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U. S. Securities and Exchange Commission

Washington, D.C. 20549



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Form 10-KSB



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ANNUAL REPORT UNDER SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2005

Commission File Number 000-49848



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MIDCAROLINA FINANCIAL CORPORATION

(Name of Small Business Issuer in Its Charter)



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|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|North Carolina                                                 |  | 55-6144577                          
|(State or Other Jurisdiction of Incorporation or Organization) |  | (I.R.S. Employer Identification No.)
|                                                               | 
|3101 South Church Street Burlington, North Carolina            |  | 27215                               
|(Address of Principal Executive Offices)                       |  | (Zip Code)                          

(336) 538-1600

(Issuers Telephone Number, Including Area Code)



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Securities Registered Under Section 12(b) of the Act: None

Securities Registered Under Section 12(g) of the Act: common stock, no par value

Title of
Class



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Check whether the issuer
is not required to file reports pursuant to Section 13 or 15(d) of the Exchange Act. ̈

Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No ̈

Check if there is no disclosure of delinquent filers in response to Item 405 of Regulation S-B contained in this form, and no disclosure will be contained, to the best of registrants knowledge, in
definitive proxy or information statements incorporated by reference in Part III of this Form 10-KSB or any amendment to this Form 10-KSB.  x

Indicate by check mark whether the registrant is a shell company (as defined in rule 12b-2 of the Exchange Act).    Yes ̈No  x

State issuers revenues for its most recent fiscal year. $21.9 million, based on the sum of total interest income and total noninterest income for fiscal year
2005.

State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference
to the price at which the common equity was sold, or the average bid and asked prices of such common equity, as of a specified date within the past 60 days. $54.8 million based on the closing price of the common stock on March 17, 2006 of
$17.50.

State the number of shares outstanding of each of the issuers classes of common equity, as of the latest
practicable date. 3,131,380 shares of common stock, no par value, as of March 17, 2006.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Proxy Statement for the 2006 Annual Meeting of Shareholders of MidCarolina Financial Corporation, to be held on May 23, 2006 (the
Proxy Statement), are incorporated by reference into Parts II and III.

Transitional Small Disclosure
Format:    Yes ̈Nox



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##### Table of Contents

This report contains certain forward-looking statements with respect to the financial condition, results of operations
and business of MidCarolina Financial Corporation (Company) and its banking subsidiary, MidCarolina Bank (Bank). These forward-looking statements involve risks and uncertainties and are based on the beliefs and assumptions of
management of the Company and the Bank and on the information available to management at the time that these disclosures were prepared. These statements can be identified by the use of words like expect, anticipate,
estimate and believe, variations of these words and other similar expressions. Readers should not place undue reliance on forward-looking statements as a number of important factors could cause results to differ materially
from those in the forward-looking statements. Factors that could cause actual results to differ materially include, but are not limited to, (1) competition in the Banks markets, (2) changes in the interest rate environment,
(3) general national, regional or local economic conditions may be less favorable than expected, resulting in, among other things, a deterioration in credit quality and the possible impairment of collectibility of loans, (4) legislative or
regulatory changes including changes in accounting standards, (5) significant changes in the federal and state legal and regulatory environment and tax laws, (6) the impact of changes in monetary and fiscal policies, laws, rules, and
regulations and (7) other risks and factors identified in the Companys other filings with the Securities and Exchange Commission. The Company undertakes no obligation to update any forward-looking statements.



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##### Table of Contents

MidCarolina Financial Corporation

Table 1

Selected Consolidated Financial Information and Other Data

($ in thousands, except per share and nonfinancial data)



|                                                    |  |                                       |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|--------------------------------------------------- |  | ------------------------------------- | --------- | - | ---- | - | --------- | ---- |  | - | --------- | - |  | ---- | --------- | - |  | - | --------- | -
|                                                    |  | At or for the Year Ended December 31, |          
|                                                    |  | 2005                                  |           |   | 2004 |   |           | 2003 |  |   | 2002      |   |  | 2001 |          
|Operating Data:                                     |  |                                       |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|Total interest income                               |  | $                                     | 19,208    |   |      | $ | 12,174    |      |  | $ | 9,652     |   |  | $    | 8,982     |   |  | $ | 9,199     |  
|Total interest expense                              |  |                                       | 8,327     |   |      |   | 4,383     |      |  |   | 3,298     |   |  |      | 3,338     |   |  |   | 4,879     |  
|                                                    |  |                                       |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|Net interest income                                 |  |                                       | 10,881    |   |      |   | 7,791     |      |  |   | 6,354     |   |  |      | 5,644     |   |  |   | 4,320     |  
|Provision for loan losses                           |  |                                       | 1,373     |   |      |   | 1,030     |      |  |   | 586       |   |  |      | 573       |   |  |   | 735       |  
|                                                    |  |                                       |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|Net interest income after provision                 |  |                                       | 9,508     |   |      |   | 6,761     |      |  |   | 5,768     |   |  |      | 5,071     |   |  |   | 3,585     |  
|Noninterest income                                  |  |                                       | 2,683     |   |      |   | 4,141     |      |  |   | 3,575     |   |  |      | 2,091     |   |  |   | 1,382     |  
|Noninterest expense                                 |  |                                       | 8,546     |   |      |   | 8,010     |      |  |   | 6,845     |   |  |      | 5,398     |   |  |   | 4,049     |  
|                                                    |  |                                       |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|Income before income taxes                          |  |                                       | 3,645     |   |      |   | 2,892     |      |  |   | 2,498     |   |  |      | 1,764     |   |  |   | 918       |  
|Provision for income taxes                          |  |                                       | 1,277     |   |      |   | 950       |      |  |   | 835       |   |  |      | 489       |   |  |   | 151       |  
|                                                    |  |                                       |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|Net income                                          |  | $                                     | 2,368     |   |      | $ | 1,942     |      |  | $ | 1,663     |   |  | $    | 1,275     |   |  | $ | 767       |  
|                                                    |  |                                       |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|Per Share Data (1):                                 |  |                                       |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|Earnings per common share - basic                   |  | $                                     | 0.72      |   |      | $ | 0.62      |      |  | $ | 0.54      |   |  | $    | 0.42      |   |  | $ | 0.26      |  
|Earnings per common share - diluted                 |  |                                       | 0.67      |   |      |   | 0.58      |      |  |   | 0.50      |   |  |      | 0.39      |   |  |   | 0.25      |  
|Market price                                        |  |                                       |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|High                                                |  |                                       | 17.00     |   |      |   | 14.67     |      |  |   | 13.33     |   |  |      | 9.92      |   |  |   | 10.00     |  
|Low                                                 |  |                                       | 11.60     |   |      |   | 10.33     |      |  |   | 7.45      |   |  |      | 9.17      |   |  |   | 5.30      |  
|Close                                               |  |                                       | 14.25     |   |      |   | 11.67     |      |  |   | 11.71     |   |  |      | 9.50      |   |  |   | 9.70      |  
|Book value - common shares                          |  |                                       | 5.84      |   |      |   | 5.25      |      |  |   | 4.66      |   |  |      | 4.13      |   |  |   | 3.69      |  
|                                                    |  |                                       |           |   |     
|Weighted average common shares outstanding          |  |                                       |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|Basic                                               |  |                                       | 3,126,925 |   |      |   | 3,119,564 |      |  |   | 3,079,199 |   |  |      | 3,029,002 |   |  |   | 3,004,607 |  
|Diluted                                             |  |                                       | 3,396,074 |   |      |   | 3,361,281 |      |  |   | 3,314,025 |   |  |      | 3,235,651 |   |  |   | 3,190,160 |  
|                                                    |  |                                       |           |   |     
|Selected Year-End Balance Sheet Data:               |  |                                       |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|Total assets                                        |  | $                                     | 370,440   |   |      | $ | 284,888   |      |  | $ | 212,561   |   |  | $    | 169,429   |   |  | $ | 137,471   |  
|Loans, held to maturity                             |  |                                       | 279,962   |   |      |   | 217,683   |      |  |   | 178,913   |   |  |      | 141,207   |   |  |   | 114,424   |  
|Allowance for loan losses                           |  |                                       | 4,090     |   |      |   | 2,865     |      |  |   | 2,522     |   |  |      | 2,088     |   |  |   | 1,633     |  
|Deposits                                            |  |                                       | 300,262   |   |      |   | 216,791   |      |  |   | 151,982   |   |  |      | 142,175   |   |  |   | 120,413   |  
|Short-term borrowings                               |  |                                       | 10,000    |   |      |   | 15,500    |      |  |   | 18,500    |   |  |      |          |   |  |   | 1,000     |  
|Long-term debt                                      |  |                                       | 34,764    |   |      |   | 34,764    |      |  |   | 26,500    |   |  |      | 13,000    |   |  |   | 4,000     |  
|Shareholders equity                                |  |                                       | 23,093    |   |      |   | 16,424    |      |  |   | 14,411    |   |  |      | 12,681    |   |  |   | 11,096    |  
|                                                    |  |                                       |           |   |     
|Selected Average Balances:                          |  |                                       |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|Total assets                                        |  | $                                     | 329,395   |   |      | $ | 253,352   |      |  | $ | 192,822   |   |  | $    | 157,437   |   |  |   | 128,632   |  
|Loans, net                                          |  |                                       | 252,914   |   |      |   | 204,121   |      |  |   | 160,041   |   |  |      | 118,702   |   |  |   | 100,816   |  
|Total interest-earning assets                       |  |                                       | 309,935   |   |      |   | 241,992   |      |  |   | 177,780   |   |  |      | 144,870   |   |  |   | 119,086   |  
|Deposits                                            |  |                                       | 264,730   |   |      |   | 187,090   |      |  |   | 150,962   |   |  |      | 138,765   |   |  |   | 113,356   |  
|Total interest-bearing liabilities                  |  |                                       | 280,412   |   |      |   | 215,080   |      |  |   | 158,961   |   |  |      | 131,171   |   |  |   | 106,028   |  
|Shareholders equity                                |  |                                       | 19,743    |   |      |   | 15,484    |      |  |   | 13,665    |   |  |      | 11,833    |   |  |   | 10,679    |  
|Shareholders equity less average preferred equity  |  |                                       | 17,910    |   |      |   | 15,484    |      |  |   | 13,665    |   |  |      | 11,833    |   |  |   | 10,679    |  
|                                                    |  |                                       |           |   |     
|Selected Performance Ratios:                        |  |                                       |           |   |      |   |           |      |  |   |           |   |  |      |           |   |  |   |           |  
|Return on average assets                            |  |                                       | 0.72      | % |      |   | 0.77      | %    |  |   | 0.86      | % |  |      | 0.81      | % |  |   | 0.60      | %
|Return on average equity excluding preferred equity |  |                                       | 12.64     | % |      |   | 12.54     | %    |  |   | 12.17     | % |  |      | 10.77     | % |  |   | 7.18      | %
|Net interest spread                                 |  |                                       | 3.23      | % |      |   | 2.99      | %    |  |   | 3.35      | % |  |      | 3.66      | % |  |   | 3.12      | %
|Net interest margin                                 |  |                                       | 3.51      | % |      |   | 3.22      | %    |  |   | 3.57      | % |  |      | 3.90      | % |  |   | 3.63      | %
|Noninterest income to total revenue                 |  |                                       | 19.78     | % |      |   | 34.70     | %    |  |   | 36.01     | % |  |      | 27.03     | % |  |   | 24.24     | %
|Noninterest income to average assets                |  |                                       | 0.81      | % |      |   | 1.63      | %    |  |   | 1.85      | % |  |      | 1.33      | % |  |   | 1.07      | %
|Noninterest expense to average assets               |  |                                       | 2.59      | % |      |   | 3.16      | %    |  |   | 3.55      | % |  |      | 3.43      | % |  |   | 3.15      | %



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##### Table of Contents

MidCarolina Financial Corporation

Table 1

Selected Consolidated Financial Information and Other Data

($ in thousands, except per share and nonfinancial data)



|                                                 |  |                                       |   |  |         |   |  |        |   |  |         |   |  |        |  
|------------------------------------------------ |  | ------------------------------------- | - |  | ------- | - |  | ------ | - |  | ------- | - |  | ------ | -
|                                                 |  | At or for the Year Ended December 31, |  
|                                                 |  | 2005                                  |   |  | 2004    |   |  | 2003   |   |  | 2002    |   |  | 2001   |  
|Asset Quality Ratios:                            |  |                                       |   |  |         |   |  |        |   |  |         |   |  |        |  
|Nonperforming loans to period-end loans          |  | 0.08                                  | % |  | 0.11    | % |  | 0.32   | % |  | 0.06    | % |  | 0.65   | %
|Allowance for loan losses to period-end loans    |  | 1.46                                  | % |  | 1.32    | % |  | 1.41   | % |  | 1.48    | % |  | 1.43   | %
|Allowance for loan losses to nonperforming loans |  | 1725.74                               | % |  | 1127.95 | % |  | 428.18 | % |  | 2610.00 | % |  | 218.61 | %
|Nonperforming assets to total assets             |  | 0.83                                  | % |  | 0.80    | % |  | 0.29   | % |  | 0.05    | % |  | 0.54   | %
|Net loan charge-offs to average loans            |  | 0.06                                  | % |  | 0.34    | % |  | 0.09   | % |  | 0.10    | % |  | 0.42   | %
|                                                 |  |                                       |   |  |        
|Capital Ratios:                                  |  |                                       |   |  |         |   |  |        |   |  |         |   |  |        |  
|Total risk-based capital                         |  | 11.34                                 | % |  | 11.13   | % |  | 13.11  | % |  | 10.28   | % |  | 9.45   | %
|Tier 1 risk-based capital                        |  | 9.90                                  | % |  | 8.78    | % |  | 9.95   | % |  | 12.05   | % |  | 10.70  | %
|Leverage ratio                                   |  | 8.64                                  | % |  | 7.83    | % |  | 9.53   | % |  | 9.59    | % |  | 8.60   | %
|Equity to assets ratio                           |  | 6.23                                  | % |  | 5.77    | % |  | 6.78   | % |  | 7.48    | % |  | 8.07   | %
|                                                 |  |                                       |   |  |        
|Other Data:                                      |  |                                       |   |  |         |   |  |        |   |  |         |   |  |        |  
|Number of banking offices                        |  | 6                                     |   |  | 6       |   |  | 5      |   |  | 4       |   |  | 4      |  
|Number of full time equivalent employees         |  | 69                                    |   |  | 77      |   |  | 63     |   |  | 41      |   |  | 33     |  

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|(1) | All per share data has been restated to reflect the effects of a stock split effected in the form of a 25% stock dividend in 1999, a stock split effected in the form of a 20% stock
dividend in 2001, a stock split effected in the form of a 10% stock dividend in 2002, and a stock split effected in the form of a 20% stock dividend in 2003 and 2004 and a stock split effected in the form of a 25% stock dividend in 2005.
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PART I

ITEM 1. DESCRIPTION OF BUSINESS

General

MidCarolina Financial Corporation (the Company) was formed in 2002 to serve as a holding company for MidCarolina Bank (the Bank). The Company is registered with the Board of Governors of the Federal Reserve System
(the Federal Reserve) under the Bank Holding Company Act of 1956, as amended (the BHCA) and the bank holding company laws of North Carolina. The Companys office is located at 3101 South Church Street, Burlington, North
Carolina 27216. The Companys principal source of income is earnings on investments, including any dividends that are declared and paid by the Bank on its capital stock.

The Bank is incorporated under the laws of North Carolina and began operations on August 14, 1997 as a North Carolina chartered commercial bank. The Bank is engaged in general commercial banking primarily in
Alamance and Guilford Counties, North Carolina, and operates under the banking laws of North Carolina and the rules and regulations of the Federal Deposit Insurance Corporation (the FDIC).

As a North Carolina bank, the Bank is subject to examination and regulation by the FDIC and the Commissioner of Banks, North Carolina Department of Commerce (the
Commissioner). The Bank is further subject to certain regulations of the Federal Reserve governing reserve requirements to be maintained against deposits and other matters. The business and regulation of the Bank are also subject to
legislative changes from time to time. See SUPERVISION AND REGULATION.

The Banks primary market area is Alamance County, North Carolina.
The Banks main office is located in Burlington, North Carolina. The bank also has one full-service branch in Burlington, NC, one full-service branch in Graham, North Carolina, two full-service branches in Greensboro, North Carolina. The Bank
has limited service offices in the Alamance Regional Medical Center and the Village of Brookwood Retirement Center, both of which are located in Burlington, North Carolina. The Banks loans and deposits are primarily generated from the areas
where its offices are located.

The Banks primary source of revenue is interest and fee income from its lending activities. These lending activities
consist principally of originating commercial operating and working capital loans, residential mortgage loans, home equity lines of credit, other consumer loans and loans secured by commercial real estate. The Banks current lending strategy is
to establish market share throughout Alamance and Guilford Counties, with an emphasis in Burlington, Graham and Greensboro, North Carolina. At December 31, 2005, the largest amount the Bank had outstanding to any one borrower and its affiliates
was approximately $2.8 million.

Interest and dividend income from investment activities generally provide the second largest source of income to the Bank
after interest on loans. During 2005, the Bank chose to enhance its overall liquidity position by increasing its securities portfolio and deploying more of its funds into lower risk mortgage-backed securities with short durations, U.S. Agency
securities and State and Local Government issued federally tax-exempt securities. The interest and dividends on the investment portfolio therefore increased significantly during 2005.

Deposits are the primary source of the Banks funds for lending and other investment purposes. The Bank attracts both short-term and long-term deposits from the general public by offering a variety of accounts
and rates. The Bank offers statement savings accounts, negotiable order of withdrawal accounts, money market demand accounts, non-interest-bearing accounts and fixed interest rate certificates with varying maturities. The Bank also utilizes
alternative sources of funds such as Certificates of Deposit raised over the Internet, Brokered Certificates of Deposit and borrowings from the Federal Home Loan Bank (the FHLB) of Atlanta, Georgia.

Nevertheless, the Banks savings deposits are obtained primarily from its primary market area. The Bank uses traditional marketing methods to attract new customers
and savings deposits including print media advertising and direct mailings. Deposit flows are greatly influenced by economic conditions, the general level of interest rates, competition and other factors.



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The Bank is the sole banking subsidiary of the Company. Two Trusts (MidCarolina I and MidCarolina Trust II) have been
formed as subsidiaries to the Company to facilitate the infusion of Trust-Preferred Securities as a form of non-dilutive equity into the Company. The trusts are not consolidated in the financial statements. The majority of the Companys
operations are located at the Bank level. Throughout this Annual Report, results of operations will be discussed by referring to the Banks operations, unless a specific reference is made to the Company and its operating results apart from the
Bank.

The Bank has continued to experience steady growth since its formation in 1997. The Banks assets totaled $370.4 million, $284.9 million and
$212.6 million as of December 31, 2005, 2004 and 2003, respectively. The Company had net income for the year ended December 31, 2005 of $2.4 million, or $0.67 per diluted share, compared with $1.9 million, or $0.58 per diluted share for
the year ended December 31, 2004. The per share amounts have been adjusted to reflect the 5-for-4 stock split effective November 15, 2005.

At
December 31, 2005, the Company had total assets of $370.4 million, net loans of $280.0 million, deposits of $300.3 million, investment securities, available-for-sale of $58.4 million and shareholders equity of $23.1 million.

Subsidiaries

Other than the Bank, the Company has two trust
subsidiaries: MidCarolina I and MidCarolina Trust II. The Banks only subsidiary, MidCarolina Investments, Inc, is in the process of being dissolved. MidCarolina Investments engaged in general securities brokerage and offered insurance and
other financial services through a contract arrangement with a third-party provider. The Bank will continue to offer these services through a third-party provider.

Employees

At December 31, 2005, the Bank had 69 full-time equivalent employees.

Competition and Market Area

The Bank faces strong competition both
in attracting deposits and making real estate and other loans. Its most direct competition for deposits comes from commercial banks, savings institutions and credit unions located in its primary market area, including large financial institutions
that have greater financial and marketing resources available to them. At December 31, 2005, there were 13 depository institutions with 47 offices in Alamance County. The Bank had a deposit market share of 12.1% in Alamance County. The Bank
also faces additional significant competition for investors funds from short-term money market securities and other corporate and government securities. The ability of the Bank to attract and retain savings deposits depends on its ability to
generally provide a rate of return, liquidity and risk comparable to that offered by competing investment opportunities.

The Banks competition for
real estate loans is from savings institutions, commercial banks, and mortgage banking companies. It competes for loans primarily through the interest rates and loan fees it charges and the efficiency and quality of services it provides borrowers.
Competition is increasing as a result of the reduction of restrictions on the interstate operations of financial institutions.

The Banks primary
market area is Alamance County, North Carolina. The population of Alamance County is 138,462 and the median household income is $39,168. Alamance County has a diverse economy with no concentration in any specific industry. Major businesses and
industries in the area are LabCorp, a laboratory that provides specialized testing services for the medical industry, Alamance Health Services, Elon College and GKN Automotive, a manufacturer of automobile drive shafts.

Supervision and Regulation

Bank holding companies and state
commercial banks are extensively regulated under both federal and state law. The following is a brief summary of certain statutes and rules and regulations that affect or will affect the Company and the Bank. This summary is qualified in its
entirety by reference to the particular statute and regulatory provisions referred to below and is not intended to be an exhaustive description of the statutes or regulations applicable to the business of the Company and the Bank. Supervision,
regulation and examination of the Company and the Bank by the regulatory agencies are intended primarily for the protection of depositors rather than shareholders of the Company.



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General.There are a number of obligations and restrictions imposed on bank holding companies and their depository
institution subsidiaries by law and regulatory policy that are designed to minimize potential loss to the depositors of such depository institutions and the FDIC insurance funds in the event the depository institution becomes in danger of default or
in default. For example, to avoid receivership of an insured depository institution subsidiary, a bank holding company is required to guarantee the compliance of any insured depository institution subsidiary that may become
undercapitalized with the terms of any capital restoration plan filed by such subsidiary with its appropriate federal banking agency up to the lesser of (i) an amount equal to 5% of the banks total assets at the time the bank
became undercapitalized or (ii) the amount which is necessary (or would have been necessary) to bring the bank into compliance with all acceptable capital standards as of the time the bank fails to comply with such capital restoration plan. The
Company, as a registered bank holding company, is subject to the regulation of the Federal Reserve. Under a policy of the Federal Reserve with respect to bank holding company operations, a bank holding company is required to serve as a source of
financial strength to its subsidiary depository institutions and to commit resources to support such institutions in circumstances where it might not do so absent such policy. The Federal Reserve under the BHCA also has the authority to require a
bank holding company to terminate any activity or to relinquish control of a non-bank subsidiary (other than a non-bank subsidiary of a bank) upon the Federal Reserves determination that such activity or control constitutes a serious risk to
the financial soundness and stability of any bank subsidiary of the bank holding company.

In addition, insured depository institutions under common
control are required to reimburse the FDIC for any loss suffered by its deposit insurance funds as a result of the default of a commonly controlled insured depository institution or for any assistance provided by the FDIC to a commonly controlled
insured depository institution in danger of default. The FDIC may decline to enforce the cross-guarantee provisions if it determines that a waiver is in the best interest of the deposit insurance funds. The FDICs claim for damages is superior
to claims of stockholders of the insured depository institution or its holding company but is subordinate to claims of depositors, secured creditors and holders of subordinated debt (other than affiliates) of the commonly controlled insured
depository institutions.

As a result of the Companys ownership of the Bank, the Company is also registered under the bank holding company laws of
North Carolina. Accordingly, the Company is also subject to regulation and supervision by the Commissioner.

Capital Adequacy Guidelines for Holding
Companies.The Federal Reserve has adopted capital adequacy guidelines for bank holding companies and banks that are members of the Federal Reserve System and have consolidated assets of $150 million or more. Bank holding companies subject to
the Federal Reserves capital adequacy guidelines are required to comply with the Federal Reserves risk-based capital guidelines. Under these regulations, the minimum ratio of total capital to risk-weighted assets is 8%. At least half of
the total capital is required to be Tier I capital, principally consisting of common stockholders equity, non-cumulative perpetual preferred stock, and a limited amount of cumulative perpetual preferred stock, less certain goodwill
items. The remainder (Tier II capital) may consist of a limited amount of subordinated debt, certain hybrid capital instruments and other debt securities, perpetual preferred stock and a limited amount of the allowance for loan losses.
In addition to the risk-based capital guidelines, the Federal Reserve has adopted a minimum Tier I capital (leverage) ratio, under which a bank holding company must maintain a minimum level of Tier I capital to average total consolidated assets of
at least 3% in the case of a bank holding company which has the highest regulatory examination rating and is not contemplating significant growth or expansion. All other bank holding companies are expected to maintain a Tier I capital (leverage)
ratio of at least 1% to 2% above the stated minimum.

Capital Requirements for the Bank.The Bank, as a North Carolina commercial bank, is required
to maintain a surplus account equal to 50% or more of its paid-in capital stock. As a North Carolina chartered, FDIC-insured commercial bank that is not a member of the Federal Reserve, the Bank is also subject to capital requirements imposed by the
FDIC. Under the FDICs regulations, state nonmember banks that (a) receive the highest rating during the examination process and (b) are not anticipating or experiencing any significant growth, are required to maintain a minimum
leverage ratio of 3% of total consolidated assets; all other banks are required to maintain a minimum ratio of 1% or 2% above the stated minimum, with a minimum leverage ratio of not less than 4%. The Bank exceeded all applicable capital
requirements as of December 31, 2005.

Dividend and Repurchase Limitations.The Company must obtain Federal Reserve approval prior to
repurchasing common stock in excess of 10% of its net worth during any twelve-month period unless the Company (i) both before and after the redemption satisfies capital requirements for well capitalized state member banks;
(ii) received a one or two rating in its last examination; and (iii) is not the subject of any unresolved supervisory issues.



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Although the payment of dividends and repurchase of stock by the Company are subject to certain requirements and
limitations of North Carolina corporate law, except as set forth in this paragraph, neither the Commissioner nor the FDIC have promulgated any regulations specifically limiting the right of the Company to pay dividends and repurchase shares.
However, the ability of the Company to pay dividends or repurchase shares may be dependent upon the Companys receipt of dividends from the Bank.

North Carolina commercial banks, such as the Bank, are subject to legal limitations on the amounts of dividends they are permitted to pay. The Bank may pay dividends from undivided profits, which are determined by deducting and charging
certain items against actual profits, including any contributions to surplus required by North Carolina law. Also, an insured depository institution, such as the Bank, is prohibited from making capital distributions, including the payment of
dividends, if, after making such distribution, the institution would become undercapitalized (as such term is defined in the applicable law and regulations).

Deposit Insurance Assessments.The Bank is subject to insurance assessments imposed by the FDIC. Under current law, the insurance assessment to be paid by members of the Bank Insurance Fund, such as the Bank,
shall be as specified in a schedule required to be issued by the FDIC. FDIC assessments for deposit insurance range from 0 to 31 basis points per $100 of insured deposits, depending on the institutions capital position and other supervisory
factors.

Federal Home Loan Bank System.The FHLB system provides a central credit facility for member institutions. In December 2004, the FHLB of
Atlanta implemented a new capital plan. As a member of the FHLB of Atlanta and under the new capital plan, the bank is required to own capital stock in the FHLB Atlanta in an amount at least equal to 0.20% (or 20 basis points) of the Banks
total assets at the end of each calendar year, plus 4.5% of its outstanding advances (borrowings) from the FHLB of Atlanta under the new activity-based stock ownership requirement. On December 31, 2005, the Bank was in compliance with this
requirement.

Community Reinvestment.Under the Community Reinvestment Act (CRA), as implemented by regulations of the FDIC, an insured
institution has a continuing and affirmative obligation consistent with its safe and sound operation to help meet the credit needs of its entire community, including low and moderate income neighborhoods. The CRA does not establish specific lending
requirements or programs for financial institutions, nor does it limit an institutions discretion to develop, consistent with the CRA, the types of products and services that it believes are best suited to its particular community. The CRA
requires the federal banking regulators, in connection with their examinations of insured institutions, to assess the institutions records of meeting the credit needs of their communities, using the ratings of outstanding,
satisfactory, needs to improve, or substantial noncompliance, and to take those records into account in its evaluation of certain applications by those institutions. All institutions are required to make public
disclosure of their CRA performance ratings. The Bank received a satisfactory rating in its last CRA examination that was conducted during May 2004.

Prompt Corrective Action.The FDIC has broad powers to take corrective action to resolve the problems of insured depository institutions. The extent of these powers will depend upon whether the institution in question is well
capitalized, adequately capitalized, undercapitalized, significantly undercapitalized or critically undercapitalized. Under the regulations, an institution is considered well
capitalized if it has (i) a total risk-based capital ratio of 10% or greater, (ii) a Tier I risk-based capital ratio of 6% or greater, (iii) a leverage ratio of 5% or greater and (iv) is not subject to any order or written
directive to meet and maintain a specific capital level for any capital measure. An adequately capitalized institution is defined as one that has (i) a total risk-based capital ratio of 8% or greater, (ii) a Tier I risk-based
capital ratio of 4% or greater and (iii) a leverage ratio of 4% or greater (or 3% or greater in the case of an institution with the highest examination rating). An institution is considered (A) undercapitalized if it has
(i) a total risk-based capital ratio of less than 8%, (ii) a Tier I risk-based capital ratio of less than 4% or (iii) a leverage ratio of less than 4% (or 3% in the case of an institution with the highest examination rating);
(B) significantly undercapitalized if the institution has (i) a total risk-based capital ratio of less than 6%, or (ii) a Tier I risk-based capital ratio of less than 3% or (iii) a leverage ratio of less than 3% and
(C) critically undercapitalized if the institution has a ratio of tangible equity to total assets equal to or less than 2%.

Changes in
Control.The BHCA prohibits the Company from acquiring direct or indirect control of more than 5% of the outstanding voting stock or substantially all of the assets of any bank or savings bank or merging or consolidating with another bank
holding company or savings bank holding company without prior approval of the Federal Reserve. Similarly, Federal Reserve approval (or, in certain cases, non-disapproval) must be obtained prior to any person acquiring control of the Company. Control
is conclusively presumed to exist if, among other things, a



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person acquires more than 25% of any class of voting stock of the Company or controls in any manner the election of a
majority of the directors of the Company. Control is presumed to exist if a person acquires more than 10% of any class of voting stock and the stock is registered under Section 12 of the Securities Exchange Act of 1934, as amended (the
Exchange Act) or the acquirer will be the largest shareholder after the acquisition.

Federal Securities Law.The Company has registered
its common stock with the Securities and Exchange Commission (the SEC) pursuant to Section 12(g) of the Exchange Act. As a result of such registration, the proxy and tender offer rules, insider trading reporting requirements, annual
and periodic reporting and other requirements of the Exchange Act are applicable to the Company.

Transactions with Affiliates.Under current
federal law, depository institutions are subject to the restrictions contained in Section 22(h) of the Federal Reserve Act with respect to loans to directors, executive officers and principal shareholders. Under Section 22(h), loans to
directors, executive officers and shareholders who own more than 10% of a depository institution (18% in the case of institutions located in an area with less than 30,000 in population) and certain affiliated entities of any of the foregoing, may
not exceed, together with all other outstanding loans to such person and affiliated entities, the institutions loans-to-one-borrower limit (as discussed below). Section 22(h) also prohibits loans above amounts prescribed by the
appropriate federal banking agency to directors, executive officers and shareholders who own more than 10% of an institution and their respective affiliates, unless such loans are approved in advance by a majority of the board of directors of the
institution. Any interested director may not participate in the voting. The FDIC has prescribed the loan amount (which includes all other outstanding loans to such person), as to which such prior board of director approval is required,
as being the greater of $25,000 or 5% of capital and surplus (up to $500,000). Further, pursuant to Section 22(h), the Federal Reserve requires that loans to directors, executive officers, and principal shareholders be made on terms
substantially the same as offered in comparable transactions with non-executive employees of the Bank. The FDIC has imposed additional limits on the amount a bank can loan to an executive officer.

Loans to One Borrower.The Bank is subject to the Commissioners loans to one borrower limits, which are substantially the same as those applicable to
national banks. Under these limits, no loans and extensions of credit to any borrower outstanding at one time and not fully secured by readily marketable collateral shall exceed 15% of the unimpaired capital and unimpaired surplus of the bank. Loans
and extensions of credit fully secured by readily marketable collateral may comprise an additional 10% of unimpaired capital and unimpaired surplus.

Gramm-Leach-Bliley Act. The federal Gramm-Leach-Bliley Act enacted in 1999 (the GLB Act) dramatically changed various federal laws governing the banking, securities and insurance industries. The GLB Act has expanded
opportunities for banks and bank holding companies to provide services and engage in other revenue-generating activities that previously were prohibited to them. However, this expanded authority also may present us with new challenges as our larger
competitors are able to expand their services and products into areas that are not feasible for smaller, community oriented financial institutions. The GLB Act likely will have a significant economic impact on the banking industry and on competitive
conditions in the financial services industry generally.

USA Patriot Act of 2001. The USA Patriot Act of 2001 was enacted in response to the
terrorist attacks that occurred in New York, Pennsylvania and Washington, D.C. on September 11, 2001. The Act is intended to strengthen the ability of U.S. law enforcement and the intelligence community to work cohesively to combat terrorism on
a variety of fronts. The potential impact of the Act on financial institutions of all kinds is significant and wide ranging. The Act contains sweeping anti-money laundering and financial transparency laws and imposes various regulations, including
standards for verifying customer identification at account opening and rules to promote cooperation among financial institutions, regulators, and law enforcement entities in identifying parties that may be involved in terrorism or money laundering.

Sarbanes-Oxley Act of 2002.On July 30, 2002, the Sarbanes-Oxley Act of 2002 was signed into law and included significant changes addressing
accounting, corporate governance and disclosure issues. The impact of the Sarbanes-Oxley Act is wide-ranging as it applies to all public companies and imposes significant new requirements for public company governance and disclosure requirements.

In general, the Sarbanes-Oxley Act mandates corporate governance and financial reporting requirements intended to enhance the accuracy and transparency of
public companies reported financial results. It establishes new responsibilities for corporate chief executive officers, chief financial officers and audit committees in the financial reporting process and creates a new regulatory body to
oversee auditors of public companies. It backs these requirements with new SEC enforcement tools, increases criminal penalties for federal mail, wire and securities fraud and creates new criminal penalties for document and record destruction in
connection with federal investigations. It also increases the opportunity for more private litigation by lengthening the statute of limitations for securities fraud claims and providing new federal corporate whistleblower protection.



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The economic and operational effects of this new legislation on public companies, including the Bank, has been and is
expected to continue to be significant in terms of the time, resources and costs associated with complying with the law. Discussions are taking place which may result in some relaxation of the requirements of Sarbanes-Oxley that are applicable to
smaller public companies. If the requirements applicable to smaller companies are not relaxed, the costs associated with complying with the law will present smaller public companies with additional competitive challenges.

Other.The federal banking agencies, including the FDIC, have developed joint regulations requiring annual examinations of all insured depository institutions by
the appropriate federal banking agency, with some exceptions for small, well-capitalized institutions and state chartered institutions examined by state regulators and establish operational and managerial, asset quality, earnings and stock valuation
standards for insured depository institutions as well as compensation standards when such compensation would endanger the insured depository institution or would constitute an unsafe practice.

In addition, the Bank is subject to various other state and federal laws and regulations, including state usury laws, laws relating to fiduciaries, consumer credit and
equal credit, fair credit reporting laws and laws relating to branch banking. The Bank, as an insured North Carolina commercial bank, is prohibited from engaging as a principal in activities that are not permitted for national banks, unless
(i) the FDIC determines that the activity would pose no significant risk to the appropriate deposit insurance fund and (ii) the Bank is, and continues to be, in compliance with all applicable capital standards.

Under Chapter 53 of the North Carolina General Statutes, if the capital stock of a North Carolina commercial bank is impaired by losses or otherwise, the Commissioner is
authorized to require payment of the deficiency by assessment upon the banks shareholders, pro rata, and to the extent necessary, if any such assessment is not paid by any shareholder, upon 30 days notice, to sell as much as is necessary
of the stock of such shareholder to make good the deficiency.

ITEM 2. DESCRIPTION OF PROPERTY

The Banks owns its main office, which is located at 3101 South Church Street, Burlington, North Carolina, as well as its full-service branch offices located at
5509-A West Friendly Avenue, Suite 102, Greensboro, North Carolina and 842 South Main Street, Graham, North Carolina. The Bank leases its full-service offices located at Cum-Park Plaza, 2214 North Church Street, Burlington, and 701 Green Valley
Road, Greensboro, North Carolina,. The Bank occupies space in the Alamance Regional Medical Center in Burlington from which it operates a limited-service office as well as a limited-service office located in the Village of Brookwood Retirement
Center located in Burlington, North Carolina. The Bank operates a leased in-house mortgage operations facility in Burlington, North Carolina.

The total
net book value of the Banks furniture, fixtures, leasehold improvements and equipment at December 31, 2005 was approximately $6.1 million. All properties are considered by the Banks management to be in good condition and adequately
covered by insurance. Additional information about this property is set forth in Note (F) to the Consolidated Financial Statements contained in Item 7 of this Form 10-KSB, which note is incorporated herein by reference. Any property
acquired as a result of foreclosure or by deed in lieu of foreclosure is classified as Other Real Estate Owned until such time as it is sold or otherwise disposed of by the Bank to recover its investment. As of December 31, 2005, the Bank had
$2.8 million classified as Other Real Estate Owned.

ITEM 3. LEGAL PROCEEDINGS

In the opinion of management, neither the Company nor the Bank is involved in any pending legal proceedings other than routine litigation that is incidental to its business.



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ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

No matter was submitted to a vote of the stockholders of the Company during the fourth quarter of the fiscal year ended December 31, 2005.

PART II

ITEM 5.MARKET FOR COMMON EQUITY AND RELATED
SHAREHOLDER MATTERS AND SMALL BUSINESS ISSUER PURCHASES OF EQUITY SECURITIES

There currently is a limited local trading market for the Companys
common stock, and there can be no assurance that a more active market will develop. The Companys common stock is traded over-the-counter with quotations available on the National Daily Quotation Services Bulletin Board under the
symbol MCFI. There were 1,137 stockholders of record as of December 31, 2005, not including the persons or entities whose stock is held in nominee or street name and by various banks and brokerage firms.

The table below presents the over-the-counter market quotations for the Companys common stock for the year- ended December 31, 2005 and 2004. The quotations,
which have been adjusted to reflect declared stock splits in the form of stock dividends in 2005 and 2004, reflect inter-dealer prices, without retail mark-up, mark-down or commission, and may not represent actual transactions.



|               |  |      |       |     |   |      
|-------------- |  | ---- | ----- | --- | - | -----
|               |  | High |       | Low
|2005           |  |      |       |     |   |      
|First quarter  |  | $    | 14.00 |     | $ | 12.00
|Second quarter |  | $    | 13.40 |     | $ | 11.60
|Third quarter  |  | $    | 20.00 |     | $ | 12.48
|Fourth quarter |  | $    | 17.00 |     | $ | 14.15
|               |  |     
|2004           |  |      |       |     |   |      
|First quarter  |  | $    | 11.53 |     | $ | 10.41
|Second quarter |  | $    | 12.00 |     | $ | 10.33
|Third quarter  |  | $    | 13.33 |     | $ | 10.83
|Fourth quarter |  | $    | 14.67 |     | $ | 11.33

See ITEM 1. DESCRIPTION OF BUSINESS  Supervision and Regulation above for regulatory
restrictions which limit the ability of the Bank to pay dividends. Neither the Company nor the Bank has paid any cash dividends to common stockholders from the time either began operations through December 31, 2005. Management believes that the
most effective use of its capital is to retain it for the purpose of supporting continued growth in earning assets. The Company paid cash dividends in the amount of $104 thousand to non-cumulative perpetual preferred stock holders during 2005. No
cash dividends were paid to non-cumulative perpetual preferred stock holders during 2004.

Information required by Item 201 (d) by Regulation KSB
can be found in the Proxy Statement under section captioned Proposal I  Election of Directors.



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ITEM 6.MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND PLAN OF OPERATIONS

The discussion and analysis that follows is intended to assist readers in the understanding and evaluation of the financial condition and results
of operations of the Company. It should be read in conjunction with the audited consolidated financial statements and accompanying notes included in this annual report on Form 10-KSB and the supplemental financial data appearing throughout this
discussion and analysis. Because the Companys primary asset is the Bank, the discussion that follows focuses on the Banks business and operations.

EXECUTIVE OVERVIEW

Significant
accomplishments

In the opinion of MidCarolinas management, the Companys most significant accomplishments during 2005, which are discussed
in more detail in this Item 6, were as follows:



| |  |  | Total loans classified as held to maturity increased 28.6%
| | - |  | ----------------------------------------------------------



| |  |  | Construction loans outstanding at year end increased 142.4%
| | - |  | -----------------------------------------------------------



| |  |  | Commercial and industrial loans outstanding at year end increased 27.8%
| | - |  | -----------------------------------------------------------------------



| |  |  | Average non-interest bearing deposits increased 27.0%
| | - |  | -----------------------------------------------------



| |  |  | Total deposits at year end increased 38.5%
| | - |  | ------------------------------------------



| |  |  | Net interest income increased 39.8%
| | - |  | -----------------------------------



| |  |  | Net income increased 22.0%
| | - |  | --------------------------

Challenges.

MidCarolina has achieved significant growth without the advent of acquisitions or mergers since first opening its doors in 1997. The financial industry in general is
faced with many uncertainties and challenges. As management plans its strategic goals and objectives, future expectations of economic activity and how these uncertainties could impact the companys performance must be taken into consideration.
The challenges that we believe are most likely to have an impact on the operations of the company in the foreseeable future are presented below:



| |  |  | Sustaining profitable growth
| | - |  | ----------------------------



| |  |  | Improving efficiency
| | - |  | --------------------



| |  |  | Volatility in mortgage banking business
| | - |  | ---------------------------------------



| |  |  | Competition from bank and non-bank entities, including possible fierce price competition
| | - |  | ----------------------------------------------------------------------------------------

SELECTED CONSOLIDATED FINANCIAL INFORMATION AND OTHER DATA

Selected Consolidated Financial Information and Other Data are presented in Table 1 included herein following this discussion. The information in this table is derived in part from the audited consolidated financial
statements and notes thereto of the Company. The information in this table does not purport to be complete and should be read in conjunction with the Companys consolidated financial statements that are included in this annual report on Form
10-KSB.

FINANCIAL CONDITION DECEMBER 31, 2005 AND 2004

The Company reported strong asset growth during 2005, with total assets increasing by $85.6 million, or 30.0%, to $370.4 million at year-end. This growth was principally reflected in increased loans and securities.
Loans, excluding those held for sale, increased by $62.3 million, or 28.6%, from $217.7 million at the beginning of the year to $280.0 million at year end. Investment securities increased by $22.5 million, or 62.5%, from $35.9 million to $58.4
million. The increase in loans was composed principally of increases of $39.5 million and $12.1 million, respectively, in construction loans and commercial mortgage loans, two areas of lending the Company targets and intends to continue targeting in
the future. Liquid assets, consisting of cash and demand balances due from banks, interest-earning deposits in other banks and investment securities, were 19.4% of total assets, at December 31, 2005, an increase from the 16.2% of total assets
at December 31, 2004. The Bank, as a member of the FHLB of Atlanta, has an investment of $2.2 million in FHLB stock. The Banks investment in life insurance used to offset the cost of employee benefit plans, increased by $254,000 during
2005 to $7.0 million. The increase was due to an increase in the cash surrender value of the policies.



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Deposits increased $83.5 million during 2005. Non-interest-bearing demand accounts increased $7.9 million, or 33.3%,
money market and NOW accounts increased $11.4 million, or 21.8%, and time deposits increased $64.0 million or 47.7%. The Bank also used the wholesale (internet) certificate of deposit (CD) market, brokered CDs and the FHLB of
Atlanta, Georgia as funding sources during 2005 because of the increased loan demand as discussed above. Borrowings from the FHLB decreased from $41.5 million at the end of 2004 to $36.0 million at December 31, 2005. Wholesale (internet)
CDs comprised approximately 7.0% of total CD balances. Brokered CDs comprised approximately 41.40% of total CD balances. Typically wholesale and brokered CDs have similar terms to CDs issued in the Banks local markets,
with rates marginally lower than local market CD rates.

Total shareholders equity increased by $6.7 million, or 40.6%, during 2005. All capital
ratios continue to place the Company in excess of the minimum required to be a well-capitalized bank by regulatory measures. The Company issued $4.8 million in Non-cumulative Perpetual Preferred Stock on August 15, 2005 and $8.5 million in
Trust Preferred Securities during prior years, so as to remain well capitalized under regulatory capital guidelines without diluting existing shareholders ownership. The Trust Preferred Securities and Preferred Stock should provide
sufficient capital to retain a well-capitalized designation as defined by regulatory capital guidelines for the foreseeable future. The trust-preferred securities qualify as Tier 1 regulatory capital and are reported in Federal Reserve
regulatory reports as a qualifying security in a consolidated subsidiary. The junior subordinated debentures issued to guarantee the trust-preferred securities do not qualify as Tier 1 regulatory capital. On July 2, 2003, the Federal Reserve
issued a letter, SR 03-13, stating that notwithstanding any potential implications FIN 46 may have on reporting trust preferred-securities on financial statements, trust-preferred securities will continue to be included in Tier 1 capital until
notice is given to the contrary. There can be no assurance that the Federal Reserve will continue to allow institutions to include trust-preferred securities in Tier I capital for regulatory capital purposes. In the event of a disallowance, there
would be a reduction in the Companys consolidated capital ratios. However, the Company believes that the Bank would remain well capitalized under FDIC guidelines.

At December 31, 2005, the Bank was considered to be well capitalized under the FDIC guidelines.

NET INTEREST INCOME

Similar to most
financial institutions, the primary component of earnings for the Bank is net interest income. Net interest income is the difference between interest income, principally from the loan and investment securities portfolios, and interest expense,
principally on deposits and borrowings. Changes in net interest income result from changes in volume, spread and margin. For this purpose, volume refers to the average dollar level of interest-earning assets and interest-bearing
liabilities, spread refers to the difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities and margin refers to net interest income divided by average
interest-earning assets and is influenced by the level and relative mix of interest-earning assets and interest-bearing liabilities, as well as levels of non-interest-bearing liabilities. During the years ended December 31, 2005, 2004 and 2003,
average interest-earning assets were $310.0 million, $242.0 million and $177.8 million, respectively. During these same years, the Banks net yields on average interest-earning assets were 3.51%, 3.22% and 3.57%, respectively. The increase in
net yields from 2004 to 2005 is a reflection of the banks focus on pricing discipline and an overall increase in interest rates. The Banks balance sheet is positioned for an increase in interest rates. When interest rates increase, the
Banks earnings and net yields should show improvement.

Table 2, following this discussion, Average Balances and Net Interest Income,
presents an analysis of the Banks net interest income for 2005, 2004 and 2003.

Table 3, following this discussion, Volume and Rate Variance
Analysis, shows the amounts of changes in net interest income due to changes in volume and rates and illustrates that the change in the average volume of loans and deposits was the predominant factor in the higher amount of net interest income
realized by the Bank in 2005, which increased because of higher loan demand when compared to 2004.

RESULTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 2005 AND 2004

Overview.The Company reported net income of $2.4 million or $0.67 per diluted share for the year ended
December 31, 2005, compared with net income of $1.9 million or $0.58 per diluted share for 2004, an improvement of $426,000 or $0.09 per diluted share. Net interest income increased $3.1 million, or 39.8%, in 2005, while non-interest income
decreased by $1.5 million or 35.4%. This aggregate growth in income outpaced the 6.7% increase in non-interest expense, which totaled $8.5 million in 2005 compared to $8.0 million in 2004.



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Net Interest Income.Net interest income increased to $10.9 million for the year ended December 31, 2005, a
$3.1 million or 39.8% increase from $7.8 million earned in 2004. Total interest income benefited from strong growth in the level of average earning assets and higher asset yields caused by the increase in market interest rates during the year. The
rates earned on a significant portion of the Banks loans adjust immediately when indexes like the prime rate change. Conversely a large portion of interest-bearing liabilities, including certificates of deposit and Bank borrowings, have rates
fixed until maturity. As a result, interest rate reductions will generally result in an immediate drop in the Banks interest income on loans, with a more delayed impact on interest expense because reductions in interest costs will only occur
upon renewals of certificates of deposit or borrowings. Interest rate increases will generally result in an immediate increase in the Banks interest income on loans, with a more delayed impact on interest expense because increases in interest
costs will only occur upon renewals of certificates of deposit or borrowings. Average total interest-earning assets increased $67.9 million, or 28.1%, during 2005 compared to 2004, while the average yield increased by 117 basis points from 5.03% to
6.20%. As interest rates increased during 2005, the average rate on loans increased year over year. The average rate on investment securities increased in 2005 compared to 2004, reflecting managements decision to purchase higher yielding
securities during 2005 as interest rates began to rise. Average total interest-bearing liabilities increased by $65.3 million, or 30.4%, consistent with the increase in interest-earning assets. The average cost of interest-bearing liabilities
increased by 93 basis points from 2.04% to 2.97%. With the yield on earning assets increasing more significantly than the cost of interest bearing liabilities, the Banks net interest margin increased by 29 basis points. For the year ended
December 31, 2005, the net interest margin was 3.51%, while for the year ended December 31, 2004, the net interest margin was 3.22%. Table 3 reflects the volume and rate variances from 2005 vs. 2004.

Provision for Loan Losses.The Bank recorded $1.4 million as the provision for loan losses in 2005, an increase of $343,000 from the $1.0 million provision made
in 2004. Provisions for loan losses are charged to income to bring the allowance for loan losses to a level deemed appropriate by management. In evaluating the allowance for loan losses, management considers factors that include growth, composition
and industry diversification of the portfolio, historical loan loss experience, current delinquency levels, adverse situations that may affect a borrowers ability to repay, estimated value of any underlying collateral, prevailing economic
conditions and other relevant factors. For 2005 and 2004 the provision for loan losses was made principally in response to growth in loans as total loans outstanding, net of loans held for sale, increased by $62.3 million in 2005 and by $38.4
million in 2004. At December 31, 2005, the allowance for loan losses was $4.1 million, an increase of $1.2 million, or 42.8%, from the $2.9 million at the end of 2004. The allowance represents 1.46% and 1.32%, respectively, of loans outstanding
at the end of 2005 and 2004, net of loans held for sale. At December 31, 2005 the Bank had $237,000 in non-accrual loans. In 2004, the Bank had $254,000 in non-accrual loans. It is managements opinion that reserve levels are adequate.

Non-Interest Income.Non-interest income decreased to 2.7 million for the year ended December 31, 2005 compared to $4.1 million for the
year ended December 31, 2004, a decrease of $1.5 million or 35.4%. Mortgage operations income decreased to $1.1 million in 2005, from $2.3 million in 2004 reflecting the discontinuance of the mortgage origination office in Raleigh, North
Carolina during the first half of 2005 as well as a softening in the overall mortgage origination market. Service charges on deposit accounts in 2005 were $1.0 million, a decrease of $92,000, or 8.5%, compared to $1.1 million in 2004 reflecting the
competitive demand for free checking accounts. Table 4, following this discussion, is a comparative analysis of the components of non-interest income for 2005, 2004 and 2003.

Non-Interest Expenses.Non-interest expenses totaled $8.5 million for the year ended December 31, 2005, an increase of $536,000 over the $8.0 million reported for 2004. Substantially all of this increase
resulted from the Banks growth and development during 2005 and 2004. Personnel costs decreased by $104,000 in 2005, primarily due to the decrease in commissions paid on mortgage originations. Professional and other services decreased $128,000
primarily due expenses incurred in 2004 related to the preparation of anticipated regulatory changes that were not repeated in 2005. Occupancy and equipment expense increased by $95,000 primarily due to increases in maintenance costs and increased
depreciation on purchases of furniture, fixtures and computer hardware and software. Advertising expense increased $114,000 reflecting new marketing campaigns during 2005. Table 5, following this discussion, presents a comparative analysis of the
components of non-interest expenses for 2005, 2004 and 2003.

Income Taxes.The provision for income tax was $1.3 million in 2005 and $950,000 in
2004. The effective tax rates were 35.0% and 32.9%, respectively, on income before income taxes. The increase in the effective tax rate for 2005 reflects an increase in the proportion of taxable income versus tax-exempt income for 2005.



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LIQUIDITY

The Banks sources of funds are customer deposits, cash and demand balances due from other banks, interest-earning deposits in other banks and investment securities available for sale. These funds, together with
loan repayments, are used to make loans and to fund continuing operations. At December 31, 2005, the Bank had credit availability with the FHLB of $49.5 million, with $36.0 million outstanding.

Total deposits were $300.3 million and $216.8 million at December 31, 2005 and 2004, respectively. The Banks deposits increased 38.5%. Because the Banks
organic deposit growth was not sufficient in amount to meet the total funding needs of the Banks asset growth, the Bank looked to alternative funding sources during 2005. In light of local market deposit competition during 2005, the Bank found
it less costly to access national market Internet CDs and brokered CDs rather than compete for higher cost of funds sources within its local markets. The Bank will continue to evaluate all funding sources for cost, accessibility,
dependability and efficiency.

At December 31, 2005 and 2004, time deposits represented 66.0% and 61.9%, respectively, of the Banks total
deposits. Certificates of deposit of $100,000 or more represented 45.9% and 30.8%, respectively, of the Banks total deposits at December 31, 2005 and 2004. At December 31, 2005, the Bank had $2.9 million in public deposits, $13.8
million in Internet CDs and $82.0 million in brokered time deposits. These sources of funds are generally considered to be less stable than deposits from the Banks local Markets. However, management believes that the other
non-alternative funding time deposits are relationship oriented. While the Bank appreciates the need to pay competitive rates to retain these deposits, other subjective factors also influence deposit retention. Based upon prior experience, the Bank
anticipates that a substantial portion of outstanding certificates of deposit will renew upon maturity.

Management anticipates that the Bank will utilize
non-local market funding sources such as Internet CDs, wholesale NOW accounts, CDARS (Certificate of Deposit Account Registry Service) a deposit placement network (an innovation that allows banks to offer up to $25 million of FDIC insurance
per depositor by networking with other banks within the CDARS system), FHLB advances and brokered deposits as a less costly diversified funding source to complement the Banks local market deposits. Deposits, loan repayments, mortgage-backed
securities prepayments, bond maturities, FHLB advances and current earnings will be employed to provide liquidity, generate loans, purchase securities, procure fixed assets and meet other operating needs incurred in normal banking activities.

In the normal course of business there are various outstanding contractual obligations of the Bank that will require future cash outflows. In addition,
there are commitments and contingent liabilities, such as commitments to extend credit that may or may not require future cash outflows. Table 6, following this discussion, Contractual Obligations and Commitments, summarizes the
Banks contractual obligations and commitments as of December 31, 2005. The Bank participates in an off-balance sheet interest rate swap with a notional amount of $5 million. The bank sells variable rate 90 day LIBOR indexed interest and
purchases fixed rate interest. This transaction locks the interest expense at 6.90% through 2008.



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CAPITAL RESOURCES

At December 31, 2005 and 2004, the Companys shareholders equity totaled $23.1 million and $16.4 million, respectively. The Companys equity to asset ratio on those dates was 6.2% and 5.8%,
respectively, reflecting the Companys aggressive growth. The Company and the Bank are subject to minimum capital requirements. See PART 1, ITEM 1DESCRIPTION OF BUSINESS  SUPERVISION AND REGULATION. Because the
Companys only significant asset is its investment in the Bank, information concerning capital ratios is essentially the same for the Company and the Bank. To maintain the Banks well-capitalized rating the Company issued $4.8 million of
non-cumulative perpetual preferred stock during the third quarter of 2005 with a fixed rate of 8.3% for 5 years. The net proceeds from the preferred stock were then invested into the subsidiary Banks capital as common stock.

All capital ratios place the Bank in excess of minimum requirements to be classified as well capitalized by regulatory measures. The Banks Leverage
ratio as of December 31, 2005 and 2004 was 8.8% and 8.9%, respectively.

Note P to the accompanying consolidated financial statements presents an
analysis of the Banks regulatory capital position as of December 31, 2005 and 2004. Management anticipates that the Bank will remain well-capitalized for regulatory purposes throughout 2006.

ASSET/LIABILITY MANAGEMENT

The Banks
results of operations depend substantially on its net interest income. Like most financial institutions, the Banks interest income and cost of funds are affected by general economic conditions and by competition in the market place. The
purpose of asset/liability management is to provide stable net interest income growth by protecting the Banks earnings from undue interest rate risk, which arises from volatile interest rates and changes in the balance sheet mix, and by
managing the risk/return relationships between liquidity, interest rate risk, market risk and capital adequacy. The Bank maintains, and has complied with, an asset/liability management policy approved by the Board of Directors of the Company and the
Bank that provides guidelines for controlling exposure to interest rate risk by utilizing the following ratios and trend analysis: liquidity, equity, volatile liability dependence, portfolio maturities, maturing assets and maturing liabilities. The
Banks policy is to control the exposure of its earnings to changing interest rates by generally endeavoring to maintain a position within a range around an earnings neutral position, which is defined as the mix of assets and
liabilities that generate a net interest margin that is least affected by interest rate changes.

When suitable lending opportunities are not sufficient to
utilize available funds, the Bank has generally invested such funds in securities, primarily securities issued by U.S. governmental agencies, mortgage-backed securities and securities issued by local governmental municipalities. The securities
portfolio contributes to the Banks profits and plays an important part in the overall interest rate management. However, management of the securities portfolio alone cannot balance overall interest rate risk. The securities portfolio must be
used in combination with other asset/liability techniques to actively manage the balance sheet. The primary objectives in the overall management of the securities portfolio are safety, liquidity, yield, asset/liability management (interest rate
risk) and investing in securities that can be pledged for public deposits or as collateral for FHLB advances.

In reviewing the needs of the Bank with
regard to proper management of its asset/liability program, the Banks management estimates its future needs, taking into consideration historical periods of high loan demand and low deposit balances, estimated loan and deposit increases (due
to increased demand through marketing) and forecasted interest rate changes. A number of measures are used to monitor and manage interest rate risk, including income simulations and interest sensitivity (gap) analyses. An income simulation model is
the primary tool used to assess the direction and magnitude of changes in net interest income resulting from changes in interest rates. Key assumptions in the model include prepayments on loan and loan-backed assets, cash flows and maturities of
other investment securities, loan and deposit volumes and pricing. These assumptions are inherently uncertain and, as a result, the model cannot precisely estimate net interest income or precisely predict the impact of higher or lower interest rates
on net interest income. Actual results will differ from simulated results due to timing, magnitude and frequency of interest rate changes and changes in market conditions and management strategies, among other factors.

Based on the results of the income simulation model, as of December 31, 2005, the Bank would expect an increase in net interest income of $299,000 if interest rates
increase from current rates by an instantaneous 100 basis points and a decrease in net interest income of $460,000 if interest rates decrease from current rates by an instantaneous 100 basis points.



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The analysis of an institutions interest rate gap (the difference between the repricing of interest-earning assets
and interest-bearing liabilities during a given period of time) is another standard tool for the measurement of the exposure to interest rate risk. Management believes that because interest rate gap analysis does not address all factors that can
affect earnings performance, it should be used in conjunction with other methods of evaluating interest rate risk.

Table 7, following this discussion,
Interest Rate Sensitivity Analysis, sets forth the amounts of interest-earning assets and interest-bearing liabilities outstanding at December 31, 2005, which are projected to reprice or mature in each of the future time periods
shown. Except as stated below, the amounts of assets and liabilities shown which reprice or mature within a particular period were determined in accordance with the contractual terms of the assets or liabilities. Loans with adjustable rates are
shown as being due at the end of the next upcoming adjustment period. Money market deposit accounts are considered rate sensitive and are placed in the shortest period, while negotiable order of withdrawal or other transaction accounts are assumed
to be more stable sources that are less price elastic and are placed in the longest period. In making the gap computations, none of the assumptions sometimes made regarding prepayment rates and deposit decay rates are used for any interest-earning
assets or interest-bearing liabilities. In addition, the table does not reflect scheduled principal payments that will be received throughout the lives of the loans. The interest rate sensitivity of the Banks assets and liabilities illustrated
in the table would vary substantially if different assumptions were used or if actual experience differs from that indicated by such assumptions.

Table 7
illustrates that if assets and liabilities reprice in the time intervals indicated in the table, the Bank is asset sensitive within three months, liability sensitive over three months to twelve months, liability sensitive within twelve months and
asset sensitive thereafter. As stated above, certain shortcomings are inherent in the method of analysis presented in the foregoing table. For example, although certain assets and liabilities may have similar maturities or periods to repricing, they
may react in different degrees to changes in market interest rates. Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind
changes in market interest rates. For instance, while the table is based on the assumption that money market accounts are immediately sensitive to movements in rates, the Bank expects that in a changing rate environment the amount of the adjustment
in interest rates for such accounts would be less than the adjustment in categories of assets that are considered to be immediately sensitive. The same is true for all other interest-bearing transaction accounts. Additionally, certain assets have
features that restrict changes in the interest rates of such assets both on a short-term basis and over the lives of such assets. Further, in the event of a change in market interest rates, prepayment and early withdrawal levels could deviate
significantly from those assumed in calculating the tables. Finally, the ability of many borrowers to service their adjustable-rate debt may decrease in the event of an increase in market interest rates. Due to these shortcomings, the Bank places
primary emphasis on its income simulation model when managing its exposure to changes in interest rates. The Bank does not normally make interest rate predictions, or take undue risk on potential changes in interest rate direction. The Bank is
currently asset sensitive. Should interest rates increase, the Banks earnings, margins and spreads would be positively impacted.

LENDING ACTIVITIES

General.The Bank provides to its customers a full range of short- to medium-term commercial,
mortgage, construction and personal loans, both secured and unsecured. The Bank also makes real estate mortgage and construction loans.

The Banks
loan policies and procedures establish the basic guidelines governing its lending operations. Generally, the guidelines address the types of loans that the Bank seeks, target markets, underwriting and collateral requirements, terms, interest rate
and yield considerations and compliance with laws and regulations. All loans or credit lines are subject to approval procedures and amount limitations. These limitations apply to the borrowers total outstanding indebtedness to the Bank,
including the indebtedness of any guarantor. The policies are reviewed and approved at least annually by the Board of Directors of the Company and/or the Bank. The Bank supplements its own supervision of the loan underwriting and approval process
with periodic loan audits by internal loan examiners and outside professionals experienced in loan review work. The Bank has focused its portfolio lending activities on typically higher yielding commercial, construction and consumer loans. The Bank
also originates 1-4 family mortgages that are typically sold into the secondary market, servicing released.



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Table 8, Loan Portfolio Composition, following this discussion, provides an analysis of the Banks loan
portfolio composition by type of loan as of the end of each of the last five years.

Table 9, Loan Maturities, following this discussion,
presents, at December 31, 2005, (i) the aggregate maturities or re-pricings of commercial, industrial and commercial mortgage loans and of real estate constructions loans and (ii) the aggregate amounts of such loans by variable and
fixed rates.

Commercial and Industrial Loans.Commercial business lending is a primary focus of the Banks lending activities. At
December 31, 2005, the Banks commercial and industrial loan portfolio equaled $38.9 million or 13.9% of total loans, as compared with $30.5 million or 13.6% of total loans at December 31, 2004. Commercial and industrial loans include
both secured and unsecured loans for working capital, expansion and other business purposes. Short-term working capital loans generally are secured by accounts receivable, inventory and/or equipment. The Bank also makes term commercial loans secured
by equipment and real estate. Lending decisions are based on an evaluation of the financial strength, management and credit history of the borrower, and the quality of the collateral securing the loan. With few exceptions, the Bank requires personal
guarantees and secondary sources of repayment.

Commercial and industrial loans generally provide greater yields and reprice more frequently than other
types of loans, such as real estate loans, as most commercial loan yields are tied to the prime rate index. Therefore, yields on most commercial loans adjust with changes in the prime rate.

Real Estate Loans.Real estate loans are originated for the purpose of purchasing, constructing or refinancing one to four family, five or more family and
commercial properties. The Bank offers fixed and adjustable rate options. The Bank provides customers access to long-term conventional real estate loans through its mortgage loan department which makes Federal National Mortgage Association
(FNMA) and Freddie Mac (FHLMC) conforming loans that are originated with a commitment from a correspondent bank to purchase the loan within 30-45 days of closing.

Residential one to four family loans are classified into two categories: conforming loans, that are originated under the underwriting guidelines established by FNMA or
FHLMC and held for sale and nonconforming loans that are originated and retained in the Banks loan portfolio. The terms conforming and nonconforming do not refer to credit quality, but rather to whether the loan is
underwritten so that it can be sold in the secondary market. At December 31, 2005, loans held for sale amounted to $893,000 while nonconforming loans held in the Banks permanent portfolio amounted to $38.7 million. The Banks
permanent residential mortgage loans are generally secured by properties located within the Banks market area. Most of the one to four family residential mortgage loans that the Bank makes are conforming loans and are sold within 30 days of
closing to a correspondent bank. The Bank originated 374 loans in the amount of $57.6 million for sale in the secondary market during 2005. The Bank receives a fee for each loan originated, with fees aggregating $1.1 million for the year ended
December 31, 2005 and $2.3 million for the year ended December 31, 2004. The Bank anticipates that it will continue to be an active originator of residential loans. Nonconforming residential mortgage loans that are retained in the
Banks loan portfolio generally have rate terms of five years or less, with amortizations up to 20 years.

The Bank has made, and anticipates
continuing to make, commercial real estate loans. Commercial real estate loans amounted to $100.3 million at December 31, 2005. These loans are secured principally by commercial buildings for office, storage and warehouse space, and by
agricultural properties. Generally in underwriting commercial real estate loans, the Bank requires the personal guarantee of borrowers and a demonstrated cash flow capability sufficient to service the debt. Loans secured by commercial real estate
usually involve a greater degree of risk than one-to-four family residential mortgage loans. Payments on such loans are often dependent on successful operation or management of the properties.

The Bank originates one-to-four family residential construction loans for the construction of custom homes (where the home buyer is the borrower) and provides financing
to builders and consumers for the construction of pre-sold homes. The Bank generally receives a pre-arranged permanent financing commitment from an outside entity prior to financing the construction of pre-sold homes. The Bank lends to builders who
have demonstrated a favorable record of performance and profitable operations and who are building in markets that management believes it understands and in which it is comfortable with the economic conditions. The Bank also makes commercial real
estate construction loans, generally for owner-occupied properties. The Bank further endeavors to limit its construction lending risk through adherence to established underwriting procedures. The Bank generally requires documentation for all draw
requests and utilizes loan officers to inspect the project prior to honoring draw requests from the builder. With few exceptions, the Bank requires personal guarantees and secondary sources of repayment on construction loans.



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Consumer Loans and Home Equity Lines of Credits.Loans to individuals include automobile loans, boat and
recreational vehicle financing, home equity and home improvement loans and miscellaneous secured and unsecured personal loans. Consumer loans generally can carry significantly greater risks than other loans, even if secured, if the collateral
consists of rapidly depreciating assets such as automobiles and equipment. Repossessed collateral securing a defaulted consumer loan may not provide an adequate source of repayment of the loan. Consumer loan collections are sensitive to job loss,
illness and other personal factors. The Bank attempts to manage the risks inherent in consumer lending by following established credit guidelines and underwriting practices designed to minimize risk of loss.

Loan Approvals.The Banks loan policies and procedures establish the basic guidelines governing its lending operations. Generally, the guidelines address
the type of loans that the Bank seeks, target markets, underwriting and collateral requirements, terms, interest rate and yield considerations and compliance with laws and regulations. All loans or credit lines are subject to approval procedures and
amount limitations. These limitations apply to the borrowers total outstanding indebtedness to the Bank, including the indebtedness of any guarantor. The policies are reviewed and approved at least annually by the Board of Directors of the
Bank and/or the Company. The Bank supplements its own supervision of the loan underwriting and approval process with periodic loan audits by independent, outside professionals experienced in loan review analysis.

Responsibility for loan production rests with the Senior Commercial Lending Officer in each market. The responsibility for loan underwriting, loan processing and
approval is with the Senior Credit Officer. The Board of Directors of the Bank reviews the Presidents lending authority annually. The Board, in turn delegates loan authority to the Senior Credit Officer and other loan officers of the Bank.
Delegated authorities may include loans, letters of credit, overdrafts, uncollected funds and such other authority as determined by the Board of Directors or the President.

The President, Chief Credit Officer, and the Chief Operating Officer each have the authority to approve loans up to $400,000. The President in conjunction with the Chief Credit Officer or the Chief Operating Officer
and the Chief Credit Officer have the combined authority to approve loans up to $1 million. The President, Chief Credit Officer and Chief Operating Officer have the combined authority to approve loans up to $2.0 million which is the maximum staff,
in-house lending limit set by the Board of Directors. The Boards Loan Committee approves all loans in excess of the staffs in-house lending limit. The committee consists of the President, the Chairman and Vice Chairman of the Board and
four outside directors as appointed by the Board of Directors of the Bank

Additionally, all loans of $50,000 or greater and all loans with relationship
exposure of $200,000 or above are reviewed by the Management Loan Committee comprised of the President, Senior Credit Officer, and the Senior Commercial Loan Officers for Burlington, Graham and Greensboro. The Bank Boards Loan Committee
approves all loans with total exposure of $1.0 million or greater. The Banks legal lending limit was $5.5 million at December 31, 2005. The Bank seldom makes loans approaching its legal lending limit.

COMMITMENTS TO EXTEND CREDIT

In the
ordinary course of business, the Bank enters into various types of transactions that include commitments to extend credit that are not included in loans receivable, net, presented on the Companys consolidated balance sheets. The Bank applies
the same credit standards to these commitments as it uses in all its lending activities and has included these commitments in its lending risk evaluations. The Banks exposure to credit loss under commitments to extend credit is represented by
the amount of these commitments. See Note O to the accompanying consolidated financial statements and Table 6.

ASSET
QUALITY

The Bank considers asset quality to be of primary importance, and employs a formal internal loan review process to ensure adherence to the lending
policy as approved by the Banks Board of Directors. It is the responsibility of each loan officer to assign an appropriate risk grade to loans when originated. Credit Administration, through the loan review process, validates the accuracy of
the initial risk grade assessment. In addition, as a given loans credit quality changes, it is the responsibility of Credit Administration to change the borrowers risk grade accordingly. The process of determining the allowance for loan
losses is fundamentally driven by the risk grade system. In determining the allowance for loan losses and any resulting provision to be charged against earnings, particular emphasis is



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placed on the results of the loan review process. Consideration is also given to historical loan loss experience, the
value and adequacy of collateral, economic conditions in the Banks market area and other factors. For loans determined to be impaired, the allowance is based on discounted cash flows using the loans initial effective interest rate or the
fair value of the collateral for certain collateral dependent loans. This evaluation is inherently subjective, as it requires material estimates, including the amounts and timing of future cash flows expected to be received on impaired loans that
may be susceptible to significant change. The allowance for loan losses represents managements estimate of the appropriate level of reserve to provide for probable losses inherent in the loan portfolio.

The Banks policy regarding past due loans normally requires a prompt charge-off to the allowance for loan losses following timely collection efforts and a thorough
review. Further efforts are then pursued through various means available. Loans carried in a non-accrual status are generally collateralized and probable losses are considered in the determination of the allowance for loan losses.

NONPERFORMING ASSETS

Table 10,
Nonperforming Assets, following this discussion, sets forth, for the last five years, information with respect to the Banks nonperforming assets.

The Companys consolidated financial statements are prepared on the accrual basis of accounting, including the recognition of interest income on loans, unless a loan is placed on non-accrual basis. Loans are accounted for on a
non-accrual basis when management has serious concerns about the collectibility of principal or interest. Generally, the Banks policy is to place a loan on non-accrual status when the loan becomes 90 days past due. Loans are also placed on
non-accrual status in cases where management is uncertain whether the borrower can satisfy the contractual terms of the loan agreement. Payments received on non-accrual loans generally are applied to principal first, and then to interest after all
principal payments have been satisfied. Restructured loans are those for which concessions, including the reduction of interest rates below a rate otherwise available to that borrower or the deferral of interest or principal, have been granted due
to the borrowers weakened financial condition. The Bank accrues interest on restructured loans at the restructured rate when management anticipates that no loss of original principal will occur. Potential problem loans are defined as loans
currently performing that are not included in non-accrual or restructured loans, but are loans that management has concerns as to the borrowers ability to comply with present repayment terms. These loans could deteriorate to non-accrual, past
due or restructured loans status. Therefore, management quantifies the risk associated with problem loans in assessing the adequacy of the allowance for loan losses. At December 31, 2005, the Bank identified $237,000 in non-accrual loans.
Management anticipates that the vast majority of the non-accruing loans at December 31, 2005 will be paid out or returned to accrual status. At December 31, 2004, the Bank identified $254,000 in non-accrual loans.

Real estate owned consists of foreclosed, repossessed and idled properties. At December 31, 2005, there were $2.8 million assets classified as real estate owned.
$2.7 million of the real estate owned is related to a single borrower with a 70% guarantee issued by the USDA (United States Department of Agriculture) on $1.5 million of the $2.8 million balance. At December 31, 2004, there were $2.0 million
assets classified as real estate owned.

ANALYSIS OF ALLOWANCE FOR LOAN LOSSES

The allowance for loan losses is established through charges to earnings in the form of a provision for loan losses. Management increases the allowance for loan losses by
provisions charged to operations and by recoveries of amounts previously charged off. The allowance is reduced by loans charged off. Management evaluates the adequacy of the allowance at least quarterly. In addition, on a monthly basis the
Banks Board of Directors reviews the computation of the loan loss provision, recommending changes as may be required. In evaluating the adequacy of the allowance, management considers the growth, composition and industry diversification of the
portfolio, historical loan loss experience, current delinquency levels, adverse situations that may affect a borrowers ability to repay, estimated value of any underlying collateral, prevailing economic conditions and other relevant factors
deriving from the Banks limited history of operations. In addition, regulatory agencies, as an integral part of their examination process, periodically review the Banks allowance for loan losses and may require it to make adjustments to
the allowance for loan losses based upon judgments different from those of management.

Management uses a risk-grading system, as described under
ASSET QUALITY, to facilitate evaluation of probable inherent loan losses and the adequacy of the allowance for loan losses. In this program, risk grades are initially assigned by loan officers and reviewed by Credit Administration, and
tested by the Banks internal auditor. The testing program includes an evaluation of a sample of new loans, large loans, loans that are identified as having



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potential credit weaknesses, accruing loans past due 90 days or more, and non-accrual loans. The Bank strives to maintain
its loan portfolio in accordance with conservative loan underwriting policies that result in loans specifically tailored to the needs of the Banks market area. Every effort is made to identify and minimize the credit risks associated with such
lending strategies. The Bank has no foreign loans and does not engage in significant lease financing or highly leveraged transactions.

The Bank follows a
loan review program designed to evaluate the credit risk in its loan portfolio. Through this loan review process, an internally classified watch list is maintained that helps management assess the overall quality of the loan portfolio and the
adequacy of the allowance for loan losses. In establishing the appropriate classification for specific assets, management considers, among other factors, the estimated value of the underlying collateral, the borrowers ability to repay, the
borrowers payment history and the current delinquent status. As a result of this process, certain loans are categorized as substandard, doubtful or loss, and reserves are allocated based on managements judgment and historical experience.

Loans classified as substandard are those loans with clear and defined weaknesses such as unfavorable financial ratios, uncertain repayment
sources or poor financial condition that may jeopardize the collection of the debt. They are characterized by the distinct possibility that the Bank will sustain some losses if the deficiencies are not corrected. A reserve of 20% is generally
allocated to these loans. Loans classified as doubtful are those loans that have characteristics similar to substandard loans but with an increased risk that collection or liquidation in full is highly questionable and improbable. A
reserve of 50% is generally allocated to loans classified as doubtful. Loans classified as loss are considered uncollectible and of such little value that their continuance as bankable assets is not warranted. This classification does
not mean that the loan has absolutely no recovery or salvage value but rather it is not practical or desirable to defer writing off this asset even though partial recovery may be achieved in the future. As a practical matter, when loans are
identified as loss they are charged off against the allowance for loan losses. In addition to the above classification categories, the Bank also categorizes loans based upon risk grade and loan type, assigning an allowance allocation based upon each
category.

Growth in loans outstanding has, throughout the Banks history, been the primary reason for increases in the Banks allowance for loan
losses and the resultant provisions for loan losses necessary to provide for those increases. This growth has been spread among the Banks major loan categories, with the concentrations of major loan categories being relatively consistent.
Between December 31, 2004 and December 31, 2005, the range of each major category of loans as a percentage of total loans outstanding is as follows: residential mortgage loans  12.8% to 13.8%; commercial mortgage loans  39.5%
to 35.7%; construction loans  12.4% to 23.9%; commercial and industrial loans  13.6% to 13.9%; loans to individuals  3.5% to 1.7%; and home equity lines of credit  15.6% to 10.7%. For the past five fiscal years through 2005,
the Banks loan loss experience has been similar to that of other peer banks in North Carolina, with net loan charge-offs in each year of ranging from 0.06% to 0.42% of average loans outstanding. Charge offs are typically recognized when it is
the opinion of management that all or a portion of an outstanding loan becomes uncollectible. Loan repayment may be realized through a contractual agreement, or through liquidation of assets pledged as collateral. Net charge-offs totaled $687,000 or
0.34% of outstanding loans for 2004 and $148,000 or 0.06% of outstanding loans for 2005. The Banks allowance for loan losses at December 31, 2005 of $4.1 million represents 1.46% of total loans outstanding, net of loans held for sale. The
Banks allowance for loan losses at December 31, 2004 was $2.9 or 1.32% of outstanding loans, net of loans held for sale. The allowance for loan losses as a percentage of loans outstanding increased in 2005 compared to 2004 due to a
decrease in charged off loans during 2005 and an increase to the loan loss provision.

The allowance for loan losses represents managements estimate
of an amount adequate to provide for known and inherent losses in the loan portfolio in the normal course of business. Management makes specific allowances that are allocated to certain individual loans and pools of loans based on risk
characteristics, as discussed below. While management believes that it uses the best information available to establish the allowance for loan losses, future adjustments to the allowance may be necessary and results of operations could be adversely
affected if circumstances differ substantially from the assumptions used in making the determinations. Furthermore, while management believes that it has established the allowance for loan losses in conformity with generally accepted accounting
principles, there can be no assurance that regulators, in reviewing our portfolio, will not require adjustment to the allowance for loan losses. In addition, because future events affecting borrowers and collateral cannot be predicted with
certainty, there can be no assurance that the existing allowance for loan losses is adequate or that increases will not be necessary should the quality of any loans deteriorate as a result of the factors discussed herein. Any material increase in
the allowance for loan losses may adversely affect the Banks and the Companys financial condition and results of operations.



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Table 11, Allocation for the Allowance of Loan Losses, following this discussion, presents the allocation of
the allowance for loan losses at the end of each of the last five years. The allocation is based on an evaluation of defined loan problems, historical ratios of loan losses and other factors that may affect future loan losses in the categories of
loans shown.

Table 12, Loan Loss and Recovery Experience, following this discussion, sets forth for each of the last five years information
regarding changes in the Banks allowance for loan losses.

INVESTMENT ACTIVITIES

The Banks portfolio of investment securities, substantially all of which are available for sale, consists primarily of U.S. government agency securities,
mortgage-backed securities and securities issued by local governments. Securities to be held for indefinite periods of time and not intended to be held to maturity are classified as available for sale and carried at fair value, with any unrealized
gains or losses reflected as an adjustment to stockholders equity. Securities held for indefinite periods of time include securities that management intends to use as part of its asset/liability management strategy and that may be sold in
response to changes in interest rates and/or significant prepayment risks. It is the Banks policy to classify most investment securities as available for sale. Table 13, Securities Portfolio Composition, following this discussion,
summarizes investment securities by type at December 31, 2005, 2004 and 2003.

Table 14, Securities Portfolio Composition, following this
discussion, summarizes the amortized costs, fair values and weighted average yields of the Banks investment securities at December 31, 2005, by contractual maturity groups.

The Bank does not engage in, nor does it presently intend to engage in, securities trading activities and therefore does not maintain a trading account. At December 31, 2005, there were no securities of any
issuer (other than governmental agencies) that exceeded 10% of the Companys shareholders equity.

SOURCES OF
FUNDS

Deposit Activities.The Bank provides a range of deposit services, including non-interest-bearing checking accounts, interest-bearing checking
and savings accounts, money market accounts and certificates of deposit. These accounts generally earn interest at rates established by management based on competitive market factors and managements desire to increase or decrease certain types
or maturities of deposits. As described in -Liquidity above, the Bank uses wholesale deposits as a funding source. However, the Bank strives to establish customer relations to attract core deposits in non-interest-bearing transactional
accounts and thus to reduce the Banks costs of funds.

Table 15, Average Deposits, following this discussion, sets forth for the for the
years ended December 31, 2005, 2004 and 2003 the average balances outstanding and average interest rates for each major category of deposits.

Table
16, Maturities of Time Deposits of $100,000 or More, which follows this discussion, presents maturities of certificates of deposit with balances of $100,000 or more at December 31, 2005.

Borrowings.As additional sources of funding, the Bank uses advances from the FHLB of Atlanta under a line of credit equal to 30% of the Banks total assets,
subject to qualifying collateral. The available aggregate line of credit was $49.5 million at December 31, 2005. Outstanding advances at December 31, 2005 totaled $36.0 million, and included: $10.0 million of daily rate credit advances at
a weighted average rate at December 31, 2005 of 4.88%; $8.0 million maturing in 2009, bearing a weighted average rate of 1.73%; $4.0 million maturing in 2010, bearing interest at a weighted average rate of 5.79%; $4.0 million maturing in 2012,
bearing interest at 3.56%; and $10 million maturing in 2013 bearing interest at 2.91%. Pursuant to collateral agreements with the FHLB, at December 31, 2005, advances are secured by loans with a carrying amount of $119.6 million, which
approximates market value. Advances outstanding at December 31, 2004 totaled $41.5 million.

In addition to FHLB advances, the Company issued $8.8
million of junior subordinated debentures to its wholly owned capital trusts, MidCarolina I and MidCarolina Trust II, to fully and unconditionally guarantee the preferred securities issued by the trusts. These long term obligations, which currently
quality as Tier I capital for the Company, constitute a full and unconditional guarantee by the Company of the trusts obligations under the Capital Trust Securities. See also Note B to the consolidated financial statements for a detailed
discussion of the January 2003 FASB Interpretation No. 46R, Consolidation of Variable Interest Entities.



22



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##### Table of Contents

RECENT ACCOUNTING PRONOUNCEMENTS

See Note B to the Consolidated Financial Statements for a full description of recent accounting pronouncements including the respective expected dates f adoption and
effects on results of operations and financial condition.

In November 2003, the Emerging Issues Task Force (EITF) issued EITF Issue
No. 03-01, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments (EITF 03- 01). EITF 03-01 provided guidance for evaluating whether an investment is other-than-temporarily impaired and
requires certain disclosures with respect to these investments. In September 2004, the Financial Accounting Standards Board (FASB) issued a FASB Staff Position (FSP EITF 03-1-b) to delay the requirement to record
impairment losses EITF 03-1. The guidance also included accounting considerations subsequent to the recognition of an other-than-temporary impairment and requirements for disclosures about unrealized losses that have not been recognized as
other-than-temporary impairments. In November 2005, the FASB issued FSP FAS 115-1 and FAS 124-1, which addresses the determination as to when an investment is considered impaired. This FSP nullifies certain requirements of EITF 03-01 and
supersedes EITF Topic No. D-44, Recognition of Other-Than-Temporary Impairment upon the Planned Sale of a Security Whose Cost Exceeds Fair Value. This FSP is to be applied to reporting periods beginning after December 15. 2005. The
Company is in process of evaluating the impact of this FSP.

In December 2004, the Financial Accounting Standards Board (FASB) issued SFAS
No. 123(r), Share-Based Payments, which is a revision of SFAS No. 123 Accounting for Stock-Based Compensation and supersedes Accounting Principles Board (APB) Opinion No. 25 Accounting for Stock Issued to
Employees. SFAS No. 123(r) requires companies to recognize in the income statement the grant-date fair value of stock options and other equity-based compensation issued to employees over the period during which an employee is required to
provide service in exchange for the award, which will often be the shorter of the vesting period of the period the employee will be retirement eligible. SFAS No. 123(r) sets accounting requirements for share-based compensation to
employees, including employee-stock purchase plans (ESPPs). Awards to most nonemployee directors will be accounted for as employee awards. This Statement was to be effective for public companies that do not file as small business issuers
as of the beginning of interim or annual reporting periods beginning after June 15, 2005. In April 2005, the Securities and Exchange Commission (SEC) issued Release No. 2005-57, which defers the effective date of SFAS
No. 123(r) for many registrants. Registrants that do not file as small business users must adopt SFAS No. 123(r) as of the beginning of their first annual period beginning after June 15, 2005. Accordingly, the Company will adopt SFAS
No. 123(r) on January 1, 2006, and is currently evaluating the effect on its consolidated financial statements.

In March 2005, the SEC
issued Staff Accounting Bulletin No. 107 (SAB 107), which contains guidance on applying the requirements in SFAS No. 123(r). SAB 107 provides guidance on valuation techniques, development of assumptions used in valuing employee
share options and related MD&A disclosures. SAB 107 is effective for the period in which SFAS No. 123(r) is adopted. The Company will adopt SAB 107 on January 1, 2006, and is currently evaluating the effect on its consolidated
financial statements.

In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections, which replaces APB Opinion
No. 20 Accounting Changes and SFAS No. 3 Reporting Accounting Changes in Interim Financial Statements. SFAS No. 154 changes the requirements for the accounting for and reporting of a change in an accounting principle.
SFAS No. 154 requires retrospective application for voluntary changes in an accounting principle unless it is impracticable to do so. SFAS No. 154 is effective for accounting changes made in fiscal years beginning after December 15,
2005. The Company will adopt SFAS No. 154 on January 1, 2006 with no expected material effect on its consolidated financial statements.

From
time to time the FASB issues exposure drafts for proposed statements of financial accounting standards. Such exposure drafts are subject to comment from the public, to revisions by the FASB and to final issuance by the FASB as statements of
financial accounting standards. Management considers the effect of the proposed statements on the consolidated financial statements of the Company and monitors the status of changes to and proposed effective dates of exposure drafts.



23



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##### Table of Contents

In December 2003, the American Institute of Certified Public Accountants (AICPA) issued Statement of Position (SOP)
03-3,Accounting for Loans or Certain Debt Securities Acquired in a Transfer. The SOP addresses accounting for differences between contractual cash flows and cash flows expected to be collected from an investors initial investment in
loans or debt securities acquired in a transfer, if those differences relate to a deterioration of credit quality. The SOP also prohibits companies from carrying over or creating a valuation allowance in the initial accounting for loans
acquired that meet the scope criteria of the SOP. The SOP is effective for loans acquired in fiscal years beginning after December 15, 2004. The adoption of this SOP is not expected to have a material impact on the Companys financial
position or results of operations.

In December 2004, the FASB issued SFAS No. 123(R),Accounting for Stock-Based Compensation (SFAS
No. 123(R)). SFAS No. 123(R) establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services. This Statement focuses primarily on accounting for transactions in which an
entity obtains employee services in share-based payment transactions. SFAS No. 123(R) requires that the fair value of such equity instruments be recognized as an expense in the historical financial statements as services are performed. Prior to
SFAS No. 123(R), only certain pro forma disclosures of fair value were required. The provisions of this Statement are effective for the first interim reporting period that begins after December 15, 2005. Accordingly, we will adopt SFAS
No. 123(R) commencing with the quarter ending March 31, 2006. If we had included the cost of employee stock option compensation in our consolidated financial statements, our net income for the fiscal years ended December 31, 2005 and
2004 would have decreased by approximately $51,000 for both years. Accordingly, the adoption of SFAS No. 123(R) is not expected to have a material effect on our consolidated financial statements.

CRITICAL ACCOUNTING POLICY

Allowance
for Loan Losses.The Companys most significant critical accounting policy is the determination of the Banks allowance for loan losses. A critical accounting policy is one that is both very important to the portrayal of the
Companys financial condition and results, and requires managements most difficult, subjective or complex judgments. What makes these judgments difficult, subjective and/or complex is the need to make estimates about the effects of
matters that are inherently uncertain. If the mix and amount of future write-offs differ significantly from those assumptions used in making a determination, the allowance for loan losses and provision for loan losses on the income statement could
be materially affected. For further discussion of the allowance for loan losses and a detailed description of the methodology used in determining the adequacy of the allowance, see the sections of this discussion titled Asset Quality and
Analysis of Allowance for Loan Losses and Note B to the consolidated financial statements contained in this Annual Report.

Off-Balance
Sheet Arrangements. The Company does not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect of the Companys financial condition, changes in financial condition, revenues or
expenses, results of operations, liquidity, capital expenditures or capital resources that is material to investors.

RISKS ASSOCIATED WITH THE BANK AND THE COMPANY

Concentration of Operations.The Banks operations are concentrated in the Piedmont
region of North Carolina. As a result of this geographic concentration, the Banks results may correlate to the economic conditions in this area. A deterioration in economic conditions in this market area, particularly in the industries on
which these geographic areas depend, may adversely affect the quality of the Banks loan portfolio and the demand for the Banks products and services, and accordingly, its results of operations.

Risks Associated with Loans.A significant source of risk for the Bank arises from the possibility that losses will be sustained because borrowers, guarantors and
related parties may fail to perform in accordance with the terms of their loans. The Bank has underwriting and credit monitoring procedures and credit policies, including the establishment and review of the allowance for loan losses, that management
believes are appropriate to minimize this risk by assessing the likelihood of nonperformance, tracking loan performance and diversifying the Banks loan portfolio. Such policies and procedures, however, may not prevent unexpected losses that
could adversely affect results of operations.

Competition with Larger Financial Institutions.The banking and financial services business in the
Banks market area continues to be a competitive field and is becoming more competitive as a result of:



| |  | changes in regulations;
|- |  | -----------------------



24



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##### Table of Contents

| |  | changes in technology and product delivery systems; and
|- |  | -------------------------------------------------------



| |  | the accelerating pace of consolidation among financial services providers.
|- |  | --------------------------------------------------------------------------

It may be difficult to compete effectively in the Banks market, and results of operations could be adversely affected by the nature or pace of change in competition. The Bank competes for loans, deposits and customers with various
bank and non-bank financial services providers, many of which are much larger in total assets and capitalization, have greater access to capital markets and offer a broader array of financial services.

Trading Volume.The trading volume in the Companys common stock on the OTC Bulletin Board has been comparable to other similarly sized banks and companies
trading on the OTC Bulletin Board. Nevertheless, this trading is relatively low when compared with more seasoned companies listed on the Nasdaq Small Cap Market, the Nasdaq National Market System, the New York Stock Exchange or other consolidated
reporting systems or stock exchanges. The market in the Companys common stock may be limited in scope relative to other companies. The Company cannot guarantee that a more active and liquid trading market for the Companys common stock
will develop in the future.

Technological Advances.The banking industry is undergoing technological changes with frequent introductions of new
technology-driven products and services. In addition to improving customer services, the effective use of technology increases efficiency and enables financial institutions to reduce costs. The Banks future success will depend, in part, on its
ability to address the needs of its customers by using technology to provide products and services that will satisfy customer demands for convenience as well as to create additional efficiencies in the Banks operations. Many of our competitors
have substantially greater resources than the Company and the Bank to invest in technological improvements.

Government Regulations.Current and
future legislation and the policies established by federal and state regulatory authorities will affect the Companys and the Banks operations. The Bank is subject to supervision and periodic examination by the FDIC and the Commissioner.
The Company is subject to the supervision and regulation of the Federal Reserve and the Commissioner. Banking regulations, designed primarily for the protection of depositors, may limit the Companys and the Banks growth and the return to
our shareholders by restricting certain of the Companys and the Banks activities, such as:



| |  | the payment of dividends to the Companys shareholders;
|- |  | -------------------------------------------------------



| |  | possible mergers with or acquisitions of or by other institutions;
|- |  | ------------------------------------------------------------------



| |  | investment policies;
|- |  | --------------------



| |  | loans and interest rates on loans;
|- |  | ----------------------------------



| |  | interest rates paid on deposits;
|- |  | --------------------------------



| |  | expansion of branch offices; and/or
|- |  | -----------------------------------



| |  | the possibility to provide or expand securities or trust services.
|- |  | ------------------------------------------------------------------

The
Company cannot predict what changes, if any, will be made to existing federal and state legislation and regulations or the effect that any changes may have on future business and earnings prospects. The cost of compliance with regulatory
requirements may adversely affect the Companys and the Banks ability to operate profitably.



25



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##### Table of Contents

MidCarolina Financial Corporation

Table 2

Average Balances and Net Interest Income (1)

($ in thousands)



|                                                                                 |  |                              |         |   |                              |   |             |                              |      |                |  |   |          |   |             |   |        |                |      |   |          |   |             |   |  |   |       |  |      |  
|-------------------------------------------------------------------------------- |  | ---------------------------- | ------- | - | ---------------------------- | - | ----------- | ---------------------------- | ---- | -------------- |  | - | -------- | - | ----------- | - | ------ | -------------- | ---- | - | -------- | - | ----------- | - |  | - | ----- |  | ---- | -
|                                                                                 |  | Year Ended December 31, 2005 |         |   | Year Ended December 31, 2004 |   |             | Year Ended December 31, 2003 |     
|                                                                                 |  | AverageBalance               |         |   | Interest                     |   | AverageRate |                              |      | AverageBalance |  |   | Interest |   | AverageRate |   |        | AverageBalance |      |   | Interest |   | AverageRate |  
|Interest-earning assets:                                                         |  |                              |         |   |                              |   |             |                              |      |                |  |   |          |   |             |   |        |                |      |   |          |   |             |   |  |   |       |  |      |  
|Loans, net                                                                       |  | $                            | 252,914 |   |                              | $ | 16,915      |                              | 6.69 | %              |  | $ | 204,121  |   |             | $ | 10,840 |                | 5.31 | % |          | $ | 160,041     |   |  | $ | 9,189 |  | 5.74 | %
|Investment securities                                                            |  |                              | 46,681  |   |                              |   | 1,991       |                              | 4.27 | %              |  |   | 28,018   |   |             |   | 1,180  |                | 4.21 | % |          |   | 8,079       |   |  |   | 322   |  | 3.99 | %
|Interest-earning cash deposits                                                   |  |                              | 8,248   |   |                              |   | 206         |                              | 2.50 | %              |  |   | 7,664    |   |             |   | 74     |                | 0.97 | % |          |   | 8,449       |   |  |   | 94    |  | 1.11 | %
|Other                                                                            |  |                              | 2,092   |   |                              |   | 96          |                              | 4.59 | %              |  |   | 2,189    |   |             |   | 80     |                | 3.65 | % |          |   | 1,211       |   |  |   | 47    |  | 3.88 | %
|                                                                                 |  |                              |         |   |                              |   |             |                              |      |                |  |   |          |   |             |   |        |                |      |   |          |   |             |   |  |   |       |  |      |  
|Total interest-earning assets                                                    |  |                              | 309,935 |   |                              |   | 19,208      |                              | 6.20 | %              |  |   | 241,992  |   |             |   | 12,174 |                | 5.03 | % |          |   | 177,780     |   |  |   | 9,652 |  | 5.43 | %
|                                                                                 |  |                              |         |   |                              |   |             |                              |      |                |  |   |          |   |             |   |        |                |      |   |          |   |             |   |  |   |       |  |      |  
|Other assets                                                                     |  |                              | 19,460  |   |                              |   |             |                              |      |                |  |   | 11,360   |   |             |   |        |                |      |   |          |   | 15,042      |   |  |   |       |  |      |  
|                                                                                 |  |                              |         |   |                              |   |             |                              |      |                |  |   |          |   |             |   |        |                |      |   |          |   |             |   |  |   |       |  |      |  
|Total assets                                                                     |  | $                            | 329,395 |   |                              |   |             |                              |      |                |  | $ | 253,352  |   |             |   |        |                |      |   |          | $ | 192,822     |   |  |   |       |  |      |  
|                                                                                 |  |                              |         |   |                              |   |             |                              |      |                |  |   |          |   |             |   |        |                |      |   |          |   |             |   |  |   |       |  |      |  
|Interest-bearing liabilities:                                                    |  |                              |         |   |                              |   |             |                              |      |                |  |   |          |   |             |   |        |                |      |   |          |   |             |   |  |   |       |  |      |  
|Deposits:                                                                        |  |                              |         |   |                              |   |             |                              |      |                |  |   |          |   |             |   |        |                |      |   |          |   |             |   |  |   |       |  |      |  
|Demand deposits                                                                  |  |                              | 55,152  |   |                              |   | 1,070       |                              | 1.94 | %              |  |   | 50,781   |   |             |   | 614    |                | 1.21 | % |          |   | 36,346      |   |  |   | 313   |  | 0.86 | %
|Savings deposits                                                                 |  |                              | 7,028   |   |                              |   | 49          |                              | 0.70 | %              |  |   | 6,549    |   |             |   | 32     |                | 0.49 | % |          |   | 5,569       |   |  |   | 27    |  | 0.48 | %
|Fixed maturity deposits                                                          |  |                              | 175,110 |   |                              |   | 5,516       |                              | 3.15 | %              |  |   | 108,160  |   |             |   | 2,152  |                | 1.99 | % |          |   | 90,110      |   |  |   | 1,953 |  | 2.17 | %
|Short term borrowed funds                                                        |  |                              | 8,622   |   |                              |   | 316         |                              | 3.67 | %              |  |   | 23,090   |   |             |   | 311    |                | 1.35 | % |          |   | 3,677       |   |  |   | 40    |  | 1.09 | %
|Long term borrowed funds                                                         |  |                              | 34,500  |   |                              |   | 1,376       |                              | 3.99 | %              |  |   | 26,500   |   |             |   | 1,274  |                | 4.81 | % |          |   | 23,259      |   |  |   | 965   |  | 4.15 | %
|                                                                                 |  |                              |         |   |                              |   |             |                              |      |                |  |   |          |   |             |   |        |                |      |   |          |   |             |   |  |   |       |  |      |  
|Total interest-bearing liabilities                                               |  |                              | 280,412 |   |                              |   | 8,327       |                              | 2.97 | %              |  |   | 215,080  |   |             |   | 4,383  |                | 2.04 | % |          |   | 158,961     |   |  |   | 3,298 |  | 2.07 | %
|                                                                                 |  |                              |         |   |                              |   |             |                              |      |                |  |   |          |   |             |   |        |                |      |   |          |   |             |   |  |   |       |  |      |  
|Noninterest-bearing deposits                                                     |  |                              | 27,440  |   |                              |   |             |                              |      |                |  |   | 21,600   |   |             |   |        |                |      |   |          |   | 18,937      |   |  |   |       |  |      |  
|Other liabilities                                                                |  |                              | 1,800   |   |                              |   |             |                              |      |                |  |   | 1,188    |   |             |   |        |                |      |   |          |   | 1,259       |   |  |   |       |  |      |  
|Stockholders equity                                                             |  |                              | 19,743  |   |                              |   |             |                              |      |                |  |   | 15,484   |   |             |   |        |                |      |   |          |   | 13,665      |   |  |   |       |  |      |  
|                                                                                 |  |                              |         |   |                              |   |             |                              |      |                |  |   |          |   |             |   |        |                |      |   |          |   |             |   |  |   |       |  |      |  
|Total liabilities and stockholders equity                                       |  | $                            | 329,395 |   |                              |   |             |                              |      |                |  | $ | 253,352  |   |             |   |        |                |      |   |          | $ | 192,822     |   |  |   |       |  |      |  
|                                                                                 |  |                              |         |   |                              |   |             |                              |      |                |  |   |          |   |             |   |        |                |      |   |          |   |             |   |  |   |       |  |      |  
|Net interest income and interest rate spread                                     |  |                              |         |   |                              | $ | 10,881      |                              | 3.23 | %              |  |   |          |   |             | $ | 7,791  |                | 2.99 | % |          |   |             |   |  | $ | 6,354 |  | 3.35 | %
|                                                                                 |  |                              |         |   |                              |   |             |                              |      |                |  |   |          |   |             |   |        |                |      |   |          |   |             |   |  |   |       |  |      |  
|Net yield on average interest-earning assets                                     |  |                              |         |   |                              |   |             |                              | 3.51 | %              |  |   |          |   |             |   |        |                | 3.22 | % |          |   |             |   |  |   |       |  | 3.57 | %
|                                                                                 |  |                              |         |   |                              |   |             |                              |      |                |  |   |          |   |             |   |        |                |      |   |          |   |             |   |  |   |       |  |      |  
|Ratio of average interest-earning assets to average interest-bearing liabilities |  |                              | 110.53  | % |                              |   |             |                              |      |                |  |   | 112.51   | % |             |   |        |                |      |   |          |   | 111.84      | % |  |   |       |  |      |  
|                                                                                 |  |                              |         |   |                              |   |             |                              |      |                |  |   |          |   |             |   |        |                |      |   |          |   |             |   |  |   |       |  |      |  

---

|(1) | includes nonaccrual and nonperforming loans, the impact of which is not significant. Tax exempt income is not computed on a tax equivalent basis.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------



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##### Table of Contents

MidCarolina Financial Corporation

Table 3

Volume and Rate Variance Analysis

(In Thousands)



|                                        |  |                                      |       |                                      |      |   |       |       |  |        |       |  |      |       |   |       |   |      |   |  |   |       |  
|--------------------------------------- |  | ------------------------------------ | ----- | ------------------------------------ | ---- | - | ----- | ----- |  | ------ | ----- |  | ---- | ----- | - | ----- | - | ---- | - |  | - | ----- | -
|                                        |  | Year Ended December 31,2005 vs. 2004 |       | Year Ended December 31,2004 vs. 2003 |     
|                                        |  | Increase (Decrease) Due to           |       | Increase (Decrease) Due to           |     
|                                        |  | Volume                               |       |                                      | Rate |   |       | Total |  | Volume |       |  | Rate |       |   | Total |  
|Interest income:                        |  |                                      |       |                                      |      |   |       |       |  |        |       |  |      |       |   |       |   |      |   |  |   |       |  
|Loans, net                              |  | $                                    | 2,927 |                                      |      | $ | 3,148 |       |  | $      | 6,075 |  | $    | 2,436 |   |       | $ | (785 | ) |  | $ | 1,651 |  
|Investment securities                   |  |                                      | 791   |                                      |      |   | 20    |       |  |        | 811   |  |      | 817   |   |       |   | 41   |   |  |   | 858   |  
|Interest-earning cash deposits          |  |                                      | 10    |                                      |      |   | 122   |       |  |        | 132   |  |      | (8    | ) |       |   | (12  | ) |  |   | (20   | )
|Other                                   |  |                                      | (4    | )                                    |      |   | 20    |       |  |        | 16    |  |      | 37    |   |       |   | (4   | ) |  |   | 33    |  
|                                        |  |                                      |       |                                      |      |   |       |       |  |        |       |  |      |       |   |       |   |      |   |  |   |       |  
|Total interest income                   |  |                                      | 3,724 |                                      |      |   | 3,310 |       |  |        | 7,034 |  |      | 3,282 |   |       |   | (760 | ) |  |   | 2,522 |  
|                                        |  |                                      |       |                                      |      |   |       |       |  |        |       |  |      |       |   |       |   |      |   |  |   |       |  
|Interest expense:                       |  |                                      |       |                                      |      |   |       |       |  |        |       |  |      |       |   |       |   |      |   |  |   |       |  
|Deposits                                |  |                                      |       |                                      |      |   |       |       |  |        |       |  |      |       |   |       |   |      |   |  |   |       |  
|Demand deposits                         |  |                                      | 69    |                                      |      |   | 387   |       |  |        | 456   |  |      | 149   |   |       |   | 152  |   |  |   | 301   |  
|Savings deposits                        |  |                                      | 3     |                                      |      |   | 14    |       |  |        | 17    |  |      | 5     |   |       |   |     |   |  |   | 5     |  
|Fixed maturity deposits                 |  |                                      | 1,721 |                                      |      |   | 1,643 |       |  |        | 3,364 |  |      | 375   |   |       |   | (176 | ) |  |   | 199   |  
|Short term borrowed funds               |  |                                      | (363  | )                                    |      |   | 368   |       |  |        | 5     |  |      | 236   |   |       |   | 35   |   |  |   | 271   |  
|Long term borrowed funds                |  |                                      | 352   |                                      |      |   | (250  | )     |  |        | 102   |  |      | 145   |   |       |   | 164  |   |  |   | 309   |  
|                                        |  |                                      |       |                                      |      |   |       |       |  |        |       |  |      |       |   |       |   |      |   |  |   |       |  
|Total interest expense                  |  |                                      | 1,782 |                                      |      |   | 2,162 |       |  |        | 3,944 |  |      | 910   |   |       |   | 175  |   |  |   | 1,085 |  
|                                        |  |                                      |       |                                      |      |   |       |       |  |        |       |  |      |       |   |       |   |      |   |  |   |       |  
|Net interest income increase (decrease) |  | $                                    | 1,942 |                                      |      | $ | 1,148 |       |  | $      | 3,090 |  | $    | 2,372 |   |       | $ | (935 | ) |  | $ | 1,437 |  
|                                        |  |                                      |       |                                      |      |   |       |       |  |        |       |  |      |       |   |       |   |      |   |  |   |       |  



27



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##### Table of Contents

MidCarolina Financial Corporation

Table 4

Noninterest Income

(In thousands)



|                                                   |  |                         |       |   |      |   |       |  |   |       |  
|-------------------------------------------------- |  | ----------------------- | ----- | - | ---- | - | ----- |  | - | ----- | -
|                                                   |  | Year Ended December 31, |      
|                                                   |  | 2005                    |       |   | 2004 |   | 2003  | 
|Service charges on deposit accounts                |  | $                       | 1,009 |   |      | $ | 1,087 |  | $ | 1,017 |  
|Mortgage operations                                |  |                         | 1,086 |   |      |   | 2,325 |  |   | 1,766 |  
|Investment brokerage fees                          |  |                         | 200   |   |      |   | 235   |  |   | 298   |  
|Increase in cash surrender value of life insurance |  |                         | 254   |   |      |   | 234   |  |   | 298   |  
|                                                   |  |                         |       |   |      |   |       |  |   |       |  
|Core noninterest income                            |  |                         | 2,549 |   |      |   | 3,881 |  |   | 3,379 |  
|Securities gains (losses), net                     |  |                         | (74   | ) |      |   | 70    |  |   | 28    |  
|Gain (loss) on disposal of foreclosed assets       |  |                         | (1    | ) |      |   | 5     |  |   | (3    | )
|Other noninterest income                           |  |                         | 209   |   |      |   | 185   |  |   | 171   |  
|                                                   |  |                         |       |   |      |   |       |  |   |       |  
|Total noninterest income                           |  | $                       | 2,683 |   |      | $ | 4,141 |  | $ | 3,575 |  
|                                                   |  |                         |       |   |      |   |       |  |   |       |  



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MidCarolina Financial Corporation

Table 5

Noninterest Expenses

(In thousands)



|                                |  |                         |       |      |   |       |  |   |      
|------------------------------- |  | ----------------------- | ----- | ---- | - | ----- |  | - | -----
|                                |  | Year Ended December 31,
|                                |  | 2005                    |       | 2004 |   | 2003 
|Salaries                        |  | $                       | 3,739 |      | $ | 3,926 |  | $ | 3,322
|Employee benefits               |  |                         | 1,084 |      |   | 1,001 |  |   | 862  
|                                |  |                         |       |      |   |       |  |   |      
|Total salaries and benefits     |  |                         | 4,823 |      |   | 4,927 |  |   | 4,184
|                                |  |                         |      
|Occupancy expense               |  |                         | 368   |      |   | 282   |  |   | 265  
|Equipment expense               |  |                         | 457   |      |   | 448   |  |   | 365  
|Data processing                 |  |                         | 567   |      |   | 468   |  |   | 414  
|Office supplies and postage     |  |                         | 268   |      |   | 285   |  |   | 268  
|Deposit and other insurance     |  |                         | 205   |      |   | 149   |  |   | 158  
|Professional and other services |  |                         | 572   |      |   | 444   |  |   | 351  
|Advertising                     |  |                         | 294   |      |   | 180   |  |   | 140  
|Other                           |  |                         | 992   |      |   | 827   |  |   | 700  
|                                |  |                         |       |      |   |       |  |   |      
|Total non-interest expenses     |  | $                       | 8,546 |      | $ | 8,010 |  | $ | 6,845
|                                |  |                         |       |      |   |       |  |   |      



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MidCarolina Financial Corporation

Table 6

Contractual Obligations and Commitments

($ in thousands)



|                                                      |  |                                            |         |                           |   |             |  |             |        |               |   |        |  |   |       
|----------------------------------------------------- |  | ------------------------------------------ | ------- | ------------------------- | - | ----------- |  | ----------- | ------ | ------------- | - | ------ |  | - | ------
|                                                      |  | Payments Due by Period                    
|Contractual Obligations                               |  | Total                                      |         | On Demandor Within 1 Year |   | 2 - 3 Years |  | 4 - 5 Years |        | After 5 Years
|Short-term borrowings                                 |  | $                                          | 10,000  |                           | $ | 10,000      |  | $           |       |               | $ |       |  | $ |      
|Long-term debt                                        |  |                                            | 34,764  |                           |   |            |  |             |       |               |   | 12,000 |  |   | 22,764
|Operating leases                                      |  |                                            | 327     |                           |   | 96          |  |             | 180    |               |   | 51     |  |   |      
|                                                      |  |                                            |         |                           |   |             |  |             |        |               |   |        |  |   |       
|Total contractual cash obligations excluding deposits |  |                                            | 45,091  |                           |   | 10,096      |  |             | 180    |               |   | 12,051 |  |   | 22,764
|Time deposits                                         |  |                                            | 198,132 |                           |   | 158,469     |  |             | 39,501 |               |   | 162    |  |   |      
|                                                      |  |                                            |         |                           |   |             |  |             |        |               |   |        |  |   |       
|Total contractual cash obligations                    |  | $                                          | 243,223 |                           | $ | 168,565     |  | $           | 39,681 |               | $ | 12,213 |  | $ | 22,764
|                                                      |  |                                            |         |                           |   |             |  |             |        |               |   |        |  |   |       
|                                                      | 
|                                                      |  | Amount of Commitment Expiration Per Period
|Commercial Commitments                                |  | TotalAmountsCommitted                      |         | Within 1 Year             |   | 2 - 3 Years |  | 4 - 5 Years |        | After 5 Years
|Lines of credit and loan commitments (1)              |  | $                                          | 76,594  |                           | $ | 44,352      |  | $           | 5,090  |               | $ |       |  | $ | 27,152
|                                                      |  |                                            |         |                           |   |             |  |             |        |               |   |        |  |   |       
|Commitments to sell loans held for sale               |  | $                                          | 893     |                           | $ | 893         |  | $           |       |               | $ |       |  | $ |      
|                                                      |  |                                            |         |                           |   |             |  |             |        |               |   |        |  |   |       

---

|(1) | includes financial standby letters of credit, net
|--- | -------------------------------------------------



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MidCarolina Financial Corporation

Table 7

Interest Rate Sensitivity Analysis

($ in thousands)



|                                                                                  |  |                      |         |   |                           |   |         |                       |  |   |               |   |  |       |         |   |  |   |         |  
|--------------------------------------------------------------------------------- |  | -------------------- | ------- | - | ------------------------- | - | ------- | --------------------- |  | - | ------------- | - |  | ----- | ------- | - |  | - | ------- | -
|                                                                                  |  | At December 31, 2005 |        
|                                                                                  |  | 3 Monthsor Less      |         |   | Over 3 Monthsto 12 Months |   |         | Total Within12 Months |  |   | Over 12Months |   |  | Total |        
|Interest-earning assets:                                                          |  |                      |         |   |                           |   |         |                       |  |   |               |   |  |       |         |   |  |   |         |  
|Loans and loans held for sale                                                     |  | $                    | 179,753 |   |                           | $ | 12,371  |                       |  | $ | 192,124       |   |  | $     | 88,731  |   |  | $ | 280,855 |  
|Securities available for sale                                                     |  |                      | 4,091   |   |                           |   | 2,323   |                       |  |   | 6,414         |   |  |       | 51,959  |   |  |   | 58,373  |  
|Securities held to maturity                                                       |  |                      | 250     |   |                           |   |        |                       |  |   | 250           |   |  |       |        |   |  |   | 250     |  
|Other earning assets                                                              |  |                      | 11,658  |   |                           |   |        |                       |  |   | 11,658        |   |  |       | 2,313   |   |  |   | 13,971  |  
|                                                                                  |  |                      |         |   |                           |   |         |                       |  |   |               |   |  |       |         |   |  |   |         |  
|Total interest-earning assets                                                     |  | $                    | 195,752 |   |                           | $ | 14,694  |                       |  | $ | 210,446       |   |  | $     | 143,003 |   |  | $ | 353,449 |  
|                                                                                  |  |                      |         |   |                           |   |         |                       |  |   |               |   |  |       |         |   |  |   |         |  
|Interest-bearing liabilities                                                      |  |                      |         |   |                           |   |         |                       |  |   |               |   |  |       |         |   |  |   |         |  
|Fixed maturity deposits                                                           |  | $                    | 50,921  |   |                           | $ | 106,984 |                       |  |   | 157,905       |   |  | $     | 40,227  |   |  | $ | 198,132 |  
|All other deposits                                                                |  |                      | 70,586  |   |                           |   |        |                       |  |   | 70,586        |   |  |       |        |   |  |   | 70,586  |  
|Borrowings                                                                        |  |                      | 21,500  |   |                           |   |        |                       |  |   | 21,500        |   |  |       | 23,264  |   |  |   | 44,764  |  
|                                                                                  |  |                      |         |   |                           |   |         |                       |  |   |               |   |  |       |         |   |  |   |         |  
|                                                                                  |  | $                    | 143,007 |   |                           | $ | 106,984 |                       |  | $ | 249,991       |   |  | $     | 63,491  |   |  | $ | 313,482 |  
|                                                                                  |  |                      |         |   |                           |   |         |                       |  |   |               |   |  |       |         |   |  |   |         |  
|Interest sensitivity gap                                                          |  | $                    | 52,745  |   |                           | $ | (92,290 | )                     |  | $ | (39,545       | ) |  | $     | 79,512  |   |  | $ | 39,967  |  
|Cumulative interest sensitivity gap                                               |  |                      | 52,745  |   |                           |   | (39,545 | )                     |  |   | (39,545       | ) |  |       | 39,967  |   |  |   | 39,967  |  
|Cumulative interest sensitivity gap as a percent of total interest-earning assets |  |                      | 14.92   | % |                           |   | -11.19  | %                     |  |   | -11.19        | % |  |       | 11.31   | % |  |   | 11.31   | %
|Cumulative ratio of interest-sensitive assets to interest-sensitive liabilities   |  |                      | 136.88  | % |                           |   | 84.18   | %                     |  |   | 84.18         | % |  |       | 112.75  | % |  |   | 112.75  | %



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MidCarolina Financial Corporation

Table 8

Loan Portfolio Composition

($ in thousands)



|                                                                           |  |                 |         |                |        |   |        |      |                |  |        |        |  |      |                |   |  |        |   |  |                |         |   |        |        |   |                |   |         |   |  |        |  
|-------------------------------------------------------------------------- |  | --------------- | ------- | -------------- | ------ | - | ------ | ---- | -------------- |  | ------ | ------ |  | ---- | -------------- | - |  | ------ | - |  | -------------- | ------- | - | ------ | ------ | - | -------------- | - | ------- | - |  | ------ | -
|                                                                           |  | At December 31, |        
|                                                                           |  | 2005            |         |                | 2004   |   |        | 2003 |                |  | 2002   |        |  | 2001 |               
|                                                                           |  | Amount          |         | % ofTotalLoans |        |   | Amount |      | % ofTotalLoans |  |        | Amount |  |      | % ofTotalLoans |   |  | Amount |   |  | % ofTotalLoans |         |   | Amount |        |   | % ofTotalLoans |  
|Real Estate:                                                               |  |                 |         |                |        |   |        |      |                |  |        |        |  |      |                |   |  |        |   |  |                |         |   |        |        |   |                |   |         |   |  |        |  
|Construction loans                                                         |  | $               | 67,170  |                | 23.92  | % |        | $    | 27,715         |  | 12.41  | %      |  | $    | 14,276         |   |  | 7.76   | % |  | $              | 13,940  |   |        | 9.86   | % |                | $ | 10,396  |   |  | 9.08   | %
|Commercial mortgage loans                                                  |  |                 | 100,292 |                | 35.71  | % |        |      | 88,220         |  | 39.51  | %      |  |      | 71,113         |   |  | 38.66  | % |  |                | 43,879  |   |        | 31.05  | % |                |   | 31,263  |   |  | 27.30  | %
|Home equity lines of credit                                                |  |                 | 30,072  |                | 10.71  | % |        |      | 34,715         |  | 15.55  | %      |  |      | 29,221         |   |  | 15.89  | % |  |                | 23,484  |   |        | 16.62  | % |                |   | 20,034  |   |  | 17.49  | %
|Residential mortgage loans                                                 |  |                 | 38,656  |                | 13.76  | % |        |      | 28,630         |  | 12.82  | %      |  |      | 27,010         |   |  | 14.69  | % |  |                | 16,528  |   |        | 11.70  | % |                |   | 13,946  |   |  | 12.18  | %
|Residential mortgage loans held for sale                                   |  |                 | 893     |                | 0.32   | % |        |      | 5,657          |  | 2.53   | %      |  |      | 4,981          |   |  | 2.71   | % |  |                | 6,541   |   |        | 4.63   | % |                |   | 7,145   |   |  | 6.24   | %
|                                                                           |  |                 |         |                |        |   |        |      |                |  |        |        |  |      |                |   |  |        |   |  |                |         |   |        |        |   |                |   |         |   |  |        |  
|Total real estate loans                                                    |  |                 | 237,083 |                | 84.42  | % |        |      | 184,937        |  | 82.82  | %      |  |      | 146,601        |   |  | 79.71  | % |  |                | 104,372 |   |        | 73.86  | % |                |   | 82,784  |   |  | 72.29  | %
|Commercial and industrial loans                                            |  |                 | 38,929  |                | 13.86  | % |        |      | 30,464         |  | 13.64  | %      |  |      | 30,893         |   |  | 16.80  | % |  |                | 27,501  |   |        | 19.46  | % |                |   | 24,237  |   |  | 21.16  | %
|Loans to individuals for household, family and other personal expenditures |  |                 | 4,836   |                | 1.72   | % |        |      | 7,911          |  | 3.54   | %      |  |      | 6,431          |   |  | 3.50   | % |  |                | 9,439   |   |        | 6.68   | % |                |   | 7,499   |   |  | 6.55   | %
|                                                                           |  |                 |         |                |        |   |        |      |                |  |        |        |  |      |                |   |  |        |   |  |                |         |   |        |        |   |                |   |         |   |  |        |  
|Loans, gross                                                               |  |                 | 280,848 |                | 100.00 | % |        |      | 223,312        |  | 100.00 | %      |  |      | 183,925        |   |  | 100.00 | % |  |                | 141,312 |   |        | 100.00 | % |                |   | 114,520 |   |  | 100.00 | %
|                                                                           |  |                 |         |                |        |   |        |      |                |  |        |        |  |      |                |   |  |        |   |  |                |         |   |        |        |   |                |   |         |   |  |        |  
|Less net deferred loan origination (fees) costs                            |  |                 | 7       |                |        |   |        |      | 28             |  |        |        |  |      | (31            | ) |  |        |   |  |                | (105    | ) |        |        |   |                |   | (96     | ) |  |        |  
|                                                                           |  |                 |         |                |        |   |        |      |                |  |        |        |  |      |                |   |  |        |   |  |                |         |   |        |        |   |                |   |         |   |  |        |  
|Total loans                                                                |  | $               | 280,855 |                |        |   |        | $    | 223,340        |  |        |        |  | $    | 183,894        |   |  |        |   |  | $              | 141,207 |   |        |        |   |                | $ | 114,424 |   |  |        |  
|                                                                           |  |                 |         |                |        |   |        |      |                |  |        |        |  |      |                |   |  |        |   |  |                |         |   |        |        |   |                |   |         |   |  |        |  



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MidCarolina Financial Corporation

Table 9

Loan Maturities

(In thousands)



|                                                  |  |                      |         |       |                                    |   |        |                      |        |  |       |        |  |       |       |  |        |   |       |   |         |  |      |  
|------------------------------------------------- |  | -------------------- | ------- | ----- | ---------------------------------- | - | ------ | -------------------- | ------ |  | ----- | ------ |  | ----- | ----- |  | ------ | - | ----- | - | ------- |  | ---- | -
|                                                  |  | At December 31, 2005 |        
|                                                  |  | Due within one year  |         |       | Due after one year but within five |   |        | Due after five years |        |  | Total |       
|                                                  |  | Amount               |         | Yield |                                    |   | Amount |                      | Yield  |  |       | Amount |  | Yield |       |  | Amount |   | Yield |  
|By loan type:                                     |  |                      |         |       |                                    |   |        |                      |        |  |       |        |  |       |       |  |        |   |       |   |         |  |      |  
|Commercial and industrial and commercial mortgage |  | $                    | 86,000  |       | 7.42                               | % |        | $                    | 47,334 |  | 6.59  | %      |  | $     | 1,737 |  | 7.14   | % |       | $ | 135,071 |  | 7.13 | %
|Real estate - construction                        |  |                      | 50,199  |       | 7.68                               | % |        |                      | 16,158 |  | 6.60  | %      |  |       | 813   |  | 7.10   | % |       |   | 67,170  |  | 7.40 | %
|                                                  |  |                      |         |       |                                    |   |        |                      |        |  |       |        |  |       |       |  |        |   |       |   |         |  |      |  
|Total                                             |  | $                    | 136,199 |       | 7.52                               | % |        | $                    | 63,492 |  | 6.59  | %      |  | $     | 2,550 |  | 7.13   | % |       | $ | 202,241 |  | 7.22 | %
|                                                  |  |                      |         |       |                                    |   |        |                      |        |  |       |        |  |       |       |  |        |   |       |   |         |  |      |  
|By interest rate type:                            |  |                      |         |       |                                    |   |        |                      |        |  |       |        |  |       |       |  |        |   |       |   |         |  |      |  
|Fixed rate loans                                  |  | $                    | 12,719  |       |                                    |   |        | $                    | 63,492 |  |       |        |  | $     | 2,550 |  |        |   |       | $ | 78,761  |  |      |  
|Variable rate loans                               |  |                      | 123,480 |       |                                    |   |        |                      |       |  |       |        |  |       |      |  |        |   |       |   | 123,480 |  |      |  
|                                                  |  |                      |         |       |                                    |   |        |                      |        |  |       |        |  |       |       |  |        |   |       |   |         |  |      |  
|                                                  |  | $                    | 136,199 |       |                                    |   |        | $                    | 63,492 |  |       |        |  | $     | 2,550 |  |        |   |       | $ | 202,241 |  |      |  
|                                                  |  |                      |         |       |                                    |   |        |                      |        |  |       |        |  |       |       |  |        |   |       |   |         |  |      |  

The above table is based on contractual scheduled maturities. Early repayment of loans or renewals at maturity are
not

considered in this table.



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MidCarolina Financial Corporation

Table 10

Nonperforming Assets

($ in thousands)



|                                                    |  |                 |         |   |      |   |         |      |  |   |        |   |  |      |         |   |      |   |        |   |  |   |       |  
|--------------------------------------------------- |  | --------------- | ------- | - | ---- | - | ------- | ---- |  | - | ------ | - |  | ---- | ------- | - | ---- | - | ------ | - |  | - | ----- | -
|                                                    |  | At December 31, |        
|                                                    |  | 2005            |         |   | 2004 |   |         | 2003 |  |   | 2002   |   |  | 2001 |         |   | 2000 |  
|Nonaccrual loans                                    |  | $               | 237     |   |      | $ | 254     |      |  | $ | 589    |   |  | $    | 80      |   |      | $ | 747    |   |  | $ |      |  
|Restructured loans                                  |  |                 |        |   |      |   |        |      |  |   |       |   |  |      |        |   |      |   |       |   |  |   |      |  
|                                                    |  |                 |         |   |      |   |         |      |  |   |        |   |  |      |         |   |      |   |        |   |  |   |       |  
|Total nonperforming loans                           |  |                 | 237     |   |      |   | 254     |      |  |   | 589    |   |  |      | 80      |   |      |   | 747    |   |  |   |      |  
|Repossessed Assets                                  |  |                 | 19      |   |      |   |        |      |  |   | 22     |   |  |      | 11      |   |      |   |       |   |  |   |      |  
|Other real estate owned                             |  |                 | 2,803   |   |      |   | 2,031   |      |  |   |       |   |  |      |        |   |      |   |       |   |  |   |      |  
|                                                    |  |                 |         |   |      |   |         |      |  |   |        |   |  |      |         |   |      |   |        |   |  |   |       |  
|Total nonperforming assets                          |  | $               | 3,059   |   |      | $ | 2,285   |      |  | $ | 611    |   |  | $    | 91      |   |      | $ | 747    |   |  | $ |      |  
|                                                    |  |                 |         |   |      |   |         |      |  |   |        |   |  |      |         |   |      |   |        |   |  |   |       |  
|Accruing loans past due 90 days or more             |  | $               |        |   |      | $ |        |      |  | $ |       |   |  | $    |        |   |      | $ |       |   |  | $ |      |  
|Allowance for loan losses                           |  |                 | 4,090   |   |      |   | 2,865   |      |  |   | 2,522  |   |  |      | 2,088   |   |      |   | 1,633  |   |  |   | 1,319 |  
|Nonperforming loans to year end loans               |  |                 | 0.08    | % |      |   | 0.11    | %    |  |   | 0.32   | % |  |      | 0.06    | % |      |   | 0.65   | % |  |   | 0.00  | %
|Allowance for loan losses to year end loans         |  |                 | 1.46    | % |      |   | 1.32    | %    |  |   | 1.41   | % |  |      | 1.48    | % |      |   | 1.43   | % |  |   | 1.47  | %
|Nonperforming assets to loans and other real estate |  |                 | 1.08    | % |      |   | 1.01    | %    |  |   | 0.33   | % |  |      | 0.06    | % |      |   | 0.65   | % |  |   | 0.00  | %
|Nonperforming assets to total assets                |  |                 | 0.83    | % |      |   | 0.80    | %    |  |   | 0.29   | % |  |      | 0.05    | % |      |   | 0.54   | % |  |   | 0.00  | %
|Allowance for loan losses to nonperforming loans    |  |                 | 1725.74 | % |      |   | 1127.95 | %    |  |   | 428.18 | % |  |      | 2610.00 | % |      |   | 218.61 | % |  |   | NM    |  



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MidCarolina Financial Corporation

Table 11

Allocation of the Allowance for Loan Losses

(In thousands)



|                                         |  |        |       |                     |        |   |        |      |                     |  |        |        |  |                     |       |  |        |   |                     |   |       |        |        |                     |  |   |       |  |        |  
|---------------------------------------- |  | ------ | ----- | ------------------- | ------ | - | ------ | ---- | ------------------- |  | ------ | ------ |  | ------------------- | ----- |  | ------ | - | ------------------- | - | ----- | ------ | ------ | ------------------- |  | - | ----- |  | ------ | -
|                                         |  | 2005   |       |                     | 2004   |   |        | 2003 |                     |  | 2002   |        |  | 2001                |      
|                                         |  | Amount |       | % of TotalLoans (1) |        |   | Amount |      | % of TotalLoans (1) |  |        | Amount |  | % of TotalLoans (1) |       |  | Amount |   | % of TotalLoans (1) |   |       | Amount |        | % of TotalLoans (1) | 
|Real estate loans:                       |  |        |       |                     |        |   |        |      |                     |  |        |        |  |                     |       |  |        |   |                     |   |       |        |        |                     |  |   |       |  |        |  
|Construction loans                       |  | $      | 978   |                     | 23.92  | % |        | $    | 356                 |  | 12.41  | %      |  | $                   | 196   |  | 7.76   | % |                     | $ | 206   |        | 9.86   | %                   |  | $ | 148   |  | 9.08   | %
|Commercial mortgage loans                |  |        | 1,461 |                     | 35.71  | % |        |      | 1,132               |  | 39.51  | %      |  |                     | 975   |  | 38.66  | % |                     |   | 648   |        | 31.05  | %                   |  |   | 446   |  | 27.30  | %
|Home equity lines of credit              |  |        | 438   |                     | 10.71  | % |        |      | 445                 |  | 15.55  | %      |  |                     | 401   |  | 15.89  | % |                     |   | 347   |        | 16.62  | %                   |  |   | 286   |  | 17.49  | %
|Residential mortgage loans               |  |        | 563   |                     | 13.76  | % |        |      | 347                 |  | 12.45  | %      |  |                     | 370   |  | 14.69  | % |                     |   | 244   |        | 11.70  | %                   |  |   | 199   |  | 12.18  | %
|Residential mortgage loans held for sale |  |        |      |                     | 0.32   | % |        |      |                    |  | 2.90   | %      |  |                     |      |  | 2.71   | % |                     |   |      |        | 4.63   | %                   |  |   |      |  | 6.24   | %
|                                         |  |        |       |                     |        |   |        |      |                     |  |        |        |  |                     |       |  |        |   |                     |   |       |        |        |                     |  |   |       |  |        |  
|Total real estate loans                  |  |        | 3,440 |                     | 84.42  | % |        |      | 2,280               |  | 82.82  | %      |  |                     | 1,942 |  | 79.71  | % |                     |   | 1,445 |        | 73.86  | %                   |  |   | 1,079 |  | 72.29  | %
|Commercial and industrial loans          |  |        | 580   |                     | 13.86  | % |        |      | 489                 |  | 13.64  | %      |  |                     | 522   |  | 16.80  | % |                     |   | 504   |        | 19.46  | %                   |  |   | 447   |  | 21.16  | %
|Loans to individuals                     |  |        | 70    |                     | 1.72   | % |        |      | 101                 |  | 3.54   | %      |  |                     | 88    |  | 3.50   | % |                     |   | 139   |        | 6.68   | %                   |  |   | 107   |  | 6.55   | %
|                                         |  |        |       |                     |        |   |        |      |                     |  |        |        |  |                     |       |  |        |   |                     |   |       |        |        |                     |  |   |       |  |        |  
|                                         |  | $      | 4,090 |                     | 100.00 | % |        | $    | 2,865               |  | 100.00 | %      |  | $                   | 2,522 |  | 100.00 | % |                     | $ | 2,088 |        | 100.00 | %                   |  | $ | 1,633 |  | 100.00 | %
|                                         |  |        |       |                     |        |   |        |      |                     |  |        |        |  |                     |       |  |        |   |                     |   |       |        |        |                     |  |   |       |  |        |  

---

|(1) | Represents total of all outstanding loans in each category as a percent of total loans outstanding
|--- | --------------------------------------------------------------------------------------------------



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MidCarolina Financial Corporation

Table 12

Loan Loss and Recovery Experience

($ in thousands)



|                                                               |  |                                       |         |   |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|-------------------------------------------------------------- |  | ------------------------------------- | ------- | - | ---- | - | ------- | ---- |  | - | ------- | - |  | ---- | ------- | - |  | - | ------- | -
|                                                               |  | At or for the Year Ended December 31, |        
|                                                               |  | 2005                                  |         |   | 2004 |   |         | 2003 |  |   | 2002    |   |  | 2001 |        
|Loans outstanding at the end of the year                       |  | $                                     | 279,962 |   |      | $ | 217,683 |      |  | $ | 178,913 |   |  | $    | 141,207 |   |  | $ | 114,424 |  
|                                                               |  |                                       |         |   |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Average loans outstanding during the year                      |  | $                                     | 252,914 |   |      | $ | 204,121 |      |  | $ | 160,041 |   |  | $    | 118,702 |   |  | $ | 100,816 |  
|                                                               |  |                                       |         |   |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Allowance for loan losses at beginning of year                 |  | $                                     | 2,865   |   |      | $ | 2,522   |      |  | $ | 2,088   |   |  | $    | 1,633   |   |  | $ | 1,319   |  
|Provision for loan losses                                      |  |                                       | 1,373   |   |      |   | 1,030   |      |  |   | 586     |   |  |      | 573     |   |  |   | 735     |  
|                                                               |  |                                       |         |   |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|                                                               |  |                                       | 4,238   |   |      |   | 3,552   |      |  |   | 2,674   |   |  |      | 2,206   |   |  |   | 2,054   |  
|                                                               |  |                                       |         |   |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Loans charged off:                                             |  |                                       |         |   |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Real estate loans                                              |  |                                       |        |   |      |   | (5      | )    |  |   | (3      | ) |  |      |        |   |  |   |        |  
|Commercial and industrial loans                                |  |                                       | (137    | ) |      |   | (693    | )    |  |   | (73     | ) |  |      | (60     | ) |  |   | (321    | )
|Installment loans                                              |  |                                       | (44     | ) |      |   | (56     | )    |  |   | (126    | ) |  |      | (67     | ) |  |   | (103    | )
|                                                               |  |                                       |         |   |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Total charge-offs                                              |  |                                       | (181    | ) |      |   | (754    | )    |  |   | (202    | ) |  |      | (127    | ) |  |   | (424    | )
|                                                               |  |                                       |         |   |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Recoveries of loans previously charged off:                    |  |                                       |         |   |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Commercial and industrial loans                                |  |                                       | 26      |   |      |   | 14      |      |  |   | 41      |   |  |      | 3       |   |  |   | 3       |  
|Installment loans                                              |  |                                       | 7       |   |      |   | 53      |      |  |   | 9       |   |  |      | 6       |   |  |   |        |  
|                                                               |  |                                       |         |   |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Total recoveries                                               |  |                                       | 33      |   |      |   | 67      |      |  |   | 50      |   |  |      | 9       |   |  |   | 3       |  
|                                                               |  |                                       |         |   |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Net charge-offs                                                |  |                                       | (148    | ) |      |   | (687    | )    |  |   | (152    | ) |  |      | (118    | ) |  |   | (421    | )
|                                                               |  |                                       |         |   |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Allowance for loan losses at end of year                       |  | $                                     | 4,090   |   |      | $ | 2,865   |      |  | $ | 2,522   |   |  | $    | 2,088   |   |  | $ | 1,633   |  
|                                                               |  |                                       |         |   |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Ratios:                                                        |  |                                       |         |   |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Net charge-offs as a percent of average loans                  |  |                                       | 0.06    | % |      |   | 0.34    | %    |  |   | 0.09    | % |  |      | 0.10    | % |  |   | 0.42    | %
|Allowance for loan losses as a percent of loans at end of year |  |                                       | 1.46    | % |      |   | 1.32    | %    |  |   | 1.41    | % |  |      | 1.48    | % |  |   | 1.43    | %



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MidCarolina Financial Corporation

Table 13

Securities Portfolio Composition

(In thousands)



|                                    |  |                |        |      |   |        |  |   |      
|----------------------------------- |  | -------------- | ------ | ---- | - | ------ |  | - | -----
|                                    |  | At December 31
|                                    |  | 2005           |        | 2004 |   | 2003  
|Securities available for sale:      |  |                |        |      |   |        |  |   |      
|U. S. Government agencies           |  | $              | 15,690 |      | $ | 2,484  |  | $ | 2,034
|Mortgage-backed securities          |  |                | 22,847 |      |   | 25,900 |  |   | 2,645
|State and municipal governments     |  |                | 19,712 |      |   | 7,404  |  |   | 2,931
|Other                               |  |                | 124    |      |   | 124    |  |   | 124  
|                                    |  |                |        |      |   |        |  |   |      
|Total securities available for sale |  |                | 58,373 |      |   | 35,912 |  |   | 7,734
|                                    |  |                |        |      |   |        |  |   |      
|Securities held to maturity:        |  |                |        |      |   |        |  |   |      
|Other                               |  |                | 250    |      |   | 250    |  |   | 250  
|                                    |  |                |        |      |   |        |  |   |      
|Total securities                    |  | $              | 58,623 |      | $ | 36,162 |  | $ | 7,984
|                                    |  |                |        |      |   |        |  |   |      



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MidCarolina Financial Corporation

Table 14

Securities Portfolio Composition

($ in thousands)



|                                    |  |               |        |           |   |               |  |      |  
|----------------------------------- |  | ------------- | ------ | --------- | - | ------------- |  | ---- | -
|                                    |  | AmortizedCost |        | FairValue |   | BookYield (1) | 
|Securities available for sale:      |  |               |        |           |   |               |  |      |  
|U. S. Government agencies           |  |               |        |           |   |               |  |      |  
|Due after one but within five years |  |               | 3,291  |           |   | 3,237         |  | 4.40 | %
|Due after five but within ten years |  |               | 12,688 |           |   | 12,453        |  | 4.87 | %
|                                    |  |               |        |           |   |               |  |      |  
|                                    |  |               | 15,979 |           |   | 15,690        |  | 4.77 | %
|                                    |  |               |        |           |   |               |  |      |  
|Mortgage-backed securities          |  |               |        |           |   |               |  |      |  
|Due within one year                 |  |               | 3,291  |           |   | 3,210         |  | 4.41 | %
|Due after one but within five years |  |               | 11,799 |           |   | 11,444        |  | 4.44 | %
|Due after five but within ten years |  |               | 5,858  |           |   | 5,668         |  | 4.54 | %
|Due after ten years                 |  |               | 2,598  |           |   | 2,525         |  | 4.50 | %
|                                    |  |               |        |           |   |               |  |      |  
|                                    |  |               | 23,546 |           |   | 22,847        |  | 4.47 | %
|                                    |  |               |        |           |   |               |  |      |  
|State and local governments (1)     |  |               |        |           |   |               |  |      |  
|Due after one but within five years |  |               | 2,479  |           |   | 2,483         |  | 6.22 | %
|Due after five but within ten years |  |               | 5,437  |           |   | 5,398         |  | 6.24 | %
|Due after ten years                 |  |               | 11,798 |           |   | 11,831        |  | 6.30 | %
|                                    |  |               |        |           |   |               |  |      |  
|                                    |  |               | 19,714 |           |   | 19,712        |  | 6.27 | %
|                                    |  |               |        |           |   |               |  |      |  
|Other                               |  |               |        |           |   |               |  |      |  
|Due after ten years                 |  |               | 124    |           |   | 124           |  | 0.00 | %
|                                    |  |               |        |           |   |               |  |      |  
|                                    |  |               | 124    |           |   | 124           |  | 0.00 | %
|                                    |  |               |        |           |   |               |  |      |  
|Total securities available for sale |  |               |        |           |   |               |  |      |  
|Due within one year                 |  |               | 3,291  |           |   | 3,210         |  | 4.41 | %
|Due after one but within five years |  |               | 17,569 |           |   | 17,164        |  | 4.69 | %
|Due after five but within ten years |  |               | 23,983 |           |   | 23,519        |  | 5.10 | %
|Due after ten years                 |  |               | 14,520 |           |   | 14,480        |  | 5.93 | %
|                                    |  |               |        |           |   |               |  |      |  
|                                    |  | $             | 59,363 |           | $ | 58,373        |  | 5.15 | %
|                                    |  |               |        |           |   |               |  |      |  
|Securities held to maturity         |  |               |        |           |   |               |  |      |  
|Other                               |  |               |        |           |   |               |  |      |  
|Due after ten years                 |  | $             | 250    |           | $ | 250           |  | 4.75 | %
|                                    |  |               |        |           |   |               |  |      |  
|                                    |  |               | 250    |           |   | 250           |  | 4.75 | %
|                                    |  |               |        |           |   |               |  |      |  
|Total securities held to maturity   |  |               |        |           |   |               |  |      |  
|Due after ten years                 |  |               | 250    |           |   | 250           |  | 4.75 | %
|                                    |  |               |        |           |   |               |  |      |  
|                                    |  |               | 250    |           |   | 250           |  | 4.75 | %
|                                    |  |               |        |           |   |               |  |      |  

---

|(1) | Yields on tax-exempt investments have been adjusted to a taxable equivalent basis using a 34% tax rate.
|--- | -------------------------------------------------------------------------------------------------------



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MidCarolina Financial Corporation

Table 15

Average Deposits

($ in thousands)



|                                |  |                                 |         |             |      |   |               |      |             |  |      |               |  |             |         |  |      |  
|------------------------------- |  | ------------------------------- | ------- | ----------- | ---- | - | ------------- | ---- | ----------- |  | ---- | ------------- |  | ----------- | ------- |  | ---- | -
|                                |  | For the Year Ended December 31, |        
|                                |  | 2005                            |         |             | 2004 |   |               | 2003 |            
|                                |  | AverageAmount                   |         | AverageRate |      |   | AverageAmount |      | AverageRate |  |      | AverageAmount |  | AverageRate |        
|Demand deposits                 |  |                                 | 55,152  |             | 1.94 | % |               | $    | 50,781      |  | 1.21 | %             |  | $           | 36,346  |  | 0.86 | %
|Savings deposits                |  |                                 | 7,028   |             | 0.70 | % |               |      | 6,549       |  | 0.49 | %             |  |             | 5,569   |  | 0.48 | %
|Fixed maturity deposits         |  |                                 | 175,110 |             | 3.15 | % |               |      | 108,160     |  | 1.99 | %             |  |             | 90,110  |  | 2.17 | %
|                                |  |                                 |         |             |      |   |               |      |             |  |      |               |  |             |         |  |      |  
|Total interest-bearing deposits |  |                                 | 237,290 |             | 2.80 | % |               |      | 165,490     |  | 1.69 | %             |  |             | 132,025 |  | 1.74 | %
|                                |  |                                 |         |             |      |  
|Noninterest-bearing deposits    |  |                                 | 27,440  |             |     |   |               |      | 21,600      |  |     |               |  |             | 18,937  |  |     |  
|                                |  |                                 |         |             |      |   |               |      |             |  |      |               |  |             |         |  |      |  
|Total deposits                  |  | $                               | 264,730 |             | 2.51 | % |               | $    | 187,090     |  | 1.50 | %             |  | $           | 150,962 |  | 1.52 | %
|                                |  |                                 |         |             |      |   |               |      |             |  |      |               |  |             |         |  |      |  



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MidCarolina Financial Corporation

Table 16

Maturities of Time Deposits of $100,000 or More

(In thousands)



|                                  |  |                      |        |                          |   |                           |  |               |        |       |   |        |  |   |        
|--------------------------------- |  | -------------------- | ------ | ------------------------ | - | ------------------------- |  | ------------- | ------ | ----- | - | ------ |  | - | -------
|                                  |  | At December 31, 2005
|                                  |  | 3 Monthsor Less      |        | Over 3 Monthsto 6 Months |   | Over 6 Monthsto 12 Months |  | Over 12Months |        | Total
|Time Deposits of $100,000 or more |  | $                    | 39,221 |                          | $ | 20,047                    |  | $             | 43,710 |       | $ | 34,962 |  | $ | 137,940
|                                  |  |                      |        |                          |   |                           |  |               |        |       |   |        |  |   |        



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ITEM 7. FINANCIAL STATEMENTS

MIDCAROLINA FINANCIAL CORPORATION

CONSOLIDATED FINANCIAL STATEMENTS

Years Ended December 31, 2005 and 2004



41



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MIDCAROLINA FINANCIAL CORPORATION AND SUBSIDIARIES

INDEX TO THE CONSOLIDATED FINANCIAL STATEMENTS



|                                                                                                          |  |         
|--------------------------------------------------------------------------------------------------------- |  | --------
|                                                                                                          |  | Page No.
|Report of Independent Registered Public Accounting Firm                                                   |  | 43      
|                                                                                                          | 
|Consolidated Statements of Financial Condition as of December 31, 2005 and 2004                           |  | 44      
|                                                                                                          | 
|Consolidated Statements of Operations for the years ended December 31, 2005 and 2004                      |  | 45      
|                                                                                                          | 
|Consolidated Statements of Comprehensive Income for the years ended December 31, 2005 and 2004            |  | 46      
|                                                                                                          | 
|Consolidated Statements of Changes in Shareholders Equity for the years ended December 31, 2005 and 2004 |  | 47      
|                                                                                                          | 
|Consolidated Statements of Cash Flows for the years ended December 31, 2005 and 2004                      |  | 48      
|                                                                                                          | 
|Notes to Consolidated Financial Statements                                                                |  | 49      



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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Shareholders

MidCarolina Financial Corporation

Burlington, North Carolina

We have audited the accompanying consolidated statements of financial condition of MidCarolina
Financial Corporation and Subsidiary (the Company) as of December 31, 2005 and 2004, and the related consolidated statements of operations, comprehensive income, shareholders equity and cash flows for the years then ended.
These consolidated financial statements are the responsibility of the Companys management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Companys internal control over financial reporting. Our audit included
consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Companys internal
control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and
significant estimates made by management, 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 financial statements referred to above present fairly, in all material respects, the financial position of MidCarolina Financial Corporation and Subsidiary as of December 31, 2005
and 2004, and the results of their operations and their cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America.

LOGO

Raleigh, North Carolina

March 20, 2006



43



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CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION

December 31, 2005 and 2004



|                                                                                                                                                            |  |                                          |         |   |      |   |         |  
|----------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ---------------------------------------- | ------- | - | ---- | - | ------- | -
|                                                                                                                                                            |  | 2005                                     |         |   | 2004 |  
|                                                                                                                                                            |  | (Amounts in thousands,except share data) |        
|Assets                                                                                                                                                      |  |                                          |         |   |      |   |         |  
|Cash and due from banks                                                                                                                                     |  | $                                        | 1,062   |   |      | $ | 906     |  
|Federal funds sold and interest-earning deposits                                                                                                            |  |                                          | 12,036  |   |      |   | 9,187   |  
|Investment securities:                                                                                                                                      |  |                                          |         |   |      |   |         |  
|Available for sale                                                                                                                                          |  |                                          | 58,373  |   |      |   | 35,912  |  
|Held to maturity (fair value approximates $250)                                                                                                             |  |                                          | 250     |   |      |   | 250     |  
|Loans held for sale                                                                                                                                         |  |                                          | 893     |   |      |   | 5,657   |  
|Loans                                                                                                                                                       |  |                                          | 279,962 |   |      |   | 217,683 |  
|Allowance for loan losses                                                                                                                                   |  |                                          | (4,090  | ) |      |   | (2,865  | )
|                                                                                                                                                            |  |                                          |         |   |      |   |         |  
|Net loans                                                                                                                                                   |  |                                          | 275,872 |   |      |   | 214,818 |  
|Investment in stock of Federal Home Loan Bank of Atlanta                                                                                                    |  |                                          | 2,189   |   |      |   | 2,292   |  
|Investment in life insurance                                                                                                                                |  |                                          | 7,037   |   |      |   | 6,783   |  
|Premises and equipment, net                                                                                                                                 |  |                                          | 6,115   |   |      |   | 4,139   |  
|Other assets                                                                                                                                                |  |                                          | 6,613   |   |      |   | 4,944   |  
|                                                                                                                                                            |  |                                          |         |   |      |   |         |  
|Total assets                                                                                                                                                |  | $                                        | 370,440 |   |      | $ | 284,888 |  
|                                                                                                                                                            |  |                                          |         |   |      |   |         |  
|Liabilities and Shareholders Equity                                                                                                                        |  |                                          |         |   |      |   |         |  
|Deposits:                                                                                                                                                   |  |                                          |         |   |      |   |         |  
|Noninterest-bearing demand deposits                                                                                                                         |  | $                                        | 31,544  |   |      | $ | 23,667  |  
|Interest-bearing demand deposits                                                                                                                            |  |                                          | 63,738  |   |      |   | 52,345  |  
|Savings                                                                                                                                                     |  |                                          | 6,848   |   |      |   | 6,665   |  
|Time                                                                                                                                                        |  |                                          | 198,132 |   |      |   | 134,114 |  
|                                                                                                                                                            |  |                                          |         |   |      |   |         |  
|Total deposits                                                                                                                                              |  |                                          | 300,262 |   |      |   | 216,791 |  
|                                                                                                                                                            |  |                                         
|Short-term borrowings                                                                                                                                       |  |                                          | 10,000  |   |      |   | 15,500  |  
|Long-term debt                                                                                                                                              |  |                                          | 34,764  |   |      |   | 34,764  |  
|Accrued expenses and other liabilities                                                                                                                      |  |                                          | 2,321   |   |      |   | 1,409   |  
|                                                                                                                                                            |  |                                          |         |   |      |   |         |  
|Total liabilities                                                                                                                                           |  |                                          | 347,347 |   |      |   | 268,464 |  
|                                                                                                                                                            |  |                                          |         |   |      |   |         |  
|Shareholders equity:                                                                                                                                       |  |                                          |         |   |      |   |         |  
|Noncumulative, perpetual preferred stock, no par value, 20,000,000 shares authorized; 5,000 shares issued and outstanding at December 31,
2005              |  |                                          | 4,819   |   |      |   |        |  
|Common stock, no par value; 80,000,000 shares authorized; 3,131,380 and 2,084,392 shares issued and outstanding at December 31, 2005 and
2004, respectively |  |                                          | 11,392  |   |      |   | 11,352  |  
|Retained earnings                                                                                                                                           |  |                                          | 7,429   |   |      |   | 5,171   |  
|Accumulated other comprehensive loss                                                                                                                        |  |                                          | (547    | ) |      |   | (99     | )
|                                                                                                                                                            |  |                                          |         |   |      |   |         |  
|Total shareholders equity                                                                                                                                  |  |                                          | 23,093  |   |      |   | 16,424  |  
|                                                                                                                                                            |  |                                          |         |   |      |   |         |  
|Total liabilities and shareholders equity                                                                                                                  |  | $                                        | 370,440 |   |      | $ | 284,888 |  
|                                                                                                                                                            |  |                                          |         |   |      |   |         |  

See accompanying notes to consolidated financial statements.



44



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CONSOLIDATED STATEMENTS OF OPERATIONS

Years Ended December 31, 2005 and 2004



|                                                    |  |                                              |        |   |      |   |       
|--------------------------------------------------- |  | -------------------------------------------- | ------ | - | ---- | - | ------
|                                                    |  | 2005                                         |        |   | 2004
|                                                    |  | (Amounts in thousands,except per share data)
|Interest Income                                     |  |                                              |        |   |      |   |       
|Loans                                               |  | $                                            | 16,915 |   |      | $ | 10,840
|Investment securities:                              |  |                                              |        |   |      |   |       
|Taxable                                             |  |                                              | 1,525  |   |      |   | 895   
|Tax-exempt                                          |  |                                              | 466    |   |      |   | 285   
|Federal funds sold and interest-earning deposits    |  |                                              | 206    |   |      |   | 74    
|Other                                               |  |                                              | 96     |   |      |   | 80    
|                                                    |  |                                              |        |   |      |   |       
|Total interest income                               |  |                                              | 19,208 |   |      |   | 12,174
|                                                    |  |                                              |        |   |      |   |       
|Interest Expense                                    |  |                                              |        |   |      |   |       
|Demand deposits                                     |  |                                              | 1,070  |   |      |   | 614   
|Savings deposits                                    |  |                                              | 49     |   |      |   | 32    
|Time deposits                                       |  |                                              | 5,516  |   |      |   | 2,152 
|Short-term borrowings                               |  |                                              | 316    |   |      |   | 311   
|Long-term debt                                      |  |                                              | 1,376  |   |      |   | 1,274 
|                                                    |  |                                              |        |   |      |   |       
|Total interest expense                              |  |                                              | 8,327  |   |      |   | 4,383 
|                                                    |  |                                              |        |   |      |   |       
|Net Interest Income                                 |  |                                              | 10,881 |   |      |   | 7,791 
|Provision for loan losses                           |  |                                              | 1,373  |   |      |   | 1,030 
|                                                    |  |                                              |        |   |      |   |       
|Net interest income after provision for loan losses |  |                                              | 9,508  |   |      |   | 6,761 
|                                                    |  |                                              |        |   |      |   |       
|Noninterest Income                                  |  |                                              |        |   |      |   |       
|Service charges on deposit accounts                 |  |                                              | 1,009  |   |      |   | 1,087 
|Mortgage operations                                 |  |                                              | 1,086  |   |      |   | 2,325 
|Investment services                                 |  |                                              | 200    |   |      |   | 235   
|Increase in cash surrender value of life insurance  |  |                                              | 254    |   |      |   | 234   
|Gain (loss) on sale of investment securities        |  |                                              | (74    | ) |      |   | 70    
|Other                                               |  |                                              | 208    |   |      |   | 190   
|                                                    |  |                                              |        |   |      |   |       
|Total noninterest income                            |  |                                              | 2,683  |   |      |   | 4,141 
|                                                    |  |                                              |        |   |      |   |       
|Noninterest Expense                                 |  |                                              |        |   |      |   |       
|Salaries and employee benefits                      |  |                                              | 4,823  |   |      |   | 4,927 
|Occupancy and equipment                             |  |                                              | 825    |   |      |   | 730   
|Data processing                                     |  |                                              | 567    |   |      |   | 468   
|Office supplies and postage                         |  |                                              | 268    |   |      |   | 285   
|Deposit and other insurance                         |  |                                              | 205    |   |      |   | 149   
|Professional and other services                     |  |                                              | 572    |   |      |   | 444   
|Advertising                                         |  |                                              | 294    |   |      |   | 180   
|Other                                               |  |                                              | 992    |   |      |   | 827   
|                                                    |  |                                              |        |   |      |   |       
|Total noninterest expense                           |  |                                              | 8,546  |   |      |   | 8,010 
|                                                    |  |                                              |        |   |      |   |       
|Income before income taxes                          |  |                                              | 3,645  |   |      |   | 2,892 
|Provision for income taxes                          |  |                                              | 1,277  |   |      |   | 950   
|                                                    |  |                                              |        |   |      |   |       
|Net income                                          |  |                                              | 2,368  |   |      |   | 1,942 
|Dividends on preferred stock                        |  |                                              | (104   | ) |      |   |      
|                                                    |  |                                              |        |   |      |   |       
|Net income available to common shareholders         |  | $                                            | 2,264  |   |      | $ | 1,942 
|                                                    |  |                                              |        |   |      |   |       
|Net Income Per Common Share:                        |  |                                              |        |   |      |   |       
|Basic                                               |  | $                                            | .72    |   |      | $ | .62   
|                                                    |  |                                              |        |   |      |   |       
|Diluted                                             |  | $                                            | .67    |   |      | $ | .58   
|                                                    |  |                                              |        |   |      |   |       

See accompanying notes to consolidated financial statements.



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CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

Years Ended December 31, 2005 and 2004



|                                                            |  |                        |       |   |      |   |       |  
|----------------------------------------------------------- |  | ---------------------- | ----- | - | ---- | - | ----- | -
|                                                            |  | 2005                   |       |   | 2004 |  
|                                                            |  | (Amounts in thousands) |      
|Net income                                                  |  | $                      | 2,368 |   |      | $ | 1,942 |  
|                                                            |  |                        |       |   |      |   |       |  
|Other comprehensive income:                                 |  |                        |       |   |      |   |       |  
|Securities available for sale:                              |  |                        |       |   |      |   |       |  
|Unrealized holding losses on available for sale securities  |  |                        | (905  | ) |      |   | (208  | )
|Tax effect                                                  |  |                        | 353   |   |      |   | 76    |  
|Reclassification of (gains) losses recognized in net income |  |                        | 74    |   |      |   | (70   | )
|Tax effect                                                  |  |                        | (28   | ) |      |   | 25    |  
|                                                            |  |                        |       |   |      |   |       |  
|Net of tax amount                                           |  |                        | (506  | ) |      |   | (177  | )
|                                                            |  |                        |       |   |      |   |       |  
|Cash flow hedging activities:                               |  |                        |       |   |      |   |       |  
|Unrealized holding gains on cash flow hedging activities    |  |                        | 95    |   |      |   | 90    |  
|Tax effect                                                  |  |                        | (37   | ) |      |   | (33   | )
|                                                            |  |                        |       |   |      |   |       |  
|Net of tax amount                                           |  |                        | 58    |   |      |   | 57    |  
|                                                            |  |                        |       |   |      |   |       |  
|Total other comprehensive loss                              |  |                        | (448  | ) |      |   | (120  | )
|                                                            |  |                        |       |   |      |   |       |  
|Comprehensive income                                        |  | $                      | 1,920 |   |      | $ | 1,822 |  
|                                                            |  |                        |       |   |      |   |       |  

See accompanying notes to consolidated financial statements.



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CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY

Years Ended December 31, 2005 and 2004



|                              |  |                                           |  |              |       |        |                  |        |   |                                              |   |  |                          |       |   |  |   |      |   |  |   |        |  
|----------------------------- |  | ----------------------------------------- |  | ------------ | ----- | ------ | ---------------- | ------ | - | -------------------------------------------- | - |  | ------------------------ | ----- | - |  | - | ---- | - |  | - | ------ | -
|                              |  | Preferred stock                           |  | Common stock |       |        | Retainedearnings |        |   | Accumulatedother com-prehensiveincome
(loss) |   |  | Totalshareholdersequity |      
|                              |  | Shares                                    |  | Amount       |       | Shares |                  | Amount |   |                                              |   | 
|                              |  | (Amounts in thousands, except share data) | 
|Balance at December 31, 2003  |  |                                          |  | $            |      |        | 2,065,006        |        | $ | 11,161                                       |   |  | $                        | 3,229 |   |  | $ | 21   |   |  | $ | 14,411 |  
|Net income                    |  |                                          |  |              |      |        |                 |        |   |                                             |   |  |                          | 1,942 |   |  |   |     |   |  |   | 1,942  |  
|Other comprehensive loss      |  |                                          |  |              |      |        |                 |        |   |                                             |   |  |                          |      |   |  |   | (120 | ) |  |   | (120   | )
|Stock options exercised       |  |                                          |  |              |      |        | 19,336           |        |   | 110                                          |   |  |                          |      |   |  |   |     |   |  |   | 110    |  
|Current income tax benefit    |  |                                          |  |              |      |        |                 |        |   | 80                                           |   |  |                          |      |   |  |   |     |   |  |   | 80     |  
|Stock awards                  |  |                                          |  |              |      |        | 50               |        |   | 1                                            |   |  |                          |      |   |  |   |     |   |  |   | 1      |  
|                              |  |                                           |  |              |       |        |                  |        |   |                                              |   |  |                          |       |   |  |   |      |   |  |   |        |  
|Balance at December 31, 2004  |  |                                          |  |              |      |        | 2,084,392        |        |   | 11,352                                       |   |  |                          | 5,171 |   |  |   | (99  | ) |  |   | 16,424 |  
|Preferred stock issue, net    |  | 5,000                                     |  |              | 4,819 |        |                 |        |   |                                             |   |  |                          |      |   |  |   |     |   |  |   | 4,819  |  
|Net income                    |  |                                          |  |              |      |        |                 |        |   |                                             |   |  |                          | 2,368 |   |  |   |     |   |  |   | 2,368  |  
|Other comprehensive loss      |  |                                          |  |              |      |        |                 |        |   |                                             |   |  |                          |      |   |  |   | (448 | ) |  |   | (448   | )
|Effect of 6-for-5 stock split |  |                                          |  |              |      |        | 416,492          |        |   |                                             |   |  |                          | (6    | ) |  |   |     |   |  |   | (6     | )
|Effect of 5-for-4 stock split |  |                                          |  |              |      |        | 624,871          |        |   | (7                                           | ) |  |                          |      |   |  |   |     |   |  |   | (7     | )
|Preferred dividends paid      |  |                                          |  |              |      |        |                 |        |   |                                             |   |  |                          | (104  | ) |  |   |     |   |  |   | (104   | )
|Stock options exercised       |  |                                          |  |              |      |        | 5,625            |        |   | 21                                           |   |  |                          |      |   |  |   |     |   |  |   | 21     |  
|Current income tax benefit    |  |                                          |  |              |      |        |                 |        |   | 26                                           |   |  |                          |      |   |  |   |     |   |  |   | 26     |  
|                              |  |                                           |  |              |       |        |                  |        |   |                                              |   |  |                          |       |   |  |   |      |   |  |   |        |  
|Balance at December 31, 2005  |  | 5,000                                     |  | $            | 4,819 |        | 3,131,380        |        | $ | 11,392                                       |   |  | $                        | 7,429 |   |  | $ | (547 | ) |  | $ | 23,093 |  
|                              |  |                                           |  |              |       |        |                  |        |   |                                              |   |  |                          |       |   |  |   |      |   |  |   |        |  

See accompanying notes to consolidated financial statements.



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CONSOLIDATED STATEMENTS OF CASH FLOWS

Years Ended December 31, 2005 and 2004



|                                                                               |  |                        |         |   |      |   |          |  
|------------------------------------------------------------------------------ |  | ---------------------- | ------- | - | ---- | - | -------- | -
|                                                                               |  | 2005                   |         |   | 2004 |  
|                                                                               |  | (Amounts in thousands) |        
|Operating Activities                                                           |  |                        |         |   |      |   |          |  
|Net income                                                                     |  | $                      | 2,368   |   |      | $ | 1,942    |  
|Depreciation and amortization                                                  |  |                        | 470     |   |      |   | 565      |  
|Provision for loan losses                                                      |  |                        | 1,373   |   |      |   | 1,030    |  
|Deferred income tax benefit                                                    |  |                        | (478    | ) |      |   | (109     | )
|(Gain) loss on sale of investment securities available for sale                |  |                        | 74      |   |      |   | (70      | )
|(Gain) loss on disposal of foreclosed assets                                   |  |                        |        |   |      |   | (5       | )
|Gain on sale of loans                                                          |  |                        | (1,086  | ) |      |   | (2,325   | )
|Origination of loans held for sale                                             |  |                        | (57,615 | ) |      |   | (118,411 | )
|Proceeds from sales of loans held for sale                                     |  |                        | 63,465  |   |      |   | 120,060  |  
|Increase in cash surrender value life insurance                                |  |                        | (254    | ) |      |   | (234     | )
|Changes in assets and liabilities:                                             |  |                        |         |   |      |   |          |  
|(Increase) decrease in other assets                                            |  |                        | 52      |   |      |   | (619     | )
|Increase in accrued expenses and other liabilities                             |  |                        | 843     |   |      |   | 588      |  
|                                                                               |  |                        |         |   |      |   |          |  
|Net cash provided by operating activities                                      |  |                        | 9,212   |   |      |   | 2,412    |  
|                                                                               |  |                        |         |   |      |   |          |  
|Investing Activities                                                           |  |                        |         |   |      |   |          |  
|Purchases of investment securities available for sale                          |  |                        | (48,187 | ) |      |   | (53,181  | )
|Maturities and calls of investment securities available for sale               |  |                        | 5,912   |   |      |   | 5,321    |  
|Sales of investment securities available for sale                              |  |                        | 18,800  |   |      |   | 19,280   |  
|Net increase in loans from originations and principal repayments               |  |                        | (62,427 | ) |      |   | (41,488  | )
|(Purchase) redemption of FHLB stock                                            |  |                        | 103     |   |      |   | (467     | )
|Purchases of premises and equipment                                            |  |                        | (2,331  | ) |      |   | (253     | )
|Acquisition of real estate                                                     |  |                        | (1,124  | ) |      |   |         |  
|Proceeds from sale of foreclosed assets                                        |  |                        | 353     |   |      |   | 5        |  
|                                                                               |  |                        |         |   |      |   |          |  
|Net cash used by investing activities                                          |  |                        | (88,901 | ) |      |   | (70,783  | )
|                                                                               |  |                        |         |   |      |   |          |  
|Financing Activities                                                           |  |                        |         |   |      |   |          |  
|Net increase in deposits                                                       |  |                        | 83,471  |   |      |   | 64,809   |  
|Net decrease in short-term borrowings                                          |  |                        | (5,500  | ) |      |   | (3,000   | )
|Proceeds from long-term debt                                                   |  |                        |        |   |      |   | 8,000    |  
|Issuance of non-cumulative perpetual preferred stock                           |  |                        | 4,819   |   |      |   |         |  
|Non-cumulative perpetual preferred stock dividends paid                        |  |                        | (104    | ) |      |   |         |  
|Purchase of fractional shares                                                  |  |                        | (13     | ) |      |   |         |  
|Proceeds from stock options exercised                                          |  |                        | 21      |   |      |   | 110      |  
|                                                                               |  |                        |         |   |      |   |          |  
|Net cash provided by financing activities                                      |  |                        | 82,694  |   |      |   | 69,919   |  
|                                                                               |  |                        |         |   |      |   |          |  
|Net increase in cash and cash equivalents                                      |  |                        | 3,005   |   |      |   | 1,548    |  
|Cash and cash equivalents, beginning of year                                   |  |                        | 10,093  |   |      |   | 8,545    |  
|                                                                               |  |                        |         |   |      |   |          |  
|Cash and cash equivalents, end of year                                         |  | $                      | 13,098  |   |      | $ | 10,093   |  
|                                                                               |  |                        |         |   |      |   |          |  
|Supplemental Cash Flow Disclosure                                              |  |                        |         |   |      |   |          |  
|Interest paid on deposits and borrowed funds                                   |  | $                      | 7,742   |   |      | $ | 4,468    |  
|Income taxes paid                                                              |  |                        | 1,467   |   |      |   | 1,114    |  
|Summary of Noncash Investing and Financing Activities                          |  |                        |         |   |      |   |          |  
|Transfer from loans to foreclosed assets                                       |  |                        |        |   |      |   | 2,031    |  
|Unrealized loss on investment securities available for sale, net of tax effect |  |                        | (506    | ) |      |   | (177     | )
|Unrealized gain on cash flow hedging activities, net of tax                    |  |                        | 58      |   |      |   | 57       |  
|Deconsolidation of grantor trusts                                              |  |                        |        |   |      |   | 264      |  

See accompanying notes to consolidated financial statements.



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 31, 2005 and 2004

Note A - Organization and Operations

In April 2002, the shareholders of MidCarolina Bank (the Bank) approved an Agreement and Plan of Reorganization pursuant to which the Bank became a wholly owned banking subsidiary of MidCarolina Financial
Corporation (the Company), a North Carolina corporation formed as a holding company for the Bank. At the closing of the holding company reorganization, one share of MidCarolina Financial Corporations no par value common stock was
exchanged for each of the outstanding shares of MidCarolina Banks common stock.

MidCarolina Bank (the Bank) was incorporated and began
operations on August 14, 1997. The Bank is engaged in general commercial banking primarily in Alamance and Guilford Counties, North Carolina, and operates under the banking laws of North Carolina and the Rules and Regulations of the Federal
Deposit Insurance Corporation. The Bank undergoes periodic examinations by those regulatory authorities.

Note B - Summary of Significant Accounting
Policies

The consolidated financial statements include the accounts and transactions of MidCarolina Financial Corporation, and its wholly owned
subsidiary MidCarolina Bank and its wholly owned subsidiary, MidCarolina Investment Corporation which, through an unaffiliated broker-dealer, provides customers of the Bank with securities products and services and earns revenues through sharing of
commissions. The Company wholly owns the capital trusts used to issue trust preferred securities. The trusts are not consolidated as a part of these financial statements. All intercompany transactions and balances have been eliminated in
consolidation. MidCarolina Financial Corporation and its subsidiary are collectively referred to herein as the Company.

Use of Estimates

Preparing consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change relate to the determination of the allowance for loan losses.

Cash and Cash Equivalents

For the purpose of presentation in the
consolidated statements of cash flows, cash and cash equivalents include cash and due from banks, federal funds sold and interest-earning deposits.

Investment Securities

Investment securities that the Company has the positive intent and ability to hold to maturity are classified as held
to maturity and reported at amortized cost. Investment securities held for current resale are classified as trading securities and reported at fair value, with unrealized gains and losses included in earnings. The Company currently has no such
securities. Investment securities not classified either as securities held to maturity or trading securities are classified as available for sale and reported at fair value, with net unrealized gains and losses net of related taxes excluded from
earnings and reported as accumulated other comprehensive income in shareholders equity. The classification of investment securities as held to maturity, trading or available for sale is determined at the date of purchase. Realized gains and
losses from sales of investment securities are determined based upon the specific identification method. Premiums and discounts are recognized in interest income using the interest method over the terms of the securities.

Loans and Interest Income

Loans are carried at their principal
amount outstanding. Interest income is recorded as earned on an accrual basis. The Company discontinues the recognition of interest income when, in the opinion of management, collection of such interest is doubtful. It is the general policy of the
Company to discontinue the accrual of interest on loans, including loans impaired under Statement of Financial Accounting Standards (SFAS) No. 114, Accounting by Creditors for Impairment of a Loan, when principal or interest payments are
contractually delinquent 90 to 120 days or more. Any unpaid amounts previously accrued on these loans are reversed from income, and thereafter interest is recognized only to the extent payments are received.



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##### Table of Contents

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

December 31, 2005 and 2004

Loans Held for Sale

The Company originates single family, residential first mortgage loans on a presold basis. Loans held for sale are
carried at the lower of cost or fair value in the aggregate as determined by outstanding commitments from investors. At closing, these loans, together with their servicing rights, are sold to other financial institutions under prearranged terms. The
Company recognizes certain origination and servicing release fees upon the sale which are classified as mortgage operations on the consolidated statements of operations.

Allowance for Loan Losses

The allowance for loan losses is established through a provision for loan losses charged
to expense. Loans are charged-off against the allowance when management believes that the collectibility of principal is unlikely. Recoveries of amounts previously charged-off are credited to the allowance.

The allowance for loan losses relating to loans that are determined to be impaired under SFAS No. 114 is based on discounted cash flows using the loans
initial effective interest rate or the fair value of the collateral for certain collateral dependent loans. Large groups of smaller balance homogeneous loans that are collectively evaluated for impairment (such as residential mortgage and consumer
installment loans) are excluded from impairment evaluation, and their allowance for loan losses is calculated in accordance with the allowance for loan losses policy described below.

The provision for loan losses charged to operating expense is based on factors which, in managements judgment, deserve current recognition in estimating probable loan losses. Such factors considered by
management include growth and composition of the loan portfolio, the relationship of the allowance for loan losses to outstanding loans and economic conditions. While management uses the best information available to make evaluations, this
evaluation is inherently subjective as it requires material estimates, including the amounts and timing of future cash flows expected to be received on impaired loans, that may be susceptible to significant change.

In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Companys allowance for loan losses. Such
agencies may require the Company to recognize adjustments to the allowance based on their judgments of information available to them at the time of their examination.

Premises and Equipment

Land is carried at cost. Premises and equipment are stated at cost less accumulated
depreciation. Depreciation and amortization is calculated on the straight-line method over the estimated useful lives of the respective assets as follows:



|                        |  |              
|----------------------- |  | -------------
|Buildings               |  | 15 - 40 years
|Leasehold improvements  |  | 15 years     
|Furniture and equipment |  | 3 -10 years  

Foreclosed Assets

Assets acquired through, or in lieu of, loan foreclosure are held for sale and are initially recorded at fair value at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed
by management and the assets are carried at the lower of carrying amount or fair value less cost to sell. Revenue and expenses from operations and changes in the valuation allowance are included in other noninterest expense.



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NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

December 31, 2005 and 2004

Stock in Federal Home Loan Bank of Atlanta

As a requirement for membership, the Company invests in stock of the
Federal Home Loan Bank of Atlanta (FHLB). This investment is carried at cost. Due to the redemption provisions of the FHLB, the Company estimated that fair value equals cost and that this investment was not impaired at December 31,
2005.

Income Taxes

Deferred income taxes are
recognized for the tax consequences of temporary differences between financial statement carrying amounts and the tax bases of existing assets and liabilities that will result in taxable or deductible amounts in future years. These temporary
differences are multiplied by the enacted income tax rate expected to be in effect when the taxes become payable or receivable. The effect on deferred taxes of a change in tax rates is recognized in income in the period that includes the enactment
date. Deferred tax assets are reduced, if necessary, by the amount of such benefits that are not expected to be realized based on available evidence.

Comprehensive Income

Comprehensive income is defined as the change in equity during a period for non-owner transactions and is composed of
net income and other comprehensive income. Other comprehensive income includes revenues, expenses, gains and losses that are excluded from earnings under current accounting standards. As of and for the years presented, the components of other
comprehensive income for the Company consisted of the unrealized gains and losses, net of taxes, in the Companys available for sale securities portfolio and unrealized gains and losses, net of taxes, for the Companys cash flow hedging
activities.

Accumulated other comprehensive income (loss) at December 31, 2005 and 2004 consists of the following:



|                                                             |  |                        |        |   |      |   |      |  
|------------------------------------------------------------ |  | ---------------------- | ------ | - | ---- | - | ---- | -
|                                                             |  | 2005                   |        |   | 2004 |  
|                                                             |  | (Amounts in thousands) |       
|Unrealized holding losses - securities available for sale    |  | $                      | (1,011 | ) |      | $ | (179 | )
|Deferred income taxes                                        |  |                        | 390    |   |      |   | 64   |  
|                                                             |  |                        |        |   |      |   |      |  
|Net unrealized holding gains - securities available for sale |  |                        | (621   | ) |      |   | (115 | )
|                                                             |  |                        |        |   |      |   |      |  
|Unrealized holding gains - cash flow hedging activities      |  | $                      | 120    |   |      | $ | 25   |  
|Deferred income taxes                                        |  |                        | (46    | ) |      |   | (9   | )
|                                                             |  |                        |        |   |      |   |      |  
|Net unrealized holding gains - cash flow hedging activities  |  |                        | 74     |   |      |   | 16   |  
|                                                             |  |                        |        |   |      |   |      |  
|Total other accumulated other comprehensive income (loss)    |  | $                      | (547   | ) |      | $ | (99  | )
|                                                             |  |                        |        |   |      |   |      |  

Stock Options

Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation, encourages but does not require that companies record compensation cost for stock-based employee compensation plans at fair
value. The Company has chosen to account for stock-based compensation plans using the intrinsic value method prescribed in Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees. Under the
intrinsic value based method, compensation cost is the excess, if any, of the quoted market price of the stock at grant date or other measurement date over the amount an employee must pay to acquire the stock. All of the Companys stock options
have no intrinsic value at grant date and, consequently, no compensation cost is recognized for them.

An employer that continues to apply the intrinsic
value accounting method rather than the fair value based method must disclose certain pro forma information. Under the fair value based method, compensation cost is measured at the grant date of the option based on the value of the award and
is recognized over the service period, which is usually the vesting period. As required by SFAS No. 123, disclosures are presented below for the effect on the net income and net income per share for the years ended December 31, 2005 and
2004 that would result from the use of



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the fair value based method to measure compensation cost related to stock option grants. The effects of applying the
provisions of SFAS No. 123 are not necessarily indicative of future effects.



|                                                                                                                                        |  |                                              |        |   |      |   |       |  
|--------------------------------------------------------------------------------------------------------------------------------------- |  | -------------------------------------------- | ------ | - | ---- | - | ----- | -
|                                                                                                                                        |  | 2005                                         |        |   | 2004 |  
|                                                                                                                                        |  | (Amounts in thousands,except per share data) |       
|Net income:                                                                                                                             |  |                                              |        |   |      |   |       |  
|As reported                                                                                                                             |  | $                                            | 2,368  |   |      | $ | 1,942 |  
|Less preferred dividends                                                                                                                |  |                                              | (104   | ) |      |   |      |  
|                                                                                                                                        |  |                                              |        |   |      |   |       |  
|Net income available to common shareholders                                                                                             |  |                                              | 2,264  |   |      |   | 1,942 |  
|Stock-based compensation                                                                                                                |  |                                              |        |   |      |   |       |  
|Deduct: Total stock-based employee compensation expenses determined under fair value method for all amounts, net of related tax
effects |  |                                              | (1,030 | ) |      |   | (51   | )
|                                                                                                                                        |  |                                              |        |   |      |   |       |  
|Pro forma                                                                                                                               |  | $                                            | 1,234  |   |      | $ | 1,890 |  
|                                                                                                                                        |  |                                              |        |   |      |   |       |  
|Basic net income per share:                                                                                                             |  |                                              |        |   |      |   |       |  
|As reported                                                                                                                             |  | $                                            | .72    |   |      | $ | .62   |  
|Pro forma                                                                                                                               |  |                                              | .39    |   |      |   | .61   |  
|                                                                                                                                        |  |                                             
|Diluted net income per share:                                                                                                           |  |                                              |        |   |      |   |       |  
|As reported                                                                                                                             |  | $                                            | .67    |   |      | $ | .58   |  
|Pro forma                                                                                                                               |  |                                              | .36    |   |      |   | .56   |  

Net Income Per Share

Basic and diluted net income per share has been computed based on the weighted average number of shares outstanding during each period after retroactively adjusting for a 5-for -4 stock split effected in the form of a 25% stock dividend
declared on October 13, 2005 and distributed on November 15, 2005, a 6-for-5 stock split effected in the form of a 20% stock dividend declared on November 23, 2004 and distributed on January 14, 2005. Diluted net income per share
reflect additional common shares that would have been outstanding if dilutive potential common shares had been issued, as well as any adjustment to income that would result from the assumed issuance. At December 31, 2005 and 2004, there were no
antidilutive options.

Basic and diluted net income per share have been computed based upon net income as presented in the accompanying consolidated
statements of operations divided by the weighted average number of common shares outstanding or assumed to be outstanding as summarized below:



|                                                                                                                             |  |           |  |          
|---------------------------------------------------------------------------------------------------------------------------- |  | --------- |  | ---------
|                                                                                                                             |  | 2005      |  | 2004     
|Weighted average number of common shares used in computing basic net income per share                                        |  | 3,126,925 |  | 3,119,564
|                                                                                                                             |  |          
|Effect of dilutive stock options                                                                                             |  | 269,148   |  | 241,719  
|                                                                                                                             |  |           |  |          
|Weighted average number of common shares and dilutive potential common shares used in computing diluted net income per share |  | 3,396,073 |  | 3,361,283
|                                                                                                                             |  |           |  |          



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NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

December 31, 2005 and 2004

Segment Reporting

SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information,
requires management to report selected financial and descriptive information about reportable operating segments. It also establishes standards for related disclosures about products and services, geographic areas and major customers. Generally,
disclosures are required for segments internally identified to evaluate performance and resource allocation. In all material respects, the Companys operations are entirely within the commercial banking segment, and the consolidated financial
statements presented herein reflect the results of that segment. Also, the Company has no foreign operations or customers.

Derivative Instruments

The Company utilizes interest rate swaps in the management of interest rate risk. Interest rate swaps are contractual agreements between two parties to
exchange a series of cash flows representing interest payments. A swap allows both parties to alter the repricing characteristics of assets or liabilities without affecting the underlying principal positions. Through the use of a swap, assets and
liabilities may be transformed from fixed to floating rates, from floating rates to fixed rates or from one type of floating rate to another. Swap terms generally range from one year to ten years depending on the need.

The net interest payable or receivable on interest rate swaps that are designated as hedges is accrued and recognized as an adjustment to the interest income or expense
of the related asset or liability. Gains and losses from early terminations of derivatives are deferred and amortized as yield adjustments over the shorter of the remaining term of the hedged asset or liability or the remaining term of the
derivative instrument. Upon disposition or settlement of the asset or liability being hedged, deferral accounting is discontinued and any gains or losses are recognized in income. Unrealized holding gains and losses on derivatives designated as
hedges are reported, net of applicable income tax effect, in accumulated other comprehensive income.

Derivative financial instruments that fail to qualify
as a hedge are carried at fair value with gains and losses recognized in current earnings.

Recent Accounting Pronouncements

In November 2003, the Emerging Issues Task Force (EITF) issued EITF Issue No. 03-01, The Meaning of Other-Than-Temporary Impairment and Its
Application to Certain Investments (EITF 03- 01). EITF 03-01 provided guidance for evaluating whether an investment is other-than-temporarily impaired and requires certain disclosures with respect to these investments. In
September 2004, the Financial Accounting Standards Board (FASB) issued a FASB Staff Position (FSP EITF 03-1-b) to delay the requirement to record impairment losses EITF 03-1. The guidance also included accounting
considerations subsequent to the recognition of an other-than-temporary impairment and requirements for disclosures about unrealized losses that have not been recognized as other-than-temporary impairments. In November 2005, the FASB issued FSP
FAS 115-1 and FAS 124-1, which addresses the determination as to when an investment is considered impaired. This FSP nullifies certain requirements of EITF 03-01 and supersedes EITF Topic No. D-44, Recognition of Other-Than-Temporary
Impairment upon the Planned Sale of a Security Whose Cost Exceeds Fair Value. This FSP is to be applied to reporting periods beginning after December 15. 2005. The Company is in process of evaluating the impact of this FSP.

In December 2004, the Financial Accounting Standards Board (FASB) issued SFAS No. 123(r), Share-Based Payments, which is a revision of SFAS
No. 123 Accounting for Stock-Based Compensation and supersedes Accounting Principles Board (APB) Opinion No. 25 Accounting for Stock Issued to Employees. SFAS No. 123(r) requires companies to recognize in the
income statement the grant-date fair value of stock options and other equity-based compensation issued to employees over the period during which an employee is required to provide service in exchange for the award, which will often be the shorter of
the vesting period of the period the employee will be retirement eligible. SFAS No. 123(r) sets accounting requirements for share-based compensation to employees, including employee-stock purchase plans (ESPPs). Awards
to most nonemployee directors will be accounted for as employee awards. This Statement was to be effective for public companies that do not file as small business issuers as of the beginning of interim or annual reporting periods beginning after
June 15, 2005. In April 2005, the Securities and Exchange Commission (SEC) issued Release No. 2005-57, which defers the effective date of SFAS



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 31, 2005 and 2004

No. 123(r) for many registrants. Registrants that do not file as small business users must adopt SFAS No. 123(r) as of the beginning of their first annual period beginning after June 15, 2005. Accordingly, the Company will
adopt SFAS No. 123(r) on January 1, 2006, and is currently evaluating the effect on its consolidated financial statements.

In March 2005,
the SEC issued Staff Accounting Bulletin No. 107 (SAB 107), which contains guidance on applying the requirements in SFAS No. 123(r). SAB 107 provides guidance on valuation techniques, development of assumptions used in valuing
employee share options and related MD&A disclosures. SAB 107 is effective for the period in which SFAS No. 123(r) is adopted. The Company will adopt SAB 107 on January 1, 2006, and is currently evaluating the effect on its consolidated
financial statements.

In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections, which replaces APB Opinion
No. 20 Accounting Changes and SFAS No. 3 Reporting Accounting Changes in Interim Financial Statements. SFAS No. 154 changes the requirements for the accounting for and reporting of a change in an accounting principle.
SFAS No. 154 requires retrospective application for voluntary changes in an accounting principle unless it is impracticable to do so. SFAS No. 154 is effective for accounting changes made in fiscal years beginning after December 15,
2005. The Company will adopt SFAS No. 154 on January 1, 2006 with no expected material effect on its consolidated financial statements.

From
time to time the FASB issues exposure drafts for proposed statements of financial accounting standards. Such exposure drafts are subject to comment from the public, to revisions by the FASB and to final issuance by the FASB as statements of
financial accounting standards. Management considers the effect of the proposed statements on the consolidated financial statements of the Company and monitors the status of changes to and proposed effective dates of exposure drafts.

Reclassification

Certain amounts in the 2004 consolidated financial
statements have been reclassified to conform with the 2005 presentation. The reclassifications had no effect on net income or shareholders equity as previously reported.

Note C - Investment Securities

The following is a summary of investment securities
by major classification at December 31, 2005 and 2004:



|                               |  |                        |        |                      |   |                       |  |           |       |  |   |       
|------------------------------ |  | ---------------------- | ------ | -------------------- | - | --------------------- |  | --------- | ----- |  | - | ------
|                               |  | December 31, 2005     
|                               |  | Amortizedcost          |        | Grossunrealizedgains |   | Grossunrealizedlosses |  | Fairvalue
|                               |  | (Amounts in thousands)
|Securities available for sale: |  |                        |        |                      |   |                       |  |           |       |  |   |       
|U.S. agency securities         |  | $                      | 15,999 |                      | $ | 7                     |  | $         | 316   |  | $ | 15,690
|Mortgage-backed securities     |  |                        | 23,546 |                      |   |                      |  |           | 699   |  |   | 22,847
|State and municipal            |  |                        | 19,714 |                      |   | 77                    |  |           | 79    |  |   | 19,712
|Other                          |  |                        | 124    |                      |   |                      |  |           |      |  |   | 124   
|                               |  |                        |        |                      |   |                       |  |           |       |  |   |       
|Total                          |  | $                      | 59,383 |                      | $ | 84                    |  | $         | 1,094 |  | $ | 58,373
|                               |  |                        |        |                      |   |                       |  |           |       |  |   |       
|Securities held to maturity:   |  |                        |        |                      |   |                       |  |           |       |  |   |       
|Other                          |  | $                      | 250    |                      | $ |                      |  | $         |      |  | $ | 250   
|                               |  |                        |        |                      |   |                       |  |           |       |  |   |       



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NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

December 31, 2005 and 2004



|                               |  |                        |        |                      |   |                       |  |           |     |  |   |       
|------------------------------ |  | ---------------------- | ------ | -------------------- | - | --------------------- |  | --------- | --- |  | - | ------
|                               |  | December 31, 2004     
|                               |  | Amortizedcost          |        | Grossunrealizedgains |   | Grossunrealizedlosses |  | Fairvalue
|                               |  | (Amounts in thousands)
|Securities available for sale: |  |                        |        |                      |   |                       |  |           |     |  |   |       
|U.S. agency securities         |  | $                      | 2,499  |                      | $ |                      |  | $         | 15  |  | $ | 2,484 
|Mortgage-backed securities     |  |                        | 26,063 |                      |   | 5                     |  |           | 168 |  |   | 25,900
|State and municipal            |  |                        | 7,405  |                      |   | 29                    |  |           | 30  |  |   | 7,404 
|Other                          |  |                        | 124    |                      |   |                      |  |           |    |  |   | 124   
|                               |  |                        |        |                      |   |                       |  |           |     |  |   |       
|Total                          |  | $                      | 36,091 |                      | $ | 34                    |  | $         | 213 |  | $ | 35,912
|                               |  |                        |        |                      |   |                       |  |           |     |  |   |       
|Securities held to maturity:   |  |                        |        |                      |   |                       |  |           |     |  |   |       
|Other                          |  | $                      | 250    |                      | $ |                      |  | $         |    |  | $ | 250   
|                               |  |                        |        |                      |   |                       |  |           |     |  |   |       

The following tables show investments gross unrealized losses and fair value, aggregated by investment
category and length of time that the individual securities have been in a continuous unrealized loss position, at December 31, 2005 and 2004. All unrealized losses on investment securities are considered by management to be temporarily impaired
given the credit ratings on these investment securities and the short duration of the unrealized loss.



|                                      |  |                             |        |                   |   |           |  |                  |        |           |   |                  |  |   |        |  |   |      
|------------------------------------- |  | --------------------------- | ------ | ----------------- | - | --------- |  | ---------------- | ------ | --------- | - | ---------------- |  | - | ------ |  | - | -----
|                                      |  | 2005 (Amounts in thousands)
|                                      |  | Less Than 12 Months         |        | 12 Months or More |   | Total    
|                                      |  | Fairvalue                   |        | Unrealizedlosses  |   | Fairvalue |  | Unrealizedlosses |        | Fairvalue |   | Unrealizedlosses
|Securities available for sale:        |  |                             |        |                   |   |           |  |                  |        |           |   |                  |  |   |        |  |   |      
|U.S. agency securities                |  | $                           | 11,518 |                   | $ | 286       |  | $                | 970    |           | $ | 30               |  | $ | 12,488 |  | $ | 316  
|Mortgage-backed securities            |  |                             | 11,864 |                   |   | 326       |  |                  | 10,963 |           |   | 373              |  |   | 22,827 |  |   | 699  
|State and municipal                   |  |                             | 8,032  |                   |   | 79        |  |                  |       |           |   |                 |  |   | 8,032  |  |   | 79   
|                                      |  |                             |        |                   |   |           |  |                  |        |           |   |                  |  |   |        |  |   |      
|Total temporarily impaired securities |  | $                           | 31,414 |                   | $ | 691       |  | $                | 11,933 |           | $ | 403              |  | $ | 43,347 |  | $ | 1,094
|                                      |  |                             |        |                   |   |           |  |                  |        |           |   |                  |  |   |        |  |   |      
|                                      | 
|                                      |  | 2004 (Amounts in thousands)
|                                      |  | Less Than 12 Months         |        | 12 Months or More |   | Total    
|                                      |  | Fairvalue                   |        | Unrealizedlosses  |   | Fairvalue |  | Unrealizedlosses |        | Fairvalue |   | Unrealizedlosses
|Securities available for sale:        |  |                             |        |                   |   |           |  |                  |        |           |   |                  |  |   |        |  |   |      
|U.S. agency securities                |  | $                           | 2,484  |                   | $ | 15        |  | $                |       |           | $ |                 |  | $ | 2,484  |  | $ | 15   
|Mortgage-backed securities            |  |                             | 18,923 |                   |   | 168       |  |                  |       |           |   |                 |  |   | 18,923 |  |   | 168  
|State and municipal                   |  |                             | 2,085  |                   |   | 18        |  |                  | 618    |           |   | 12               |  |   | 2,703  |  |   | 30   
|                                      |  |                             |        |                   |   |           |  |                  |        |           |   |                  |  |   |        |  |   |      
|Total temporarily impaired securities |  | $                           | 23,492 |                   | $ | 201       |  | $                | 618    |           | $ | 12               |  | $ | 24,110 |  | $ | 213  
|                                      |  |                             |        |                   |   |           |  |                  |        |           |   |                  |  |   |        |  |   |      

The aggregate amortized cost and fair value of debt securities at December 31, 2005, by remaining contractual
maturity, are shown below. Actual expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations.



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 31, 2005 and 2004



|                                   |  |                        |        |                  |   |               |  |           |     |  |   |    
|---------------------------------- |  | ---------------------- | ------ | ---------------- | - | ------------- |  | --------- | --- |  | - | ---
|                                   |  | Available for Sale     |        | Held to Maturity
|                                   |  | Amortizedcost          |        | Fairvalue        |   | Amortizedcost |  | Fairvalue
|                                   |  | (Amounts in thousands)
|U.S. agency securities:            |  |                        |        |                  |   |               |  |           |     |  |   |    
|Due in 1 year through 5 years      |  | $                      | 3,291  |                  | $ | 3,237         |  | $         |    |  | $ |   
|Due after 5 years through 10 years |  |                        | 12,688 |                  |   | 12,453        |  |           |    |  |   |   
|State and municipal securities:    |  |                        |        |                  |   |               |  |           |     |  |   |    
|Due in 1 year through 5 years      |  |                        | 2,479  |                  |   | 2,483         |  |           |    |  |   |   
|Due after 5 years through 10 years |  |                        | 5,437  |                  |   | 5,398         |  |           |    |  |   |   
|Due after 10 years                 |  |                        | 11,798 |                  |   | 11,831        |  |           |    |  |   |   
|Other:                             |  |                        |        |                  |   |               |  |           |     |  |   |    
|Due after 10 years                 |  |                        | 124    |                  |   | 124           |  |           | 250 |  |   | 250
|Mortgage-backed securities         |  |                        | 23,546 |                  |   | 22,847        |  |           |    |  |   |   
|                                   |  |                        |        |                  |   |               |  |           |     |  |   |    
|Total                              |  | $                      | 59,363 |                  | $ | 58,373        |  | $         | 250 |  | $ | 250
|                                   |  |                        |        |                  |   |               |  |           |     |  |   |    

Proceeds from sales of investment securities available for sale amounted to $18.8 million and $19.3 million for
the years ended December 31, 2005 and 2004, respectively. Gross realized gains (losses) from the sales of investment securities available for sale amounted to ($74,000) and $70,000 for the years ended December 31, 2005 and 2004,
respectively.

Investment securities with amortized cost of $8.4 million and fair value of $8.4 million at December 31, 2005 were pledged to secure
both financing from the Federal Home Loan Bank and for public monies on deposit as required by law.

Note D - Loans

Following is a summary of loans at December 31, 2005 and 2004:



|                                                                           |  |                        |         |      |   |        
|-------------------------------------------------------------------------- |  | ---------------------- | ------- | ---- | - | -------
|                                                                           |  | 2005                   |         | 2004
|                                                                           |  | (Amounts in thousands)
|Real estate:                                                               |  |                        |         |      |   |        
|Construction loans                                                         |  | $                      | 67,170  |      | $ | 27,715 
|Commercial mortgage loans                                                  |  |                        | 100,292 |      |   | 88,220 
|Home equity lines of credit                                                |  |                        | 30,072  |      |   | 34,715 
|Residential mortgage loans                                                 |  |                        | 38,656  |      |   | 28,630 
|                                                                           |  |                        |         |      |   |        
|Total real estate loans                                                    |  |                        | 236,190 |      |   | 179,280
|                                                                           |  |                       
|Commercial and industrial loans                                            |  |                        | 38,929  |      |   | 30,464 
|Loans to individuals for household, family and other personal expenditures |  |                        | 4,836   |      |   | 7,911  
|Net deferred loan origination costs                                        |  |                        | 7       |      |   | 28     
|                                                                           |  |                        |         |      |   |        
|Total loans                                                                |  | $                      | 279,962 |      | $ | 217,683
|                                                                           |  |                        |         |      |   |        

At December 31, 2005 and 2004, the recorded investment in loans considered impaired in accordance with SFAS
No. 114 totaled $237,000 and $254,000, respectively, consisting of nonaccrual loans. The corresponding valuation allowances were $79,000 and $28,000, respectively. For the years ended December 31, 2005 and 2004, the average recorded
investment in impaired loans was approximately $188,000 and $834,000, respectively. The amount of interest recognized on impaired loans during the portion of the year that they were impaired was not material.

The Companys lending is concentrated primarily in Alamance County and the surrounding communities in which it operates. The Company had loan and deposit
relationships with most of its directors and executive officers and with



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NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

December 31, 2005 and 2004

companies with which certain directors and executive officers are associated. The following is a reconciliation of loans directly outstanding to executive officers, directors and their affiliates (amounts in
thousands):



|                             |  |   |        |  
|---------------------------- |  | - | ------ | -
|Balance at December 31, 2004 |  | $ | 2,180  |  
|New loans                    |  |   | 2,995  |  
|Principal repayments         |  |   | (1,688 | )
|                             |  |   |        |  
|Balance at December 31, 2005 |  | $ | 3,487  |  
|                             |  |   |        |  

As a matter of policy, these loans and credit lines are approved by the Board of Directors and are made with
interest rates, terms, and collateral requirements comparable to those required of other borrowers. In the opinion of management, these loans do not involve more than the normal risk of collectibility.

Note E - Allowance for Loan Losses

An analysis of activity in the allowance for loan losses for the years ended December 31, 2005 and 2004 follows:



|                             |  |                        |       |   |      |   |       |  
|---------------------------- |  | ---------------------- | ----- | - | ---- | - | ----- | -
|                             |  | 2005                   |       |   | 2004 |  
|                             |  | (Amounts in thousands) |      
|Balance at beginning of year |  | $                      | 2,865 |   |      | $ | 2,522 |  
|Provision for loan losses    |  |                        | 1,373 |   |      |   | 1,030 |  
|                             |  |                       
|Charge-offs                  |  |                        | (181  | ) |      |   | (754  | )
|Recoveries                   |  |                        | 33    |   |      |   | 67    |  
|                             |  |                        |       |   |      |   |       |  
|Net charge-offs              |  |                        | (148  | ) |      |   | (687  | )
|                             |  |                        |       |   |      |   |       |  
|Balance at end of year       |  | $                      | 4,090 |   |      | $ | 2,865 |  
|                             |  |                        |       |   |      |   |       |  

Note F - Premises and Equipment

The following is a summary of premises and equipment:



|                                     |  |                        |        |   |      |   |        |  
|------------------------------------ |  | ---------------------- | ------ | - | ---- | - | ------ | -
|                                     |  | 2005                   |        |   | 2004 |  
|                                     |  | (Amounts in thousands) |       
|Land                                 |  | $                      | 1,081  |   |      | $ | 1,081  |  
|Buildings and leasehold improvements |  |                        | 4,952  |   |      |   | 3,005  |  
|Furniture and equipment              |  |                        | 2,045  |   |      |   | 2,197  |  
|                                     |  |                        |        |   |      |   |        |  
|                                     |  |                        | 8,078  |   |      |   | 6,283  |  
|                                     |  |                       
|Less accumulated depreciation        |  |                        | (1,963 | ) |      |   | (2,144 | )
|                                     |  |                        |        |   |      |   |        |  
|Total                                |  | $                      | 6,115  |   |      | $ | 4,139  |  
|                                     |  |                        |        |   |      |   |        |  

Depreciation expense for the years ended December 31, 2005 and 2004 amounted to approximately $355,000 and
$360,000, respectively.



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 31, 2005 and 2004

Note G - Time Deposits

Time deposits in denominations of $100,000 or more were $137.9 million and $67.0 million at December 31, 2005 and 2004, respectively. Interest
expense on such deposits aggregated approximately $3.7 million and $919,000 in 2005 and 2004, respectively. Time deposits maturing subsequent to December 31, 2005 are as follows (amounts in thousands):



|     |  |   |        
|---- |  | - | -------
|2006 |  | $ | 158,469
|2007 |  |   | 38,543 
|2008 |  |   | 958    
|2009 |  |   | 112    
|2010 |  |   | 50     
|     |  |   |        
|     |  | $ | 198,132
|     |  |   |        

Note H - Leases

As of December 31, 2005, the Company leases office space under non-cancelable operating leases. Future minimum lease payments required under the leases are as follows (amounts in thousands):



|                         |  |   |    
|------------------------ |  | - | ---
|Year Ending December 31, |  |   |    
|2006                     |  | $ | 96 
|2007                     |  |   | 90 
|2008                     |  |   | 90 
|2009                     |  |   | 51 
|                         |  |   |    
|                         |  | $ | 327
|                         |  |   |    

The leases contain options for renewals after the expiration of the current lease terms. The cost of such rentals
is not included above. Total rent expense for the years ended December 31, 2005 and 2004 amounted to $115,000 and $91,000, respectively.

Note I -
Borrowings

Short-term borrowings

The Company has
credit availability totaling approximately $13.5 million from the FHLB, with $10.0 million outstanding with a daily rate of interest of 4.44% at December 31, 2005. This has been classified as short-term borrowings in the balance sheet.
Borrowings must be adequately collateralized. At December 31, 2004, the outstanding short-term borrowings amounted to $15.5 million.

Long-term
debt

The Company is a member of the Federal Home Loan Bank of Atlanta (FHLB). As a member, the Company is required to invest in the stock of the FHLB.
The stock is carried at cost since it has no quoted fair value. All stock in the FHLB, together with various investment securities and a floating lien of $105.6 million on qualifying loans, are pledged as collateral to secure any borrowings. At
December 31, there were the following borrowings:



|                  |  |                    |   |  |                        |        |      |   |       
|----------------- |  | ------------------ | - |  | ---------------------- | ------ | ---- | - | ------
|Maturity          |  | FixedInterest Rate |   |  | 2005                   |        | 2004
|                  |  |                    |   |  | (Amounts in thousands)
|March 17, 2009    |  | 1.73               | % |  | $                      | 8,000  |      | $ | 8,000 
|March 17, 2010    |  | 5.92               | % |  |                        | 1,500  |      |   | 1,500 
|March 17, 2010    |  | 5.71               | % |  |                        | 2,500  |      |   | 2,500 
|September 4, 2012 |  | 3.56               | % |  |                        | 2,000  |      |   | 2,000 
|September 4, 2012 |  | 3.56               | % |  |                        | 2,000  |      |   | 2,000 
|March 10, 2013    |  | 2.91               | % |  |                        | 10,000 |      |   | 10,000
|                  |  |                    |   |  |                        |        |      |   |       
|                  |  |                    |   |  | $                      | 26,000 |      | $ | 26,000
|                  |  |                    |   |  |                        |        |      |   |       



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##### Table of Contents

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

December 31, 2005 and 2004

At December 31, 2005 and 2004, the weighted average interest rates on the above advances were 3.09% and 3.09%, respectively. The above borrowings have been classified as long-term debt in the balance sheet.

The Company has issued $8.8 million of junior subordinated debentures to its wholly owned capital trusts, MidCarolina I and MidCarolina Trust II, to fully
and unconditionally guarantee the preferred securities issued by the trusts. These long term obligations, which currently qualify as Tier I capital for the Company, constitute a full and unconditional guarantee by the Company of the trusts
obligations under the Capital Trust Securities. See also Note B for a detailed discussion of the January 2003 FASB Interpretation No. 46R, Consolidation of Variable Interest Entities.

A description of the Junior Subordinated debentures outstanding is as follows:



|                     |  |                 |  |                 |  |              |  |                        |       |  |   |      
|-------------------- |  | --------------- |  | --------------- |  | ------------ |  | ---------------------- | ----- |  | - | -----
|                     |  |                 |  |                 |  |              |  | (Amounts in thousands)
|Issuing Entity       |  | Date ofIssuance |  | InterestRate    |  | MaturityDate |  | Principal Amount      
|                     |  |                 |  | 2005            |  | 2004        
|MidCarolina I        |  | 10/29/2002      |  | Libor plus3.45% |  | 11/07/2032   |  | $                      | 5,155 |  | $ | 5,155
|MidCarolina Trust II |  | 12/03/2003      |  | Libor plus2.90% |  | 10/07/2033   |  |                        | 3,609 |  |   | 3,609
|                     |  |                 |  |                 |  |              |  |                        |       |  |   |      
|                     |  |                 |  |                 |  |              |  | $                      | 8,764 |  | $ | 8,764
|                     |  |                 |  |                 |  |              |  |                        |       |  |   |      

The Company is able to call the debt five years after the issuance date.

Note J - Income Taxes

The significant components of the provision for income taxes are as follows:



|                               |  |                        |       |   |      |   |       |  
|------------------------------ |  | ---------------------- | ----- | - | ---- | - | ----- | -
|                               |  | 2005                   |       |   | 2004 |  
|                               |  | (Amounts in thousands) |      
|Current tax provision:         |  |                        |       |   |      |   |       |  
|Federal                        |  | $                      | 1,421 |   |      | $ | 828   |  
|State                          |  |                        | 334   |   |      |   | 231   |  
|                               |  |                        |       |   |      |   |       |  
|                               |  |                        | 1,755 |   |      |   | 1,059 |  
|                               |  |                        |       |   |      |   |       |  
|Deferred tax provision:        |  |                        |       |   |      |   |       |  
|Federal                        |  |                        | (272  | ) |      |   | (89   | )
|State                          |  |                        | (206  | ) |      |   | (20   | )
|                               |  |                        |       |   |      |   |       |  
|                               |  |                        | (478  | ) |      |   | (109  | )
|                               |  |                        |       |   |      |   |       |  
|Net provision for income taxes |  | $                      | 1,277 |   |      | $ | 950   |  
|                               |  |                        |       |   |      |   |       |  

A reconciliation of expected income taxes at the statutory federal income tax rate of 34% with the recorded
provision for income taxes follows:



|                                                  |  |                        |       |   |      |   |      |  
|------------------------------------------------- |  | ---------------------- | ----- | - | ---- | - | ---- | -
|                                                  |  | 2005                   |       |   | 2004 |  
|                                                  |  | (Amounts in thousands) |      
|Income tax at statutory rate                      |  | $                      | 1,240 |   |      | $ | 983  |  
|                                                  |  |                       
|Increase (decrease) in income tax resulting from: |  |                        |       |   |      |   |      |  
|State income taxes, net of federal tax effect     |  |                        | 84    |   |      |   | 139  |  
|Income from bank-owned life insurance             |  |                        | (98   | ) |      |   | (91  | )
|Nontaxable interest                               |  |                        | (141  | ) |      |   | (118 | )
|Other                                             |  |                        | 192   |   |      |   | 37   |  
|                                                  |  |                        |       |   |      |   |      |  
|Provision for income taxes                        |  | $                      | 1,277 |   |      | $ | 950  |  
|                                                  |  |                        |       |   |      |   |      |  



59



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##### Table of Contents

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 31, 2005 and 2004

The tax effects of temporary
differences that give rise to significant portions of deferred tax assets (liabilities) at December 31, 2005 and 2004 are presented below:



|                                      |  |                        |       |   |      |   |       |  
|------------------------------------- |  | ---------------------- | ----- | - | ---- | - | ----- | -
|                                      |  | 2005                   |       |   | 2004 |  
|                                      |  | (Amounts in thousands) |      
|Deferred tax assets relating to:      |  |                        |       |   |      |   |       |  
|Allowance for loan losses             |  | $                      | 1,397 |   |      | $ | 930   |  
|Deferred compensation                 |  |                        | 481   |   |      |   | 328   |  
|Other                                 |  |                        | 4     |   |      |   |      |  
|Other comprehensive income            |  |                        | 343   |   |      |   | 55    |  
|                                      |  |                        |       |   |      |   |       |  
|Total deferred tax assets             |  |                        | 2,225 |   |      |   | 1,313 |  
|                                      |  |                        |       |   |      |   |       |  
|Deferred tax liabilities relating to: |  |                        |       |   |      |   |       |  
|Property and equipment                |  |                        | (117  | ) |      |   |      |  
|Deferred loan fees                    |  |                        | (128  | ) |      |   | (78   | )
|Other                                 |  |                        |      |   |      |   | (21   | )
|                                      |  |                        |       |   |      |   |       |  
|Total deferred tax liabilities        |  |                        | (245  | ) |      |   | (99   | )
|                                      |  |                        |       |   |      |   |       |  
|Net recorded deferred tax asset       |  | $                      | 1,980 |   |      | $ | 1,214 |  
|                                      |  |                        |       |   |      |   |       |  

Note K - Savings Plan

The Company maintains a contributory savings plan under Section 401(k) of the Internal Revenue Code covering all employees who have completed three months of service and are at least eighteen years of age. Under the plan, employee
contributions are matched by the Company in an amount equal to 100% of the first 6% of compensation contributed by the employee during 2005 and 75% of the first 6% of compensation during 2004. Such matching becomes fully vested when the employee
reaches five years of service according to the following schedule: 1 year, 20%; 2 years, 40%; 3 years, 60%, 4 years, 80%, 5 or more years, 100%. Total savings plan expense was $175,000 for 2005 and $119,000 for 2004.

Note L - Stock Options

The Board of Directors and shareholders have
approved an Incentive Stock Option Plan for officers and key employees. Under the provisions of the Plan, grants are made at the discretion of an administrative committee appointed by the Board of Directors at the fair value of the stock on the date
of grant. The Board reserved 300,000 shares of authorized and unissued stock for grant. Options have a vesting schedule that provides that 20% of the options granted will be vested and exercisable on the date of grant and 20% will vest and become
exercisable on each of the next four annual anniversary dates thereafter. The options are granted for a ten-year term.

During 1998, the Board of Directors
and shareholders approved a non-qualified stock option plan for certain original Directors of the Company, and 237,600 shares of authorized and unissued stock were reserved for award. At adoption, all options were granted at a split-adjusted
exercise price of $4.73 per share, the split-adjusted fair value of the stock on the date of grant. Director options vested 100% on the date of grant. The options are granted for a ten-year term.

During 1998, the Board of Directors and shareholders approved an Incentive Stock Option Plan for officers and key employees. Under the provisions of the Plan, grants are
made at the discretion of an administrative committee appointed by the Board of Directors at the fair value of the stock on the date of grant. The Board reserved 237,600 shares of authorized and unissued stock for grant. Options have a vesting
schedule that provides that 20% of the options granted will be vested and exercisable on the date of grant and 20% will vest and become exercisable on each of the next four annual anniversary dates thereafter. The options are granted for a ten-year
term.



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##### Table of Contents

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

December 31, 2005 and 2004

A summary of the Companys stock option activity and related information for the years ended December 31, 2005 and 2004 reflecting the effects of stock dividends declared, including the 25% stock dividend
distributed in November 2005, the 20% stock dividend declared in 2004 and distributed in 2005 and the 20% stock dividend declared and distributed in 2004, is as follows:



|                     |  |                                 |  |                     |   |                     |                              |       |                   |         |   |                              |   |      
|-------------------- |  | ------------------------------- |  | ------------------- | - | ------------------- | ---------------------------- | ----- | ----------------- | ------- | - | ---------------------------- | - | -----
|                     |  |                                 |  | Outstanding Options |   | Exercisable Options
|                     |  | SharesAvailablefor FutureGrants |  | NumberOutstanding   |   |                     | WeightedAverageExercisePrice |       | NumberOutstanding |         |   | WeightedAverageExercisePrice
|At December 31, 2003 |  | 11,004                          |  | 489,541             |   |                     | $                            | 4.33  |                   | 448,174 |   |                              | $ | 4.03 
|                     |  |                                 |  |                     |  
|Options granted      |  |                                |  |                    |   |                     |                              |      |                   |        |   |                              |   |     
|Options vested       |  |                                |  |                    |   |                     |                              |      |                   | 18,292  |   |                              |   | 6.68 
|Options exercised    |  |                                |  | (29,004             | ) |                     |                              | 3.79  |                   | (29,004 | ) |                              |   | 3.79 
|Options forfeited    |  |                                |  |                    |   |                     |                              |      |                   |        |   |                              |   |     
|                     |  |                                 |  |                     |   |                     |                              |       |                   |         |   |                              |   |      
|At December 31, 2004 |  | 11,004                          |  | 460,537             |   |                     |                              | 4.36  |                   | 437,462 |   |                              |   | 4.16 
|                     |  |                                 |  |                     |  
|Options granted      |  | 142,500                         |  | 157,500             |   |                     |                              | 14.07 |                   | 157,500 |   |                              |   | 14.07
|Options vested       |  |                                |  |                    |   |                     |                              |      |                   | 23,075  |   |                              |   | 8.36 
|Options exercised    |  |                                |  | (5,625              | ) |                     |                              | 3.79  |                   | (5,625  | ) |                              |   | 3.79 
|Options forfeited    |  |                                |  |                    |   |                     |                              |      |                   |        |   |                              |   |     
|                     |  |                                 |  |                     |   |                     |                              |       |                   |         |   |                              |   |      
|At December 31, 2005 |  | 153,504                         |  | 612,412             |   |                     | $                            | 6.86  |                   | 612,412 |   |                              | $ | 6.86 
|                     |  |                                 |  |                     |   |                     |                              |       |                   |         |   |                              |   |      

Additional information concerning the Companys stock options is as follows:



|                           |  |                                       |  |                                      
|-------------------------- |  | ------------------------------------- |  | -------------------------------------
|Range of Exercise Prices   |  | NumberOutstanding atDecember 31, 2005 |  | NumberExercisable atDecember 31, 2005
|$3.79  5.05               |  | 406,222                               |  | 406,222                              
|$7.32  10.69              |  | 48,690                                |  | 48,690                               
|$12.40  14.15             |  | 157,500                               |  | 157,500                              
|                           |  |                                       |  |                                      
|Outstanding at end of year |  | 612,412                               |  | 612,412                              
|                           |  |                                       |  |                                      

The weighted average remaining contractual life of those options was 4.63 years.

The estimated per share fair value of options granted together with the assumptions used in estimating these fair values, are displayed below:



|                                         |  |      |             |   |      |   |  
|---------------------------------------- |  | ---- | ----------- | - | ---- | - | -
|                                         |  | 2005 |             |   | 2004
|Estimated fair value of options granted  |  | $    | 7.51        |   |      | $ | 
|                                         |  |      |             |   |      |   |  
|Assumptions in estimating option values: |  |      |             |   |      |   |  
|Risk-free rate                           |  |      | 4.37        | % |      |   | 
|Dividend yield                           |  |      | 0           | % |      |   | 
|Volatility                               |  |      | 33.45       | % |      |   | 
|Expected life                            |  |      | 10.00 years |   |      |   | 



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##### Table of Contents

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 31, 2005 and 2004

Note M - Officers
Deferred Compensation

In 2002 the Company implemented a non-qualifying deferred compensation plan for certain key executive officers. The Company has
purchased life insurance policies on the participating officers in order to offset the cost of benefit payments. Benefits for each officer participating in the plan will accrue and vest during the period of employment, and will be paid in monthly
benefit payments over the participants life after retirement. The plan also provides for payment of disability or death benefits in the event a participating officer becomes permanently disabled or dies prior to attainment of retirement age.
Provisions of $361,000 in 2005 and $331,000 in 2004 were expensed for future benefits to be provided under this plan. The total liability under this plan was $1.2 million at December 31, 2005 and is included in accrued expenses and other
liabilities in the accompanying consolidated statements of financial condition.

Note N - Employment Agreement

The Company has entered into employment agreements with certain key officers to ensure a stable and competent management base. The agreement provides for benefits as
spelled out in the contract and cannot be terminated by the Board of Directors, except for cause, without prejudicing the officers rights to receive certain vested rights, including compensation. In the event of a change in control of the
Company, as outlined in the agreement, the acquirer will be bound to the terms of the contract.

Note O - Contingent Liabilities and Commitments

The Companys consolidated financial statements do not reflect various commitments and contingent liabilities which arise in the normal course of
business and which involve elements of credit risk, interest rate risk and liquidity risk. These commitments and contingent liabilities are commitments to extend credit, letters of credit and commitments to sell loans.

A summary of the Companys commitments and contingent liabilities at December 31, 2005 and 2004 is as follows (amounts in thousands):



|                                                                                                |  |      |        |      |   |       
|----------------------------------------------------------------------------------------------- |  | ---- | ------ | ---- | - | ------
|                                                                                                |  | 2005 |        | 2004
|Unfunded commitments to extend credit under existing equity line and commercial lines of credit |  | $    | 67,024 |      | $ | 53,691
|Commitments to sell loans held for sale                                                         |  |      | 893    |      |   | 5,657 
|Financial standby letters of credit, net                                                        |  |      | 9,570  |      |   | 1,878 

Commitments to originate new loans or extend credit and letters of credit all include exposure to some credit loss
in the event of nonperformance by the customer. The Companys credit policies and procedures for credit commitments are the same as those for extensions of credit that are recorded in the balance sheets. Because these instruments have fixed
maturity dates, and because many of them expire without being drawn upon, they do not generally present any significant liquidity risk to the Company. The Company has not incurred any losses on its commitments in both 2005 and 2004.

Commitments to sell loans held for sale are agreements to sell loans to a third party at an agreed upon price. At December 31, 2005 and 2004, the aggregate fair
value of the commitments approximated the carrying value of the loans to be sold.

Financial standby letters of credit are conditional lending commitments
issued by the Company to guarantee the performance of a customer to a third party. Those letters of credit are primarily issued to support public and private borrowing arrangements. Essentially all letters of credit issued have expiration dates
within one year. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers.



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##### Table of Contents

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

December 31, 2005 and 2004

Note P - Shareholders Equity

Regulatory Matters

As a North Carolina banking corporation, the Bank may pay cash dividends to the Company only out of undivided profits as determined pursuant to North Carolina banking
laws. However, regulatory authorities may limit payment of dividends when it is determined that such a limitation is in the public interest and is necessary to ensure a banks financial soundness.

The Bank is subject to the capital requirements of the Federal Deposit Insurance Corporation (FDIC). The FDIC requires the Bank to maintain minimum ratios of
Tier I capital to total risk-weighted assets and total capital to risk-weighted assets of 4% and 8%, respectively. To be well-capitalized, the FDIC requires ratios of Tier I capital to risk-weighted assets and total capital to
risk-weighted assets of 6% and 10%, respectively. Tier I capital consists of total shareholders equity calculated in accordance with accounting principles generally accepted in the United States of America less intangible assets, and total
capital is comprised of Tier I capital plus certain adjustments, the only one of which applicable to the Bank is the allowance for loan losses. Risk-weighted assets refer to the on- and off-balance sheet exposures of the Bank adjusted for their
relative risk levels using formulas set forth in FDIC regulations. The Bank is also subject to a FDIC leverage capital requirement, which calls for a minimum ratio of Tier I capital (as defined above) to quarterly average total assets of 4% and a
ratio of 5% to be well-capitalized.

As of December 31, 2005 and 2004, the Banks capital ratios exceeded levels deemed
well-capitalized under the regulatory framework for prompt corrective action. There are no events or conditions since the notification that management believes have changed the Banks category.



|                                                          |  |                        |        |              |                      |   |                     |      |   |                       |       |  
|--------------------------------------------------------- |  | ---------------------- | ------ | ------------ | -------------------- | - | ------------------- | ---- | - | --------------------- | ----- | -
|                                                          |  | For the Bank           |        |              | Minimum Requirements |  
|                                                          |  | CapitalAmount          |        | CapitalRatio |                      |   | For CapitalAdequacy |      |   | To Be WellCapitalized |      
|                                                          |  | (Dollars in thousands) |       
|As of December 31, 2005                                   |  |                        |        |              |                      |   |                     |      |   |                       |       |  
|Tier I capital (to risk-weighted assets)                  |  | $                      | 32,146 |              | 10.08                | % |                     | 4.00 | % |                       | 6.00  | %
|Total capital - Tier II capital (to risk-weighted assets) |  |                        | 36,142 |              | 11.33                | % |                     | 8.00 | % |                       | 10.00 | %
|Leverage - Tier I capital (to average assets)             |  |                        | 32,146 |              | 8.81                 | % |                     | 4.00 | % |                       | 5.00  | %
|                                                          |  |                        |        |             
|As of December 31, 2004                                   |  |                        |        |              |                      |   |                     |      |   |                       |       |  
|Tier I capital (to risk-weighted assets)                  |  | $                      | 24,946 |              | 9.96                 | % |                     | 4.00 | % |                       | 6.00  | %
|Total capital - Tier II capital (to risk-weighted assets) |  |                        | 27,811 |              | 11.10                | % |                     | 8.00 | % |                       | 10.00 | %
|Leverage - Tier I capital (to average assets)             |  |                        | 24,946 |              | 8.85                 | % |                     | 4.00 | % |                       | 5.00  | %

The Company is also subject to these capital requirements. At December 31, 2005, the Companys total
capital to risk-weighted assets, Tier I capital to risk-weighted assets and Tier I capital to average assets were 11.34%, 9.90% and 8.64%, respectively. At December 31, 2004, the Companys total capital to risk-weighted assets, Tier I
capital to risk-weighted assets and Tier I capital to average assets were 11.13%, 8.78% and 7.83%, respectively.



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##### Table of Contents

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 31, 2005 and 2004

Note Q - Derivatives

The following table sets forth certain information concerning the Companys interest rate swap at
December 31, 2005:



|                           |  |                        |       |  
|-------------------------- |  | ---------------------- | ----- | -
|Type                       |  | (Amounts in thousands) |      
|Receive fixed swap         |  | $                      | 5,000 |  
|Receive rate               |  |                        | 4.34  | %
|Pay rate                   |  |                        | 3.45  | %
|Fair value                 |  | $                      | 120   |  
|                           | 
|Year-to-date Activity      |  |                        |      
|Balance, December 31, 2004 |  | $                      | 5,000 |  
|Additions                  |  |                        |      |  
|Maturities/amortizations   |  |                        |      |  
|                           |  |                        |       |  
|Balance, December 31, 2005 |  | $                      | 5,000 |  
|                           |  |                        |       |  
|                           | 
|Maturity Schedule          |  |                        |      
|Two years                  |  | $                      | 5,000 |  
|                           |  |                        |       |  

The $5.0 million notional amount of derivatives used in interest rate risk management is used to hedge LIBOR-based
subordinated debt securities. The Company does not utilize derivatives for trading purposes.

Although off-balance sheet derivative financial instruments
do not expose the Company to credit risk equal to the notional amount, such agreements generate credit risk to the extent of the fair value gain in an off-balance sheet derivative financial instrument if the counterparty fails to perform. Such risk
is minimized through the creditworthiness of the counterparties and the consistent monitoring of these agreements. The counterparties to these arrangements were primarily large commercial banks and investment banks. Where appropriate, master netting
agreements are arranged or collateral is obtained in the form of rights to securities. At December 31, 2005, the Companys interest rate swap reflected an unrealized gain of $120,000.

Other risks associated with interest-sensitive derivatives include the effect on fixed rate positions during periods of changing interest rates. Indexed amortizing
swaps notional amounts and maturities change based on certain interest rates indices. Generally, as rates fall the notional amounts decline more rapidly, and as rates increase notional amounts decline more slowly. At December 31, 2005,
the Company had no indexed amortizing swaps outstanding. Under unusual circumstances, financial derivatives also increase liquidity risk, which could result from an environment of rising interest rates in which derivatives produce negative cash
flows while being offset by increased cash flows from variable rate loans. Such risk is considered insignificant due to the relatively small derivative positions held by the Company.

Note R - Fair Value of Financial Instruments

SFAS No. 107, Disclosures About Fair Value of Financial
Instruments, requires a company to disclose the fair value of its financial instruments, whether or not recognized in the balance sheet, where it is practical to estimate that value.

Fair value estimates are made at a specific point in time based on relevant market information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for
sale at one time the Companys entire holding of a particular financial instrument. In cases where quoted market prices are not



64



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##### Table of Contents

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

December 31, 2005 and 2004

available, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments and other factors. These estimates
are subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates. In addition, the tax ramifications related
to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in the estimates. Finally, the fair value estimates presented herein are based on pertinent information
available to management as of December 31, 2005 and 2004, respectively.

The following methods and assumptions were used to estimate the fair value of
each class of financial instruments for which it is practicable to estimate that value:

Cash and Due from Banks, Federal Funds Sold and Interest-Earning
Deposits

The carrying amounts for cash and due from banks, federal funds sold and interest-earning deposits approximate fair value because of the short
maturities of those instruments. These instruments are considered cash and cash equivalents.

Investment Securities

Fair value for investment securities, excluding Federal Home Loan Bank stock, is based on quoted market price if such information is available. If a quoted market price
is not available, fair value is estimated using quoted market prices for similar securities. The carrying value of Federal Home Loan Bank stock approximates fair value based on the redemption provisions of the Federal Home Loan Bank.

Loans Held for Sale

Fair values of
mortgage loans held for sale are based on commitments on hand from investors or prevailing market prices.

Loans

For certain homogenous categories of loans, such as residential mortgages, fair value is estimated using the quoted market prices for securities backed by similar loans,
adjusted for differences in loan characteristics. The fair value of other types of loans is estimated by discounting the future cash flows using the current rate at which similar loans would be made to borrowers with similar credit ratings and for
the same remaining maturities.

Investment in Life Insurance

The carrying value of life insurance approximates fair value because this investment is carried at cash surrender value, as determined by the insurer.

Deposits, Short-term Borrowings and Long-term Debt

The fair value of demand deposits, savings accounts, short-term borrowings and long-term
debt is the amount payable on demand at the reporting date. The fair value of time deposits, savings accounts, short-term borrowings and long-term debt is estimated based upon the discounted value of projected future cash outflows using the rates
currently offered for instruments of similar remaining maturities.

Accrued Interest Receivable and Accrued Interest Payable

The carrying amounts of accrued interest receivable and accrued interest payable are assumed to approximate fair values.

Derivative Financial Instruments

Fair values for interest rate swap agreements are based upon the amounts required to settle the contracts.



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##### Table of Contents

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 31, 2005 and 2004

Financial Instruments with
Off-Balance Sheet Risk

With regard to financial instruments with off-balance sheet risk discussed in Note O, it is not practicable to estimate the fair
value of future financing commitments.

The following table presents the carrying values and estimated fair values of the Companys financial
instruments at December 31, 2005 and 2004:



|                                         |  |                        |         |                     |   |        
|---------------------------------------- |  | ---------------------- | ------- | ------------------- | - | -------
|                                         |  | Carryingvalue          |         | Estimatedfair value
|                                         |  | (Amounts in thousands)
|As of December 31, 2005                  |  |                        |         |                     |   |        
|Financial assets:                        |  |                        |         |                     |   |        
|Cash and cash equivalents                |  | $                      | 12,670  |                     | $ | 12,670 
|Investment securities available for sale |  |                        | 58,373  |                     |   | 58,373 
|Investment securities held to maturity   |  |                        | 250     |                     |   | 250    
|Loans held for sale                      |  |                        | 893     |                     |   | 893    
|Loans                                    |  |                        | 279,962 |                     |   | 282,595
|Federal Home Loan Bank stock             |  |                        | 2,189   |                     |   | 2,189  
|Investment in life insurance             |  |                        | 7,037   |                     |   | 7,037  
|Accrued interest receivable              |  |                        | 1,511   |                     |   | 1,511  
|Financial liabilities:                   |  |                        |         |                     |   |        
|Deposits                                 |  | $                      | 300,262 |                     | $ | 291,580
|Short-term borrowings                    |  |                        | 10,000  |                     |   | 10,000 
|Long-term debt                           |  |                        | 34,764  |                     |   | 33,996 
|Accrued interest payable                 |  |                        | 785     |                     |   | 785    
|Derivative financial instruments:        |  |                        |         |                     |   |        
|Interest rate swap - asset               |  | $                      | 120     |                     | $ | 120    
|As of December 31, 2004                  |  |                        |         |                     |   |        
|Financial assets:                        |  |                        |         |                     |   |        
|Cash and cash equivalents                |  | $                      | 10,093  |                     | $ | 10,093 
|Investment securities available for sale |  |                        | 35,912  |                     |   | 35,912 
|Investment securities held to maturity   |  |                        | 250     |                     |   | 250    
|Loans held for sale                      |  |                        | 5,657   |                     |   | 5,657  
|Loans                                    |  |                        | 217,683 |                     |   | 219,635
|Federal Home Loan Bank stock             |  |                        | 2,292   |                     |   | 2,292  
|Investment in life insurance             |  |                        | 6,783   |                     |   | 6,783  
|Accrued interest receivable              |  |                        | 1,000   |                     |   | 1,000  
|Financial liabilities:                   |  |                        |         |                     |   |        
|Deposits                                 |  | $                      | 216,791 |                     | $ | 210,807
|Short-term borrowings                    |  |                        | 15,500  |                     |   | 15,500 
|Long-term debt                           |  |                        | 34,764  |                     |   | 29,606 
|Accrued interest payable                 |  |                        | 138     |                     |   | 138    
|Derivative financial instruments:        |  |                        |         |                     |   |        
|Interest rate swap - asset               |  | $                      | 25      |                     | $ | 25     



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NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

December 31, 2005 and 2004

Note S - Parent Company Financial Data

MidCarolina Financial Corporations condensed balance sheets as of
December 31, 2005 and 2004, and its related condensed statements of operations and cash flows for the years then ended are as follows:

Condensed Balance Sheets

December 31, 2005 and 2004

(Amounts in thousands)



|                                           |  |      |        |   |      |   |        |  
|------------------------------------------ |  | ---- | ------ | - | ---- | - | ------ | -
|                                           |  | 2005 |        |   | 2004 |  
|Assets:                                    |  |      |        |   |      |   |        |  
|Investment in subsidiaries                 |  | $    | 31,596 |   |      | $ | 24,826 |  
|Other assets                               |  |      | 358    |   |      |   | 615    |  
|                                           |  |      |        |   |      |   |        |  
|Total assets                               |  | $    | 31,954 |   |      | $ | 25,441 |  
|                                           |  |      |        |   |      |   |        |  
|Liabilities and Shareholders Equity:      |  |      |        |   |      |   |        |  
|Liabilities:                               |  |      |        |   |      |   |        |  
|Junior subordinated debentures             |  | $    | 8,764  |   |      | $ | 8,764  |  
|Other liabilities                          |  |      | 97     |   |      |   | 253    |  
|                                           |  |      |        |   |      |   |        |  
|Total liabilities                          |  |      | 8,861  |   |      |   | 9,017  |  
|                                           |  |      |        |   |      |   |        |  
|Shareholders Equity:                      |  |      |        |   |      |   |        |  
|Preferred stock                            |  |      | 4,819  |   |      |   |       |  
|Common stock                               |  |      | 11,392 |   |      |   | 11,352 |  
|Retained earnings                          |  |      | 7,429  |   |      |   | 5,171  |  
|Accumulated other comprehensive income     |  |      | (547   | ) |      |   | (99    | )
|                                           |  |      |        |   |      |   |        |  
|Total shareholders equity                 |  |      | 23,093 |   |      |   | 16,424 |  
|                                           |  |      |        |   |      |   |        |  
|Total liabilities and shareholders equity |  | $    | 31,954 |   |      | $ | 25,441 |  
|                                           |  |      |        |   |      |   |        |  

Condensed Statements of Operations

Years ended December 31, 2005 and 2004

(Amounts in thousands)



|                                       |  |   |       |   |  |   |       |  
|-------------------------------------- |  | - | ----- | - |  | - | ----- | -
|Undistributed earnings of subsidiaries |  | $ | 2,367 |   |  | $ | 1,843 |  
|Subsidiary dividend income             |  |   | 570   |   |  |   | 425   |  
|Interest expense                       |  |   | (569  | ) |  |   | (433  | )
|Income tax benefit                     |  |   |      |   |  |   | 107   |  
|                                       |  |   |       |   |  |   |       |  
|Net income                             |  | $ | 2,368 |   |  | $ | 1,942 |  
|                                       |  |   |       |   |  |   |       |  



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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 31, 2005 and 2004

Condensed Statements of Cash Flow

Years ended December 31, 2005 and 2004

(Amounts in thousands)



|                                                                              |  |      |        |   |      |   |        |  
|----------------------------------------------------------------------------- |  | ---- | ------ | - | ---- | - | ------ | -
|                                                                              |  | 2005 |        |   | 2004 |  
|Cash flows from operating activities:                                         |  |      |        |   |      |   |        |  
|Net income                                                                    |  | $    | 2,368  |   |      | $ | 1,942  |  
|Adjustments to reconcile net income to net cash used by operating activities: |  |      |        |   |      |   |        |  
|Equity in undistributed earnings of subsidiaries                              |  |      | (2,367 | ) |      |   | (1,843 | )
|Amortization                                                                  |  |      | 8      |   |      |   | 8      |  
|Decrease in other assets                                                      |  |      | 243    |   |      |   |       |  
|Increase in other liabilities                                                 |  |      | (156   | ) |      |   | 20     |  
|                                                                              |  |      |        |   |      |   |        |  
|Net cash provided (used) by operating activities                              |  |      | 96     |   |      |   | (298   | )
|                                                                              |  |      |        |   |      |   |        |  
|Cash flows from investing activities:                                         |  |      |        |   |      |   |        |  
|Investment in subsidiary                                                      |  |      | (4,819 | ) |      |   | (237   | )
|                                                                              |  |      |        |   |      |   |        |  
|Net cash used by investing activities                                         |  |      | (4,819 | ) |      |   | (237   | )
|                                                                              |  |      |        |   |      |   |        |  
|Cash flow from financing activities:                                          |  |      |        |   |      |   |        |  
|Proceeds from issuance of preferred stock                                     |  |      | 4,819  |   |      |   |       |  
|Proceeds from exercise of stock options                                       |  |      | 21     |   |      |   | 110    |  
|Purchase of fractional common shares                                          |  |      | (13    | ) |      |   |       |  
|Non-cumulative perpetual preferred stock dividends paid                       |  |      | (104   | ) |      |   |       |  
|                                                                              |  |      |        |   |      |   |        |  
|Net cash provided by financing activities                                     |  |      | 4,723  |   |      |   | 110    |  
|                                                                              |  |      |        |   |      |   |        |  
|Net increase in cash and cash equivalents                                     |  |      |       |   |      |   |       |  
|Cash and cash equivalents, beginning                                          |  |      |       |   |      |   |       |  
|                                                                              |  |      |        |   |      |   |        |  
|Cash and cash equivalents, ending                                             |  | $    |       |   |      | $ |       |  
|                                                                              |  |      |        |   |      |   |        |  



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Item 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

N/A

Item 8A. CONTROLS AND
PROCEDURES.

The companys management, under the supervision and with participation of the Chief Executive Officer and the Chief Financial Officer
of the Company (its principal executive officer and principal financial officer, respectively) have concluded based on their evaluation as of the end of the period covered by this Report, that the Companys disclosure controls and procedures
are effective to ensure that information required to be disclosed by the Company in the reports filed or submitted by it under the Securities and Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time
periods specified in the applicable rules and forms, and include controls and procedures designed to ensure that information required to be disclosed by the Company in such reports is accumulated and communicated to the Companys management,
including the Chief Executive Officer and the Chief Financial Officer of the Company, as appropriate to allow timely decisions regarding required disclosure.

There have been no significant changes in internal control over financial reporting during the period covered by this Report that have materially affected, or are reasonably likely to materially affect, the Companys internal control
over financial reporting.

Item 8B. OTHER INFORMATION

Not applicable.

PART III

Item 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH 16(a) OF THE EXCHANGE ACT

(a) Directors and Executive Officers - The information required by this Item regarding directors and executive officers of the Company, the Companys
Audit Committee and procedures for stockholder nominations is set forth under the section captioned Proposal 1  Election of Directors  General, -Executive Officers, - Report of the Audit Committee, 
and Date for Receipt of Stockholder Proposals in the Companys Proxy Statement, to be filed with the SEC with respect to the Annual Meeting of Shareholders to be held on May 23, 2006 (the Proxy Statement), which
sections are incorporated herein by reference.

(b) Section 16(a) Compliance  The information required by this item regarding
compliance with Section 16(a) of the Securities Exchange Act of 1934 is set forth under the Proxy Statement section captioned Section16(a) Beneficial Ownership Reporting Compliance, which is incorporated herein by reference.

(c) Audit Committee Financial Expert  The information required by the Item regarding the Companys Audit Committee Finance
Expert is set forth under Proxy Statement section captioned Report of the Audit Committee, which section is incorporated by reference.

(d) Code of Ethics  The Company has adopted a Code of Business Conduct and Ethics that is applicable to all of its directors, officers and employees, including its principal executive and senior financial officers, as required by
Section 406 of the Sarbanes-Oxley Act of 2002 and applicable SEC rules. A copy of the Companys Code of Business Conduct and Ethics may be obtained, without charge, by sending a written request to the Company at 3101 South Church Street,
Burlington, North Carolina 27215, attn: Corporate Secretary.

In the event that the Company makes any amendment to, or grants any waivers
of, a provision of its Code of Business Conduct and Ethics that applies to the principal executive officer or senior financial officers that requires disclosure under applicable SEC rules, the Company intends to disclose such amendment or waiver by
filing a Form 8-K with the SEC.



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##### Table of Contents

Item 10. EXECUTIVE COMPENSATION

The information required by this Item is set forth under the section captioned Proposal I  Election of Directors  Director Compensation and  Executive Compensation contained
in the Proxy Statement, which are incorporated by reference.

Item 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
STOCKHOLDER MATTERS

The information required by this Item is set forth under the section captioned Security Ownership of Certain Beneficial
Owners and Equity Compensation Plan Information contained in the Proxy Statement which are incorporated herein by reference.

Item 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

The information required by this Item set forth under the section captioned
Certain Indebtedness and Transactions of Management contained in the Proxy Statement, which is incorporated herein by reference.



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##### Table of Contents

Item 13. EXHIBITS AND REPORTS ON FORM 8-K

13(a) Exhibits



|              |  |                                                                                                                                                                                                                                                                                 
|------------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit 3.1   |  | Amended and Restated Articles of Incorporation (incorporated by reference to Exhibit 3(i) of the Form 8-A12g filed on June 5, 2002), as amended on August 15, 2005 by Articles of
Amendment (incorporated by reference to Exhibit 3(i) of the Form 8-K filed on August 29, 2005)
|              | 
|Exhibit 3.2   |  | Bylaws, (incorporated herein by reference to Exhibit 3(ii) to the Form 8-A12 gnfiled on June 5, 2002)                                                                                                                                                                           
|              | 
|Exhibit 4     |  | Form of Stock Certificate, (incorporated by reference to the Form 10-QSB filed on November 12, 2002)                                                                                                                                                                            
|              | 
|Exhibit 10.1  |  | Employment Agreement with Randolph J. Cary, Jr., incorporated herein by reference to Exhibit 6(i) to the Form 10-SB filed with the FDIC on April 30, 1998                                                                                                                       
|              | 
|Exhibit 10.2  |  | MidCarolina Bank Employee Stock Option Plan, incorporated herein by reference to Exhibit 6(ii) to the Form 10-SB filed with the FDIC on April 30, 1998                                                                                                                          
|              | 
|Exhibit 10.3  |  | MidCarolina Bank Director Stock Option Plan, incorporated herein by reference to Exhibit 6(iii) to the Form 10-SB filed with the FDIC on April 30, 1998                                                                                                                         
|              | 
|Exhibit 10.4  |  | Land Lease dated October 15, 1997 between the Bank and Crescent Center Associates, incorporated herein by reference to Exhibit 10(iv) to the Form 10-KSB for the fiscal year ended December 31,
1998                                                                            
|              | 
|Exhibit 10.5  |  | Lease dated June 27, 2000 between the Bank and Cum-Park Plaza, LLC incorporated herein by reference to Exhibit 10(v) to the Form 10-KSB for the fiscal year ended December 31,
2000.                                                                                            
|              | 
|Exhibit 10.6  |  | Omnibus Stock Ownership and Long-Term Incentive Plan incorporated herein by reference to Exhibit 10(vi) to the Form 10-KSB for the fiscal year ended December 31, 2003                                                                                                          
|              | 
|Exhibit 10.7  |  | Form of stock option award agreements for incentive stock options and nonqualified stock options granted under the Omnibus Stock Ownership and Long-Term Incentive Plan                                                                                                         
|              | 
|Exhibit 10.8  |  | December 22, 2005 Amendment of Stock Option Agreements granted under the MidCarolina Bank Employee Stock Option Plan (incorporated by reference to Exhibit 99.2 of the Form 8-K Current Report
filed on December 27, 2005)                                                      
|              | 
|Exhibit 10.9  |  | December 22, 2005 Amendment of Stock Option Agreement, with resale restrictions, granted under the MidCarolina Bank Employee Stock Option Plan (incorporated by reference to Exhibit 99.3 of
the Form 8-K Current Report filed on December 27, 2005)                            
|              | 
|Exhibit 10.10 |  | Salary Continuation Agreement dated October 1, 2004 between MidCarolina Bank and Randolph J. Cary Jr.                                                                                                                                                                           
|              | 
|Exhibit 10.11 |  | Salary Continuation Agreement dated October 1, 2004 between MidCarolina Bank and Charles T. Canaday Jr.                                                                                                                                                                         
|              | 
|Exhibit 10.12 |  | Salary Continuation Agreement dated October 1, 2004 between MidCarolina Bank and Christopher B. Redcay                                                                                                                                                                          
|              | 
|Exhibit 10.13 |  | Salary Continuation Agreement dated October 1, 2004 between MidCarolina Bank and R. Craig Patterson                                                                                                                                                                             



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|              |  |                                                                                                                                                                      
|------------- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit 10.14 |  | Endorsement Split Dollar Agreement dated October 1, 2004 between MidCarolina Bank and Randolph J. Cary Jr                                                            
|              | 
|Exhibit 10.15 |  | Endorsement Split Dollar Agreement dated October 1, 2004 between MidCarolina Bank and Charles T. Canaday jr.                                                         
|              | 
|Exhibit 10.16 |  | Endorsement Split Dollar Agreement dated October 1, 2004 between MidCarolina Bank and Christopher B. Redcay                                                          
|              | 
|Exhibit 10.17 |  | Endorsement Split Dollar Agreement dated October 1, 2004 between MidCarolina Bank and R. Craig Patterson                                                             
|              | 
|Exhibit 10.18 |  | Severance Agreement dated March 11, 2005 between MidCarolina Bank and Charles T. Canaday Jr.                                                                         
|              | 
|Exhibit 10.19 |  | Severance Agreement dated March 11, 2005 between MidCarolina Bank and Christopher B. Redcay                                                                          
|              | 
|Exhibit 10.20 |  | Severance Agreement between MidCarolina Bank and R. Craig Patterson (incorporated by reference to Exhibit 99.1 of the Form 8-K Current Report filed on March 8, 2006)
|              | 
|Exhibit 10.21 |  | Indemnification Agreement with directors (incorporated by reference to Exhibit 99.1 of the Form 8-K Current Report filed on December 27, 2005                        
|              | 
|Exhibit 11    |  | Statement Regarding Computation of Per Share Earnings                                                                                                                
|              | 
|Exhibit 13.1  |  | 2005 Annual Report Consolidated Statements of Financial Condition                                                                                                    
|              | 
|Exhibit 13.   |  | 2005 Annual Report Consolidated Statements of Operations                                                                                                             
|              | 
|Exhibit 14    |  | Code of Ethics incorporated herein by reference to Exhibit 14 to the Form 10-KSB for the fiscal year ended December 31, 2003.                                        
|              | 
|Exhibit 31.1  |  | Rule 13a-14(a)/15d-14(a) Certification by Chief Executive Officer                                                                                                    
|              | 
|Exhibit 31.2  |  | Rule 13a-14(a)/15d-14(a) Certification by Chief Financial Officer                                                                                                    
|              | 
|Exhibit 32    |  | Section 1350 Certifications                                                                                                                                          

Item 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES

The information required by this Item is set forth under the section captioned Principal Accountant Fees and Services contained in the Proxy statement, which
is incorporated herein by reference.



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SIGNATURES

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



|                     |  |                  |  |                                      
|-------------------- |  | ---------------- |  | -------------------------------------
|                     |  | MIDCAROLINA BANK
|                     |  |                 
|Date: March 28, 2006 |  | By:              |  | /s/ Randolph J. Cary, Jr.            
|                     |  |                  |  | Randolph J. Cary, Jr.                
|                     |  |                  |  | President and Chief Executive Officer

In accordance with the Exchange Act, this report has been signed below by the following persons on
behalf of the registrant and in the capacities and on the dates indicated.



|                                                |  |                                                   |  |               
|----------------------------------------------- |  | ------------------------------------------------- |  | --------------
|Signature                                       |  | Title                                             |  | Date          
|/s/ Randolph J. Cary, Jr. Randolph J.
Cary, Jr. |  | President, Chief Executive Officer and Director   |  | March 28, 2006
|                                                |  |                                                  
|/s/ Charles T. Canaday Charles T.
Canaday       |  | Senior Vice President and Chief Operating Officer |  | March 28, 2006
|                                                |  |                                                  
|/s/ Christopher B. Redcay Christopher
B. Redcay |  | Senior Vice President and Chief Financial Officer |  | March 28, 2006
|                                                |  |                                                  
|/s/ R. Craig Patterson R. Craig
Patterson       |  | Senior Vice President Chief Credit Officer        |  | March 28, 2006
|                                                |  |                                                  
|/s/ H. Thomas Bobo H. Thomas
Bobo               |  | Director                                          |  | March 28, 2006
|                                                |  |                                                  
|/s/ James R. Copland, III                       |  | Chairman and Director                             |  | March 29, 2006
|James R. Copland, III                           |  |                                                   |  |               
|                                                |  |                                                  
|/s/ Thomas E. Chandler                          |  | Director                                          |  | March 28, 2006
|Thomas E. Chandler                              |  |                                                   |  |               
|                                                |  |                                                  
|/s/ Ralph M. Holt, Jr.                          |  | Vice Chairman and Director                        |  | March 28, 2006
|Ralph M. Holt, Jr.                              |  |                                                   |  |               
|                                                |  |                                                  
|/s/ F.D. Hornaday                               |  | Director                                          |  | March 28, 2006
|F.D. Hornaday, III                              |  |                                                   |  |               
|                                                |  |                                                  
|/s/ Teena M. Koury                              |  | Director                                          |  | March 28, 2006
|Teena M. Koury                                  |  |                                                   |  |               
|                                                |  |                                                  
|/s/ John Love                                   |  | Director                                          |  | March 28, 2006
|John Love                                       |  |                                                   |  |               
|                                                |  |                                                  
|/s/ James B. Powell                             |  | Director                                          |  | March 28, 2006
|James B. Powell                                 |  |                                                   |  |               
|                                                |  |                                                  
|/s/ John K. Roberts                             |  | Director                                          |  | March 28, 2006
|John K. Roberts                                 |  |                                                   |  |               
|                                                |  |                                                  
|/s/ James H. Smith, Jr.                         |  | Director                                          |  | March 28, 2006
|James H. Smith, Jr.                             |  |                                                   |  |               
|                                                |  |                                                  
|/s/ Robert A. Ward                              |  | Director                                          |  | March 28, 2006
|Robert A. Ward                                  |  |                                                   |  |               
|                                                |  |                                                  
|/s/ Dexter R. Barbee, Sr.                       |  | Director                                          |  | March 28, 2006
|Dexter R. Barbee, Sr.                           |  |                                                   |  |               



---

##### Table of Contents

INDEX TO EXHIBITS



|              |  |                                                                                                                                                                        
|------------- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit No.   |  | Description                                                                                                                                                            
|Exhibit 10.7  |  | Form of stock option award agreements for incentive stock options and nonqualified stock options granted under the Omnibus Stock Ownership and Long-Term Incentive Plan
|              | 
|Exhibit 10.10 |  | Salary Continuation Agreement dated October 1, 2004 between MidCarolina Bank and Randolph J. Cary Jr.                                                                  
|              | 
|Exhibit 10.11 |  | Salary Continuation Agreement dated October 1, 2004 between MidCarolina Bank and Charles T. Canaday Jr.                                                                
|              | 
|Exhibit 10.12 |  | Salary Continuation Agreement dated October 1, 2004 between MidCarolina Bank and Christopher B. Redcay                                                                 
|              | 
|Exhibit 10.13 |  | Salary Continuation Agreement dated October 1, 2004 between MidCarolina Bank and R. Craig Patterson                                                                    
|              | 
|Exhibit 10.14 |  | Endorsement Split Dollar Agreement dated October 1, 2004 between MidCarolina Bank and Randolph J. Cary Jr                                                              
|              | 
|Exhibit 10.15 |  | Endorsement Split Dollar Agreement dated October 1, 2004 between MidCarolina Bank and Charles T. Canaday jr.                                                           
|              | 
|Exhibit 10.16 |  | Endorsement Split Dollar Agreement dated October 1, 2004 between MidCarolina Bank and Christopher B. Redcay                                                            
|              | 
|Exhibit 10.17 |  | Endorsement Split Dollar Agreement dated October 1, 2004 between MidCarolina Bank and R. Craig Patterson                                                               
|              | 
|Exhibit 10.18 |  | Severance Agreement dated March 11, 2005 between MidCarolina Bank and Charles T. Canaday Jr.                                                                           
|              | 
|Exhibit 10.19 |  | Severance Agreement dated March 11, 2005 between MidCarolina Bank and Christopher B. Redcay                                                                            
|              | 
|Exhibit 11    |  | Statement Regarding Computation of Per Share Earnings                                                                                                                  
|              | 
|Exhibit 31.1  |  | Rule 13a-14(a)/15d-14(a) Certification by Chief Executive Officer                                                                                                      
|              | 
|Exhibit 31.2  |  | Rule 13a-14(a)/15d-14(a) Certification by Chief Financial Officer                                                                                                      
|              | 
|Exhibit 32    |  | Section 1350 Certifications