairment of aLoan*, at December 31, 2005 and 2004. The average recorded investmentin impaired loans for 2005 and 2004 was $142,161 and $100,859, respectively. Interestincome recognized for cash payments received on impaired loans was not materialfor the years ended December 31, 2005 and 2004. Total loans past due ninetydays or more and still accruing interest was $1,522 and $0 at December 31, 2005and 2004, respectively.

 

In theordinary course of business, the Company has granted loans to certain relatedparties, including directors, executive officers and their affiliates. Theinterest rates on these loans were substantially the same as rates prevailingat the time of the transaction and repayment terms are customary for the typeof loan. Changes in related party loans for the year ended December 31, 2005are as follows:

 
| Balance, beginning of year |   | $          | 2,590,968 |   |
|----------------------------|--------|------------|-----------|--------|
| Changes in related parties |   | 74,037     |      |
| Advances                   |   | 3,507,867  |      |
| Repayments                 |   | (3,935,739 | )         |
| Balance, end of  year      |   | $          | 2,237,133 |   |

 

**NOTE 4.****                                                 PREMISESAND EQUIPMENT**

 

Premises and equipment are summarized as follows:

 
| ** **                                                         | ** ** | **December 31,** | ** **    |
|--------------------------------------------------------------------|------------|-----------------------|---------------|
| ** **                                                         | ** ** | **2005**              | ** **    | **2004** | ** ** |
|                                                               |       |                  |          |   |   |
| Land                                                               | ** ** | **$**                 | **1,479,006** |   | $ | 1,479,006 |   |
| Buildings                                                          | ** ** | **952,378**           |          | 952,378 |   |
| Construction in  progress (estimated costs to complete $1,214,000) | ** ** | **1,094,303**         |          | 32,515 |   |
| Leasehold  improvements                                            | ** ** | **166,977**           |          | — |   |
| Equipment                                                          | ** ** | **910,589**           |          | 609,545 |   |
| ** **                                                         |       | **4,603,253**         |          | 3,073,444 |   |
| Accumulated  depreciation                                          | ** ** | **(490,402**          | **)**         | (336,857 | ) |
| ** **                                                         |       | **$**                 | **4,112,851** |   | $ | 2,736,587 |   |

 

F-16

----

 

The Company signedan operating lease agreement for approximately $70,000 a year in lease expenseto provide space for its operations center. The initial term of the lease isthree years with two renewal options, each being for one year. Lease expensefor the years ended December 31, 2005 and 2004 was $40,331 and $0,respectively.

 

Software costs of $127,036 and $95,308, net ofaccumulated amortization of $38,660 and $32,853, are included in other assetsas of December 31, 2005 and 2004, respectively.

 

**NOTE 5.****                                                 DEPOSITS**

 

The aggregate amount of time deposits in denominationsof $100,000 or more at December 31, 2005 and 2004 was $110,506,059 and$85,074,999, respectively. Total brokered time deposits at December 31, 2005and 2004 were $79,873,000 and $62,876,000, respectively. The scheduledmaturities of time deposits at December 31, 2005 are as follows:

 
| 2006   |   | $          | 116,437,093 |   |
|--------|--------|------------|-------------|--------|
| 2007   |   | 22,183,148 |        |
| 2008   |   | 4,436,602  |        |
| 2009   |   | 321,995    |        |
| 2010   |   | 586,196    |        |
|   |   | $          | 143,965,034 |   |

 

Overdraft demanddeposits reclassified to loans totaled $2,961 and $4,655 at December 31,2005 and 2004, respectively.

 

**NOTE 6.****                                                 OTHERBORROWINGS**

 

Other borrowings consistof the following:

 
| ** **                                                                                                                 | ** ** | **December 31,** | ** **     |
|----------------------------------------------------------------------------------------------------------------------------|------------|-----------------------|----------------|
| ** **                                                                                                                 | ** ** | **2005**              | ** **     | **2004** | ** ** |
| ** **                                                                                                                 | ** ** | ** **            | ** **     | ** ** | ** ** |
| Adjustable rate  credit advances from Federal Home Loan Bank, with a weighted average rate of  2.32% at December 31, 2004. | ** ** | **$**                 | **—**     |   | $ | 6,000,000 |   |
|                                                                                                                       |       |                  |           |   |   |
| Fixed rate  credit advances from Federal Home Loan Bank, with a weighted average rate of  2.71% at December 31, 2005.      | ** ** | **9,000,000**         |           | 7,000,000 |   |
|                                                                                                                       |       |                  |           |   |   |
| Convertible rate  credit advances from Federal Home Loan Bank, with a weighted average rate  3.90% at December 31, 2005.   | ** ** | **13,000,000**        |           | 9,000,000 |   |
| ** **                                                                                                                 |       | **$**                 | **22,000,000** |   | $ | 22,000,0000 |   |

 

F-17

----

 

The contractualmaturities of other borrowings as of December 31, 2005 are as follows:

 
| 2006   |   | $         | 5,000,000  |   |
|--------|--------|-----------|------------|--------|
| 2007   |   | 4,000,000 |       |
| 2010   |   | 2,000,000 |       |
| 2012   |   | 6,000,000 |       |
| 2014   |   | 3,000,000 |       |
| 2015   |   | 2,000,000 |       |
|   |   | $         | 22,000,000 |   |

 

All Federal Home LoanBank advances are secured by loans with a carrying value of $7,854,183, andsecurities with a carrying value of $23,165,366 at December 31, 2005.

 

During 2005 the Companyprepaid a certain Federal Home Loan Bank borrowing and recognized a gain of$257,767 on the prepayment.

 

**NOTE 7.****                                                 EMPLOYEEAND DIRECTOR BENEFIT PLANS**

 

**Stock Options**

 

The Company adopted astock option plan during 2005 which grants key employees options to purchaseshares of common stock of the Company. Option prices and terms are determinedby a committee appointed by the Board of Directors. The plan provides for atotal of 250,000 options to purchase common stock of the Company. As ofDecember 31, 2005, 138,499 options under the plan have been granted.

 

Otherpertinent information related to the options is as follows:

 
| ** **                                                      | ** ** | **2005**    | ** ** | **2004**      | ** ** |
|-----------------------------------------------------------------|------------|-------------|------------|---------------|------------|
| ** **                                                      | ** ** | ** **  | ** ** | **Weighted-** | ** ** | ** ** | ** ** | **Weighted-** | ** ** |
| ** **                                                      | ** ** | ** **  | ** ** | **Average**   | ** ** | ** ** | ** ** | **Average** | ** ** |
| ** **                                                      | ** ** | ** **  | ** ** | **Exercise**  | ** ** | ** ** | ** ** | **Exercise** | ** ** |
| ** **                                                      | ** ** | **Number**  | ** ** | **Price**     | ** ** | **Number** | ** ** | **Price** | ** ** |
|                                                            |       |        |       | ** **    |       |   |   |   |   |
| Options  outstanding, beginning of year                         | ** ** | **68,750**  | ** ** | **$**         | **9.09**   |   | 68,750 |   | $ | 9.09 |   |
| Granted                                                         | ** ** | **69,749**  | ** ** | **16.42**     | ** ** | — |   | — |   |
| Exercised                                                       | ** ** | **—**  | ** ** | **—**    | ** ** | — |   | — |   |
| Options  outstanding, end of year                               | ** ** | **138,499** | ** ** | **$**         | **12.78**  |   | 68,750 |   | $ | 9.09 |   |
|                                                            | ** ** | ** **  | ** ** | ** **    | ** ** |   |   |   |   |
| Exercisable, end  of year                                       | ** ** | **97,352**  | ** ** | **$**         | **12.76**  |   | 25,667 |   | $ | 9.09 |   |
|                                                            | ** ** | ** **  | ** ** | ** **    | ** ** |   |   |   |   |
| Weighted-average  fair value of options granted during the year | ** ** | ** **  | ** ** | **$**         | **3.75**   |   |   |   | $ | — |   |

 

F-18

----

 

Information pertaining tooptions outstanding at December 31, 2005 is as follows:

 
| ** **               | ** ** | **Options Outstanding** | ** ** | **Options Exercisable** | ** ** |
|--------------------------|------------|------------------------------|------------|------------------------------|------------|
| ** **               | ** ** | ** **                   | ** ** | **Weighted-**                | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **               | ** ** | ** **                   | ** ** | **Average**                  | ** ** | **Weighted-** | ** ** | ** ** | ** ** | **Weighted-** | ** ** |
| ** **               | ** ** | ** **                   | ** ** | **Remaining**                | ** ** | **Average** | ** ** | ** ** | ** ** | **Average** | ** ** |
| **Range of**        | ** ** | **Number**                   | ** ** | **Contractual**              | ** ** | **Exercise** | ** ** | **Number** | ** ** | **Exercise** | ** ** |
| **Exercise Prices** | ** ** | **Outstanding**              | ** ** | **Life**                     | ** ** | **Price** | ** ** | **Exercisable** | ** ** | **Price** | ** ** |
| $9.09                    |       | 68,750                       |       | 5.62 years                   |       | $ | 9.09 |   | 48,584 |   | $ | 9.09 |   |
| 16.42                    |       | 69,749                       |       | 10 years                     |       | 16.42 |   | 48,768 |   | 16.42 |   |
|                     |       | 138,499                      |       | 7.83 years                   |       | 12.78 |   | 97,352 |   | 12.76 |   |
|                          |            |                              |            |                              |            |  |  |  |  |  |  |  |  |

 

Thefair value of each option grant is estimated on the date of grant using theBlack-Scholes option-pricing model with the following weighted-averageassumptions:

 
| ** **               | ** ** | **Year Ended December 31,  2005** | ** ** |
|--------------------------|------------|---------------------------------------------|------------|
|                     |       |                                        |       |
| Dividend yield           |       | 0.00%                                       |       |
| Expected life            |       | 10 years                                    |       |
| Expected  volatility     |       | 18.35%                                      |       |
| Risk-free interest  rate |       | 4.53%                                       |       |

 

**Stock Warrants**

 

Inrecognition of the efforts and financial risks undertaken by the Company’sorganizers, the Company granted each organizer an opportunity to purchase anumber of shares of the Company’s common stock. The warrants vest over a threeyear period from the date the Company commenced operations and are exercisablein whole or in part during the ten year period following the commencement date,at an exercise price equal to $9.09 per share. The warrants arenontransferable, but shares issued pursuant to the exercise of warrants will betransferable, subject to compliance with applicable securities laws. AtDecember 31, 2005, there were 218,680 warrants outstanding.

 

Other pertinentinformation related to the warrants is as follows:

 
| ** **                                   | ** ** | **2005**    | ** ** | **2004**       | ** ** |
|----------------------------------------------|------------|-------------|------------|----------------|------------|
| ** **                                   | ** ** | ** **  | ** ** | **Weighted-**  | ** ** | ** ** | ** ** | **Weighted-** | ** ** |
| ** **                                   | ** ** | ** **  | ** ** | **Average**    | ** ** | ** ** | ** ** | **Average** | ** ** |
| ** **                                   | ** ** | ** **  | ** ** | **Exercise**   | ** ** | ** ** | ** ** | **Exercise** | ** ** |
| ** **                                   | ** ** | **Number**  | ** ** | **Price**      | ** ** | **Number** | ** ** | **Price** | ** ** |
|                                         |       |        |       |           |       |   |   |   |   |
| Warrants  outstanding, beginning of year     | ** ** | **218,680** | ** ** | **$**          | **9.09**   |   | 218,680 |   | $ | 9.09 |   |
| Granted                                      | ** ** | **—**  | ** ** | **—**     |       | — |   | — |   |
| Exercised                                    | ** ** | **—**  | ** ** | **—**     |       | — |   | — |   |
| Forfeited                                    | ** ** | **—**  | ** ** | **—**     |       | — |   | — |   |
| Warrants  outstanding, end of year           | ** ** | **218,680** | ** ** | **9.09**       |       | 218,680 |   | 9.09 |   |
|                                         |       |        |       |           |       |   |   |   |   |
| Exercisable, end  of year                    | ** ** | **218,680** | ** ** | **9.09**       |       | 145,785 |   | 9.09 |   |
|                                         |       |        |       |           |       |   |   |   |   |
| Weighted-average  remaining contractual life | ** ** | ** **  |       | **6.07 years** |       |   |   | 7.07 years |   |
|                                              |            |             |            |                |            |  |  |  |  |  |  |

 

F-19

----

 

**401(k)Profit Sharing Plan**

 

The Company has a 401(K)Profit Sharing Plan available to all eligible employees, subject to certainminimum age and service requirements. The contributions expensed were $43,124and $0 for the years ended December 31, 2005 or 2004, respectively.

 

**NOTE 8.****                                                 INCOMETAXES**

 

The components of income tax expense are as follows:

 
| ** **                     | ** ** | **Years Ended December 31,** | ** **    |
|--------------------------------|------------|---------------------------------------------|---------------|
| ** **                     | ** ** | **2005**                                    | ** **    | **2004** | ** ** |
| ** **                     | ** ** | ** **                                  | ** **    | ** ** | ** ** |
| Current                        | ** ** | **$**                                       | **1,579,451** |   | $ | 1,024,884 |   |
| Deferred                       | ** ** | **(145,949**                                | **)**         | (224,450 | ) |
| Change in  valuation allowance | ** ** | **—**                                  |          | (398,893 | ) |
| Income tax  expense            | ** ** | **$**                                       | **1,433,502** |   | $ | 401,541 |   |

 

The Company’sincome tax expense differs from the amounts computed by applying the federalincome tax statutory rates to income before income taxes. A reconciliation ofthe differences is as follows:

 
| ** **                               | ** ** | **Years Ended December 31,** | ** **    |
|------------------------------------------|------------|---------------------------------------------|---------------|
| ** **                               | ** ** | **2005**                                    | ** **    | **2004** | ** ** |
|                                     |       |                                        |          |   |   |
| Tax provision at  statutory federal rate | ** ** | **$**                                       | **1,352,407** |   | $ | 749,840 |   |
| State income  taxes                      | ** ** | **112,668**                                 |          | 63,165 |   |
| Change in  valuation allowance           | ** ** | **—**                                  |          | (398,893 | ) |
| Other items, net                         | ** ** | **(31,573**                                 | **)**         | (12,571 | ) |
| Income tax  expense                      | ** ** | **$**                                       | **1,433,502** |   | $ | 401,541 |   |

 

Thecomponents of deferred income taxes are as follows:

 
| ** **                     | ** ** | **December 31,** | ** **  |
|--------------------------------|------------|-----------------------|-------------|
| ** **                     | ** ** | **2005**              | ** **  | **2004** | ** ** |
| ** **                     | ** ** | ** **            | ** **  | ** ** | ** ** |
| Deferred tax  assets:          |       |                  |        |   |   |
| Loan loss  reserves            | ** ** | **$**                 | **551,174** |   | $ | 353,064 |   |
| Preopening  expenses           | ** ** | **51,423**            |        | 72,317 |   |
| Unearned loan  fees            | ** ** | **101,911**           |        | 129,035 |   |
| Securities  available for sale | ** ** | **243,783**           |        | 3,791 |   |
| Interest rate  derivatives     | ** ** | **1,721**             |        | — |   |
| ** **                     |       | **950,012**           |        | 558,207 |   |
| Deferred tax liabilities:      |       |                  |        |   |   |
| Depreciation                   | ** ** | **92,935**            |        | 88,792 |   |
| ** **                     |       | **92,935**            |        | 88,792 |   |
|                           |       |                  |        |   |   |
| Net deferred tax  assets       | ** ** | **$**                 | **857,077** |   | $ | 469,415 |   |

 

F-20

----

 

**NOTE 9.****                                                 EARNINGSPER SHARE**

 

Presented below is asummary of the components used to calculate basic and diluted earnings percommon share:

 
| ** **                                                                                                                              | ** ** | **Years Ended December 31,** | ** **    |
|-----------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------|---------------|
| ** **                                                                                                                              | ** ** | **2005**                                    | ** **    | **2004** | ** ** |
| Basic Earnings  Per Share:                                                                                                              | ** ** | ** **                                  | ** **    | ** ** | ** ** |
| Weighted average common shares outstanding                                                                                              | ** ** | **2,359,753**                               |          | 2,282,882 |   |
|                                                                                                                                    |       |                                        |          |   |   |
| Net income                                                                                                                              | ** ** | **$**                                       | **2,544,167** |   | $ | 1,803,905 |   |
|                                                                                                                                    |       |                                        |          |   |   |
| Basic earnings  per share                                                                                                               | ** ** | **$**                                       | **1.08**      |   | $ | .79 |   |
|                                                                                                                                    |       |                                        |          |   |   |
| Diluted Earnings  Per Share:                                                                                                            |       |                                        |          |   |   |
| Weighted average  common shares outstanding                                                                                             | ** ** | **2,359,753**                               |          | 2,282,882 |   |
| Net effect of  the assumed exercise of stock options and warrants based on the treasury  stock using average market prices for the year |       | **126,150**                                 |          | 23,284 |   |
| Total weighted  average common shares and common stock equivalents outstanding                                                          | ** ** | **2,485,903**                               |          | 2,306,166 |   |
|                                                                                                                                    |       |                                        |          |   |   |
| Net income                                                                                                                              | ** ** | **$**                                       | **2,544,167** |   | 1,803,905 |   |
|                                                                                                                                    |       |                                        |          |   |   |
| Diluted earnings  per share                                                                                                             | ** ** | **$**                                       | **1.02**      |   | $ | .78 |   |

 

**NOTE 10.****                                          COMMITMENTSAND CONTINGENCIES**

 

**LoanCommitments**

 

The Company is a party tofinancial instruments with off-balance sheetrisk in the normal course of business to meet the financing needs of itscustomers. These financial instruments include commitments to extend credit andstandby letters of credit. They involve, to varying degrees, elements of creditrisk and interest rate risk in excess of the amount recognized in the balancesheets. The majority of all commitments to extend credit and standby letters ofcredit are variable rate instruments.

 

The Company’s exposure tocredit loss in the event of nonperformance by the other party to the financialinstrument for commitments to extend credit and standby letters of credit isrepresented by the contractual amount of those instruments. The Company usesthe same credit policies in making commitments and conditional obligations asit does for on-balance sheet instruments. A summary of the Company’scommitments is as follows:

 
| ** **                   | ** ** | **December 31,** | ** **     |
|------------------------------|------------|-----------------------|----------------|
| ** **                   | ** ** | **2005**              | ** **     | **2004** | ** ** |
|                         |       |                  |           |   |   |
| Commitments to extend credit | ** ** | **$**                 | **38,446,388** |   | $ | 30,790,053 |   |
| Standby letters of credit    | ** ** | **996,206**           |           | 836,479 |   |
| ** **                   |       | **$**                 | **39,442,594** |   | $ | 31,626,532 |   |

 

F-21

----

 

Commitmentsto extend credit are agreements to lend to a customer as long as there is noviolation of any condition established in the contract. Commitments generallyhave fixed expiration dates or other termination clauses and may requirepayment of a fee. Since many of the commitments are expected to expire withoutbeing drawn upon, the total commitment amounts do not necessarily representfuture cash requirements. The amount of collateral obtained, if deemednecessary by the Company upon extension of credit, is based on management’scredit evaluation of the party. Collateral held varies, but may includeaccounts receivable, inventory, property and equipment, residential real estateand income-producing commercial properties.

 

Standby letters of creditare conditional commitments issued by the Company to guarantee the performanceof a customer to a third party. Those guarantees are primarily issued tosupport public and private borrowing arrangements. The credit risk involved inissuing letters of credit is essentially the same as that involved in extendingloans to customers. Collateral held varies as specified above and is requiredin instances which the Company deems necessary.

 

At December 31, 2005 and2004, the carrying amount of liabilities related to the Company’s obligation toperform under financial standby letters of credit was insignificant. TheCompany has not been required to perform on any financial standby letters ofcredit, and the Company has not incurred any losses on financial standbyletters of credit for the years ended December 31, 2005 and 2004.

 

**InterestRate Derivatives**

 

The Company maintains anoverall interest rate risk-management strategy that incorporates the use ofderivative instruments to minimize significant unplanned fluctuations inearnings that are caused by interest rate volatility. The goal is to manageinterest rate sensitivity by modifying the repricing characteristics of certainassets and liabilities so that certain movements in interest rates do not, on amaterial basis, adversely affect the net interest margin. The Company viewsthis strategy as prudent management of interest rate sensitivity, such thatearnings are not exposed to undue risk presented by changes in interest rates. Asa matter of policy, the Company does not use speculative derivative instrumentsfor interest rate risk management

 

By using derivativeinstruments, the Company is potentially exposed to credit and market risk. Ifthe counter-party fails to perform, credit risk is equal to the extent of thefair value gain in a derivative. When the fair value of a derivative contractis positive, this generally indicates that the counterparty owes the Company,and, therefore, creates a repayment risk for the Company. When the fair valueof a derivative contract is negative, the Company owes the counterparty and,therefore, has no repayment risk. The Company minimizes the credit (orrepayment) risk in derivative instruments by entering into transactions withhigh-quality counterparties that are reviewed periodically.

 

The Company’s derivativeactivities are monitored by its asset/liability management committee as part ofthat committee’s oversight of the Company’s asset/liability management andtreasury functions. The Company’s asset/liability management committee isresponsible for implementing various hedging strategies that are developedthrough its analysis of data from financial simulation models and otherinternal and industry sources. The resulting hedging strategies are thenincorporated into the overall interest-rate risk management.

 

All of the Company’sderivative financial instruments are classified as highly effective cash flowhedges. For the year ended December 31, 2005, there were no material amountsrecognized which represented the ineffective portion of cash flow hedges. Allcomponents of each derivative’s gain or loss are included in the assessment ofhedge effectiveness, unless otherwise noted.

 

F-22

----

 

Interest rate derivativeinstruments that are used as part of the Company’s interest raterisk-management strategy consist of S&P call options and FHLB derivativecontracts related to the issuance of certain certificates of deposit tocustomers. The Company offers to its customers a deposit product called IndexPowered Certificates of Deposit (IPCD) with the IPCD’s payoff at maturityconsisting of an S&P call option and the deposited principal. The Companypays a quarterly interest charge to the FHLB in return for a guarantee that theFHLB will give the Company the cash equivalent of 90% of the average growth ofthe last twelve quarters of the growth in the S&P 500 Index over the termof the IPCD (“FHLB Derivative Contract”). The Company remits this cashequivalent and the original deposited principal to the customer upon maturityof the IPCD.

 

Information pertaining tooutstanding interest rate derivatives used to hedge variable-rate deposits isas follows:

 
| ** **                                                                              | ** ** | **December 31,** | ** **  |
|-----------------------------------------------------------------------------------------|------------|-----------------------|-------------|
| ** **                                                                              | ** ** | **2005**              | ** **  | **2004** | ** ** |
| Notional amount                                                                         | ** ** | **$**                 | **250,197** |   | $ | 275,397 |   |
| Weighted average maturity in years                                                      | ** ** | **2.64 years**        |        | 3.75 years |   |
|                                                                                    |       |                  |        |   |   |
| Fair value of S&P call options included in other liabilities                        | ** ** | **$**                 | **68,807**  |   | $ | 63,225 |   |
|                                                                                    |       |                  |        |   |   |
| Fair value of FHLB derivative contracts included as a reduction of  deposit liabilities | ** ** | **$**                 | **17,629**  |   | $ | 27,658 |   |

 

The Company recognizednet expense for the year ended December 31, 2005 as a result of these interestrate derivatives in the amount of $15,226, of which $8,252 is included ininterest expense and $6,974 is included in other operating expenses as comparedto a net expense of $9,048, of which $7,456 is included in interest expense and$1,592 is included in other operating expenses for the year ended December 31,2004.

 

Another component of theCompany’s interest rate risk management strategy is the implementation of aninterest rate floor with a $40 million notional amount and a 7.50% strike. Thisinstrument is being used as a hedge for the Company’s prime-based loanportfolio.

 

Information pertaining tothe interest rate floor is as follows:

 
| ** **                                                    | ** ** | **December 31,** | ** **     |
|---------------------------------------------------------------|------------|-----------------------|----------------|
| ** **                                                    | ** ** | **2005**              | ** **     | **2004** | ** ** |
| Notional amount                                               | ** ** | **$**                 | **40,000,000** |   | $ | — |   |
| Weighted average maturity in years                            | ** ** | **2.42 years**        |           | — |   |
|                                                          |       |                  |           |   |   |
| Fair value of the floor option value included in other assets | ** ** | **$**                 | **374,000**    |   | $ | — |   |

 

The Company recognized anet expense for the year ended December 31, 2005 as a result of the interestrate floor in the amount of $10,937 which is included as a reduction of loaninterest income.

 

F-23

----

 

**Contingencies**

 

In the normal course ofbusiness, the Company is involved in various legal proceedings. In the opinionof management, any liability resulting from such proceedings would not have amaterial adverse effect on the Company’s financial statements.

 

**EmploymentAgreements**

 

In 2004, the Companyentered into employment agreements with certain officers of the Company withinitial terms ranging from three to four years requiring annual salariestotaling $645,500. The agreements are automatically extended for an additionaltwelve months on the initial term date and each anniversary date thereafterunless proper notification is given. The officers are entitled to receiveannual salary increases, and are eligible to receive discretionary bonuses andstock option incentives as may be determined by the Company’s Board ofDirectors. The total annual salaries under these agreements for 2005 was$677,775 and bonuses paid under the employment agreements for 2005 and 2004were $185,850 and $25,000, respectively.

 

**NOTE 11.****                                          CONCENTRATIONSOF CREDIT**

 

TheCompany originates primarily commercial, residential and consumer loans tocustomers in Henry County and surrounding counties. The ability of the majorityof the Company’s customers to honor their contractual loan obligations isdependent on the economy in these areas.

 

88% ofthe Company’s loan portfolio is concentrated in loans secured by real estate,of which a substantial portion is secured by real estate in the Company’sprimary market area. Accordingly, the ultimate collectibility of the loanportfolio is susceptible to changes in market conditions in the Company’sprimary market area. The other significant concentrations of credit by type ofloan are set forth in Note 3.

 

TheCompany, as a matter of policy, does not generally extend credit to any singleborrower or group of related borrowers in excess of 25% of statutory capital,or approximately $5,490,000.

 

**NOTE 12.****                                          REGULATORYMATTERS**

 

TheCompany is subject to certain restrictions on the amount of dividends that maybe declared without prior regulatory approval. At December 31, 2005, approximately$1,286,000 was available for dividend declaration.

 

TheCompany and Bank are also subject to various regulatory capital requirementsadministered by the federal banking agencies. Failure to meet minimum capitalrequirements can initiate certain mandatory, and possibly additionaldiscretionary actions by regulators that, if undertaken, could have a directmaterial effect on the consolidated financial statements. Under capitaladequacy guidelines and the regulatory framework for prompt corrective action,the Company and the Bank must meet specific capital guidelines that involvequantitative measures of the assets, liabilities and certain off-balance-sheetitems as calculated under regulatory accounting practices. Capital amounts andclassification are also subject to qualitative judgments by the regulatorsabout components, risk weightings and other factors.

 

F-24

----

 

Quantitativemeasures established by regulation to ensure capital adequacy require the Companyand the Bank to maintain minimum amounts and ratios of total and Tier 1 capitalto risk-weighted assets, as defined, and of Tier 1 capital to average assets,as defined. Management believes, as of December 31, 2005, the Company and theBank met all capital adequacy requirements to which they are subject.

 

As ofDecember 31, 2005, the most recent notification from the Federal DepositInsurance Corporation categorized the Bank as well capitalized under theregulatory framework for prompt corrective action. To be categorized as wellcapitalized, the Bank must maintain minimum total risk-based, Tier 1 risk-basedand Tier 1 leverage ratios as set forth in the following table. There are noconditions or events since that notification that management believes havechanged the Bank’s category. Prompt corrective action provisions are notapplicable to bank holding companies.

 

TheCompany’s actual capital amounts and ratios are presented in the followingtable.

 
| ** **                               | ** ** | ** **                           | ** ** | ** **   | ** ** | ** **                 | ** ** | ** **                 | ** ** | **To Be Well** | ** ** |
|------------------------------------------|------------|--------------------------------------|------------|--------------|------------|----------------------------|------------|----------------------------|------------|--------------------------|------------|
| ** **                               | ** ** | ** **                           | ** ** | ** **   | ** ** | **For Capital**       | ** ** | **Capitalized Under** | ** ** |
| ** **                               | ** ** | ** **                           | ** ** | ** **   | ** ** | **Adequacy**               | ** ** | **Prompt Corrective** | ** ** |
| ** **                               | ** ** | **Actual**                           | ** ** | **Purposes** | ** ** | **Action Provisions** | ** ** |
| ** **                               | ** ** | **Amount**                           | ** ** | **Ratio**    | ** ** | **Amount**                 | ** ** | **Ratio**                  | ** ** | **Amount**               | ** ** | **Ratio** | ** ** |
| ** **                               | ** ** | **(Dollars in Thousands)** | ** ** |
| **As of December 31, 2005:**             |       |                                 |       |         |       |                       |       |                       |       |                     |       |   |   |
| Total Capital to Risk Weighted Assets    | ** ** | ** **                           | ** ** | ** **   | ** ** | ** **                 | ** ** | ** **                 | ** ** | ** **               | ** ** | ** ** | ** ** |
| Consolidated                             | ** ** | **$**                                | **27,177** | ** **   | **14.38**  | **%**                      | **$**      | **15,119**                 | ** ** | **8**                    | **%**      | **$** | **N/A** | ** ** | **N/A** | ** ** |
| First Bank of Henry County               | ** ** | **$**                                | **27,156** | ** **   | **14.37**  | **%**                      | **$**      | **15,118**                 | ** ** | **8**                    | **%**      | **$** | **18,898** | ** ** | **10** | **%** |
| Tier 1 Capital to Risk Weighted Assets   | ** ** | ** **                           | ** ** | ** **   | ** ** | ** **                 | ** ** | ** **                 | ** ** | ** **               | ** ** | ** ** | ** ** |
| Consolidated                             | ** ** | **$**                                | **25,260** | ** **   | **13.37**  | **%**                      | **$**      | **7,559**                  | ** ** | **4**                    | **%**      | **$** | **N/A** | ** ** | **N/A** | ** ** |
| First Bank of Henry County               | ** ** | **$**                                | **25,239** | ** **   | **13.36**  | **%**                      | **$**      | **7,557**                  | ** ** | **4**                    | **%**      | **$** | **11,335** | ** ** | **6** | **%** |
| Tier 1 Capital to Average Assets         | ** ** | ** **                           | ** ** | ** **   | ** ** | ** **                 | ** ** | ** **                 | ** ** | ** **               | ** ** | ** ** | ** ** |
| Consolidated                             | ** ** | **$**                                | **25,260** | ** **   | **11.80**  | **%**                      | **$**      | **8,563**                  | ** ** | **4**                    | **%**      | **$** | **N/A** | ** ** | **N/A** | ** ** |
| First Bank of Henry County               | ** ** | **$**                                | **25,239** | ** **   | **11.79**  | **%**                      | **$**      | **8,563**                  | ** ** | **4**                    | **%**      | **$** | **10,704** | ** ** | **5** | **%** |
|                                     |       |                                 |       |         |       |                       |       |                       |       |                     |       |   |   |
| **As of December 31, 2004: (Bank only)** |       |                                 |       |         |       |                       |       |                       |       |                     |       |   |   |
| Total Capital to Risk Weighted Assets    |       | $                                    | 24,187     |         | 16.52      | %                          | $          | 11,713                     |       | 8                        | %          | $ | 14,641 |   | 10 | % |
| Tier 1 Capital to Risk Weighted Assets   |       | $                                    | 22,716     |         | 15.52      | %                          | $          | 5,855                      |       | 4                        | %          | $ | 8,782 |   | 6 | % |
| Tier 1 Capital to Average Assets         |       | $                                    | 22,716     |         | 13.96      | %                          | $          | 6,509                      |       | 4                        | %          | $ | 8,136 |   | 5 | % |

 

F-25

----

 

**NOTE 13.****                                          FAIRVALUE OF FINANCIAL INSTRUMENTS**

 

Thefair value of a financial instrument is the current amount that would beexchanged between willing parties, other than in a forced liquidation. Fairvalue is best determined based upon quoted market prices. However, in manyinstances, there are no quoted market prices for the Company’s various financialinstruments. In cases where quoted market prices are not available, fair valueis based on discounted cash flows or other valuation techniques. Thosetechniques are significantly affected by the assumptions used, including thediscount rate and estimates of future cash flows. Accordingly, the fair valueestimates may not be realized in an immediate settlement of the instrument. SFASNo. 107, *Disclosures about Fair Values ofFinancial Instruments,* excludes certain financial instruments andall nonfinancial instruments from its disclosure requirements. Accordingly, theaggregate fair value amounts presented may not necessarily represent theunderlying fair value of the Company.

 

Thefollowing methods and assumptions were used by the Company in estimating thefair value of its financial instruments.

 

**Cash, DueFrom Banks, Interest-Bearing Deposits in Banks and Federal Funds Sold: **The carrying amounts ofcash, due from banks, interest-bearing deposits in banks and federal funds soldapproximate fair values.

 

**Securities: **Fair values for securitiesare based on available quoted market prices. The carrying values of restrictedequity securities with no readily determinable fair value approximate fairvalues.

 

**Loans: **The carrying amount ofvariable-rate loans that reprice frequently and have no significant change incredit risk approximates fair value. The fair value of fixed-rate loans isestimated based on discounted contractual cash flows, using interest ratescurrently being offered for loans with similar terms to borrowers with similarcredit quality. The fair value of impaired loans is estimated based ondiscounted contractual cash flows or underlying collateral values, whereapplicable.

 

**Deposits:**  The carryingamount of demand deposits, savings deposits, and variable-rate certificates ofdeposit approximates fair value. The fair value of fixed-rate certificates of deposit is estimated based ondiscounted contractual cash flows using interest rates currently being offeredfor certificates of similar maturities.

 

**Other Borrowings**:  The carrying amount of adjustable andconvertible rate borrowings approximates fair value. The fair value offixed-rate borrowings is estimated based on discounted contractual cash flowsusing interest rates currently being offered for borrowings of similarmaturities.

 

**AccruedInterest: **The carryingamount of accrued interest approximates fair value.

 

**InterestRate Derivatives**:  Thefair value of interest rate derivatives is based on quoted market prices.

 

**Off-Balance-SheetInstruments:**  Thecarrying amount of commitments to extend credit and standby letters of creditapproximates fair value. The carrying amount of the off-balance sheet financial instruments is based on fees chargedto enter into such agreements.

 

F-26

----

 

Thecarrying amount and estimated fair value of the Company’s financial instrumentswere as follows:

 
| ** **                                                                       | ** ** | **December 31, 2005** | ** **     | **December 31, 2004** | ** **     |
|----------------------------------------------------------------------------------|------------|---------------------------------|----------------|---------------------------------|----------------|
| ** **                                                                       | ** ** | **Carrying****Amount**          | ** **     | **Fair****Value**               | ** **     | **Carrying****Amount** | ** ** | **Fair****Value** | ** ** |
| Financial assets:                                                                |       |                            |           |                            |           |   |   |   |   |
| Cash, due from banks, interest-bearing deposits in banks and federal  funds sold | ** ** | **$**                           | **15,791,422** | ** **                      | **15,791,422** |   | $ | 12,656,217 |   | $ | 12,656,217 |   |
| Securities available for sale                                                    | ** ** | **31,125,111**                  | ** **     | **31,125,111**                  |           | 26,086,812 |   | 26,086,812 |   |
| Restricted equity securities                                                     | ** ** | **1,584,256**                   | ** **     | **1,584,256**                   |           | 1,405,556 |   | 1,405,556 |   |
| Loans                                                                            | ** ** | **166,757,247**                 | ** **     | **168,022,475**                 |           | 132,309,442 |   | 130,855,124 |   |
| Accrued interest receivable                                                      | ** ** | **1,483,007**                   | ** **     | **1,483,007**                   |           | 820,885 |   | 820,885 |   |
| Interest rate derivatives                                                        | ** ** | **374,000**                     | ** **     | **374,000**                     |           | — |   | — |   |
|                                                                             |       |                            |           |                            |           |   |   |   |   |
| Financial liabilities:                                                           |       |                            |           |                            |           |   |   |   |   |
| Deposits                                                                         | ** ** | **174,336,008**                 | ** **     | **173,695,813**                 |           | 131,363,340 |   | 131,046,810 |   |
| Other borrowings                                                                 | ** ** | **22,000,000**                  | ** **     | **21,724,281**                  |           | 22,000,000 |   | 21,805,012 |   |
| Accrued interest payable                                                         | ** ** | **1,137,550**                   | ** **     | **1,137,550**                   |           | 634,402 |   | 634,402 |   |
| Interest rate derivatives                                                        | ** ** | **51,178**                      | ** **     | **51,178**                      |           | 35,567 |   | 35,567 |   |
|                                                                                  |            |                                 |                |                                 |                |  |  |  |  |  |  |  |

 

**NOTE 14.****                                          SUPPLEMENTALFINANCIAL DATA**

 

Components of otheroperating income and expenses in excess of 1% of total revenue are as follows:

 
| ** **                 | ** ** | **Years Ended December 31,** | ** **  |
|----------------------------|------------|---------------------------------------------|-------------|
| ** **                 | ** ** | **2005**                                    | ** **  | **2004** | ** ** |
| Other operating income:    |       |                                        |        |   |   |
| Gain on prepayment of debt | ** ** | **$**                                       | **257,767** |   | $ | — |   |
|                       |       |                                        |        |   |   |
| Other operating expenses:  |       |                                        |        |   |   |
| Audit and accounting fees  | ** ** | **147,781**                                 |        | 64,591 |   |
| Data processing expense    | ** ** | **132,270**                                 |        | 145,651 |   |
|                            |            |                                             |             |  |  |  |  |

 

F-27

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**NOTE15.****                                         ****PARENT COMPANY FINANCIALINFORMATION**

 

The following informationpresents the condensed balance sheet, statement of income, and cash flows ofFirstBank Financial Services, Inc. as of and for the year ended December 31,2005.

 

**CONDENSED BALANCE SHEET**

 
| ** **                          | ** ** | **2005**       | ** **     |
|-------------------------------------|------------|----------------|----------------|
| **Assets**                          |       |           |           |
| Cash                                | ** ** | **$**          | **2,515**      | ** ** |
| Investment in subsidiary            | ** ** | **24,763,031** | ** **     |
| Other assets                        | ** ** | **17,919**     | ** **     |
| **Total assets**                    | ** ** | **$**          | **24,783,465** | ** ** |
| ** **                          | ** ** | ** **     | ** **     |
| **Stockholders’ Equity**       | ** ** | ** **     | ** **     |
| **Total stockholders’ equity** | ** ** | **$**          | **24,783,465** | ** ** |

 

**CONDENSEDSTATEMENT OF INCOME**

 
| ** **                                                                          | ** ** | **2005**      | ** **    |
|-------------------------------------------------------------------------------------|------------|---------------|---------------|
| **Income**                                                                          |       |          |          |
| Dividends from subsidiary                                                           | ** ** | **$**         | **50,000**    | ** ** |
| **Total income**                                                                    | ** ** | **50,000**    | ** **    |
| ** **                                                                          | ** ** | ** **    | ** **    |
| **Expenses**                                                                        | ** ** | ** **    | ** **    |
| Expenses, other                                                                     | ** ** | **47,485**    | ** **    |
| **Total expenses**                                                                  | ** ** | **47,485**    | ** **    |
| Income before income tax benefits and equity in undistributed income of  subsidiary | ** ** | **2,515**     | ** **    |
| **Income tax benefits**                                                             | ** ** | **17,919**    | ** **    |
| Income before equity in undistributed income of subsidiary                          | ** ** | **20,434**    | ** **    |
| **Equity in undistributed income of subsidiary**                                    | ** ** | **2,342,079** | ** **    |
| **Net income**                                                                      | ** ** | **$**         | **2,362,513** | ** ** |

 

Earnings of theBank prior to the acquisition by the Company amounted to $181,654 and areincluded in the consolidated statement of income.

 

F-28

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**CONDENSEDSTATEMENT OF CASH FLOWS**

 
| ** **                                                                        | ** ** | **2005**       | ** **    |
|-----------------------------------------------------------------------------------|------------|----------------|---------------|
| **OPERATING ACTIVITIES**                                                          |       |           |          |
| Net income                                                                        | ** ** | **$**          | **2,362,513** | ** ** |
| Adjustments to reconcile net income to net cash provided by operating activities: | ** ** | ** **     | ** **    |
| Undistributed income of subsidiary                                                | ** ** | **(2,342,079** | **)**         |
| Other operating activities                                                        | ** ** | **(17,919**    | **)**         |
| ** **                                                                        | ** ** | ** **     | ** **    |
| Net cash provided by operating activities                                         | ** ** | **2,515**      | ** **    |
| ** **                                                                        | ** ** | ** **     | ** **    |
| Net increase in cash                                                              | ** ** | **2,515**      | ** **    |
| Cash at beginning of year                                                         | ** ** | **—**     | ** **    |
| Cash at end of year                                                               | ** ** | **$**          | **2,515**     | ** ** |

 

**NOTE16.****                                         ****STOCK DIVIDEND**

 

On November 17,    2005, the Company declared aten percent stock dividend payable to shareholders of record on November 30,2005 to be distributed on January 31, 2006. Earnings per common share for theyear ended December 31, 2004 and all stock option and warrant information hasbeen retroactively adjusted for the dividend as if it occurred on January 1,2004.

 

F-29

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