2000 Annual Report

First South Bancorp
=======================
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<PAGE>

                                TABLE OF CONTENTS

Letter to Stockholders                                                         1

Selected Consolidated Financial Information and Other Data                     2

Management's Discussion and Analysis of Financial Condition
     and Results of Operations                                                 3

Report of Independent Accountants                                             14

Consolidated Statements of Financial Condition                                15

Consolidated Statements of Operations                                         16

Consolidated Statements of Stockholders' Equity                               17

Consolidated Statements of Cash Flows                                         18

Notes to Consolidated Financial Statements                                    19

Board of Directors                                                            40

Executive Officers                                                            40

Regional Executives                                                           40

First South Bank Office Locations                                             41

First South Bank ATM Locations                                                41

First South Bank Products and Services                                        42

Stockholder Information                                                       43

                                MISSION STATEMENT

     "Our mission is to become the premier  community bank in eastern North
     Carolina.  We will enhance  shareholder  value by serving the personal
     and  business  needs  of  our  markets,  providing  superior  customer
     service, investing in the communities that we serve, and enriching the
     lives of our employees."

<PAGE>

                             LETTER TO STOCKHOLDERS

To Our Stockholders:

It is a pleasure to present the 2000  operating  results for First South Bancorp
("First  South").  It was a landmark  year.  The company nearly doubled in asset
size to $559.7  million,  adding  nine  offices  while  entering  new markets in
eastern and  southeastern  North Carolina.  This growth has come at a swift pace
and the  company  is well  positioned  to take  advantage  of the  opportunities
presented.

For the year ended  September  30,  2000,  we reported  record  earnings of $3.5
million representing an 11.0% increase over the $3.2 million earned for the year
ended  September 30, 1999.  Diluted  earnings per share increased 24.2% to $1.13
per share,  compared to $0.91 per share for fiscal 1999. In addition,  dividends
per share  increased  by 48.4% and we  achieved  continued  excellent  growth in
commercial lending.

First South  completed  two  strategic  acquisitions  in 2000 by acquiring  Home
Federal  Savings and Loan in  Fayetteville  and  Lumberton,  North  Carolina and
purchasing of six branch offices from Triangle Bank in Rocky Mount,  Tarboro and
Dortches, North Carolina. These acquisitions,  along with opening a full service
branch in Chocowinity,  North Carolina contributed to the company's  significant
growth.

Other  initiatives  undertaken  in 2000 to position  First  South for  continued
growth  include  the  acquisition  of land to support a new 11,000  square  foot
operations  center,  allowing us to more effectively  serve our growing customer
base. During this year, we made significant  changes to our mortgage  operations
by  enhancing  our mortgage  origination  hardware and software and adding a new
in-house  FHA/VA  processing  center.  In  addition,  we have a new web  site at
www.firstsouthnc.com,  featuring personal banking,  business banking, a mortgage
center  and a  financial  calculator.  The  company  will  continue  to  explore
additional services that can be offered over the Internet.

Many of our future strategies will focus on enhancing the franchise value of the
company.  We will focus on the  restructuring of our mortgage assets in order to
fund future growth in commercial and consumer  lending,  the opening of new full
service branches in existing and expanded  markets and enhanced  training of our
personnel in order to better serve  existing  and new  customers.  Through a new
business  unit,  we plan to offer our  customers  a broad  range of  investment,
insurance and financial planning services.

In addition,  our  governmental  lending  division that specializes in assisting
small business customers with government guaranteed loan programs is expected to
continue strong growth. We plan to continue  expanding  transaction  accounts so
they become a larger  percentage  of the  companies  deposit  base.  By actively
restructuring the asset and liability sides of the company,  we should achieve a
high net  interest  margin  and  increase  fee  income.  The  restructuring  and
increased  emphasis on training and performing  basic  services with  excellence
should contribute greatly to enhancing the franchise value of First South.

As we  continue  our  service,  growth  and  success,  it is  apparent  that our
employees are our greatest assets.  Their hard work and dedication  brought both
the Home  Federal and Triangle  acquisitions  to a  successful  conclusion.  Our
employees are held to high standards and they meet the challenges  placed before
them.  I want to thank them for their  efforts and  commitment  in making  First
South so successful.

Each member of your Board of Directors  along with our  officers  and  employees
join me in thanking you for  supporting  First South  Bancorp.  As always,  your
comments or  suggestions  are  welcomed  and we look  forward to your  continued
support.

                                        Sincerely,

                                        /s/ Tom Vann

                                        Tom Vann
                                        President and
                                        Chief Executive Officer

                                       1
<PAGE>

SELECTED CONSOLIDATED FINANCIAL INFORMATION AND OTHER DATA

<TABLE>
<CAPTION>
                                                    At or For the Year Ended September 30,
                                           --------------------------------------------------------
                                             2000        1999        1998        1997        1996
                                           --------    --------    --------    --------    --------
                                                 (Dollars in thousands, except per share data)

Selected Financial Condition Data
---------------------------------
<S>                                        <C>         <C>         <C>         <C>         <C>
Total assets                               $559,719    $292,305    $281,479    $249,281    $194,139
Loans receivable, net                       366,210     212,054     224,999     197,785     155,681
Cash and investment securities               59,927      12,435      20,119      18,856      16,684

Mortgage-backed securities                  108,519      56,326      27,017      24,818      14,797
Deposits                                    471,942     234,618     204,635     175,116     171,213
Borrowings                                   30,388       1,318      11,933      12,621       1,040
Stockholders' equity                         44,835      48,763      56,714      57,856      18,347

Selected Operations Data
------------------------
Interest income                            $ 36,865    $ 23,129    $ 21,867    $ 18,515    $ 15,349
Interest expense                             19,013       9,979       9,240       8,346       8,105
                                           --------    --------    --------    --------    --------
Net interest income                          17,852      13,150      12,627      10,169       7,244
Provision for loan losses                       977         120         310         931         511
Noninterest income                            3,432       2,874       2,646       1,685       1,833
Noninterest expenses                         14,100      10,255       9,940       6,941       7,295
                                           --------    --------    --------    --------    --------
Income before income taxes                    6,207       5,649       5,023       3,982       1,271
Income taxes                                  2,658       2,453       1,900       1,719         451
                                           --------    --------    --------    --------    --------
Net income                                 $  3,549    $  3,196    $  3,123    $  2,263    $    820
                                           ========    ========    ========    ========    ========
Earnings per share - basic (1)(2)          $   1.14    $    .91    $    .80    $    .35    $     --
                                           ========    ========    ========    ========    ========
Earnings per share - diluted (1)(2)        $   1.13    $    .91    $    .80    $    .35    $     --
                                           ========    ========    ========    ========    ========
Dividends per share (2)                    $    .46    $    .31    $    .27    $    .13    $     --
                                           ========    ========    ========    ========    ========

Selected Financial Ratios and Other Data
----------------------------------------
Performance Ratios:
Return on average assets                        .76%       1.09%       1.19%       1.00%        .45%
Return on average equity                       7.71        6.03        5.40        6.57        4.45
Interest rate spread                           3.73        3.95        4.03        4.10        3.72
Net interest margin                            4.05        4.69        5.05        4.67        4.12
Average earning assets to average
   interest-bearing liabilities              107.47      121.04      127.57      115.00      108.52
Noninterest expense to average assets          3.03        3.50        3.80        3.06        3.97
Efficiency ratio                              66.25       63.99       65.08       58.55       80.37
Dividend payout ratio                         40.35       34.07       33.75       37.14          --

Quality Ratios:
Nonperforming assets to total assets            .33%        .40%        .43%        .65%        .62%
Nonperforming loans to total loans              .45         .27         .36         .64         .66
Loan loss reserves to total loans              1.39        1.53        1.50        1.64        1.51
Provision for loan losses to total loans        .27         .06         .14         .47         .32

Capital Ratios:
Equity to total assets, end of period          8.02%      16.69%      19.95%      23.23%       9.45%
Average equity to average assets               9.89       18.09       22.14       15.17       10.05

Other Data:
Full service offices                             17           9           8           8           8
Loans serviced for others                  $300,006    $275,255    $250,202    $253,647    $253,682
</TABLE>

---------------------------------
(1)  Applies to net income of $1,395,900  earned for the period April 8, 1997 to
     September 30, 1997.
(2)  Adjusted for three-for-two stock split on August 19, 1998.

                                       2
<PAGE>

                      MANAGEMENT'S DISCUSSION AND ANALYSIS
                OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

GENERAL

     First South  Bancorp,  Inc. (the  "Company")  was formed for the purpose of
issuing  common  stock and  owning  100% of the stock of First  South  Bank (the
"Bank")  and  operating  through the Bank a  commercial  banking  business.  The
Company has engaged in no significant activities other than holding the stock of
the Bank,  therefore,  this discussion of consolidated  financial  condition and
results of operations relates  principally to the Bank. The business of the Bank
consists  principally  of attracting  deposits from the general public and using
them to originate secured and unsecured commercial and consumer loans, permanent
mortgage and  construction  loans secured by  single-family  residences,  credit
cards and other loans.  The Bank's earnings depend primarily on its net interest
income,  which is the difference  between  interest  earned on interest  earning
assets  and  interest  paid on  interest-bearing  liabilities.  The level of its
noninterest income and expenses also affects the Bank's earnings.

     Prevailing  economic  conditions  as well as  policies of federal and state
regulatory  authorities  affect the  operations of the Bank.  The Bank's cost of
funds is  influenced  by interest  rates paid on  competing  investments,  rates
offered on deposits by other  financial  institutions  in the Bank's market area
and by general market  interest  rates.  Lending  activities are affected by the
demand for financing of real estate and various types of commercial and consumer
loans,  which are  influenced by interest  rates at which such  financing may be
offered.

     The  Bank's  business  emphasis  is  to  operate  as  a   well-capitalized,
profitable and independent community oriented financial institution dedicated to
providing  quality  customer  service  and meeting  the  financial  needs of the
communities  it serves.  Management  believes the Bank can be more  effective in
serving its customers  than many larger  competitors,  because of its ability to
respond  quickly and  effectively to customer  needs and  inquiries.  The Bank's
ability to provide  these  services is enhanced by the  stability  of the Bank's
senior management team.

SIGNIFICANT ACTIVITIES AND EVENTS

     On November 30, 1999,  the Company  consummated  the  acquisition  of Green
Street  Financial  Corp ("Green  Street"),  the parent  holding  company of Home
Federal  Savings and Loan  Association of  Fayetteville,  North Carolina  ("Home
Federal"),  with full service  offices  located in  Fayetteville  and Lumberton,
North  Carolina.  The acquisition was accounted for using the purchase method of
accounting for a cash purchase price of $59.2 million,  representing  $15.25 per
share of Green Street common stock.  Summary  financial  information  related to
Green Street  acquisition is as follows  (unaudited):  assets - $162.2  million;
loans  receivable - $125.4 million;  deposits - $101.7  million;  and goodwill -
$288,000.

     On February 18, 2000,  the Bank completed the purchase of six Triangle Bank
("Triangle") branch offices located in Rocky Mount and Tarboro,  North Carolina.
This  acquisition  was accounted for using the purchase method of accounting and
the Bank assumed the deposits of the six Triangle  branch  offices for a premium
of approximately  4.0% of the assumed deposits.  Summary  financial  information
related to the Triangle branches purchase is as follows (unaudited):  deposits -
$147.5 million; cash and other assets - $113.4 million; loans receivable - $26.3
million;  deposit  premium - $5.0  million;  and premises  and  equipment - $2.8
million.

     Concurrently with the Green Street  acquisition,  the Bank changed its name
to First South Bank. These acquisitions have enabled the Company to leverage its
capital base, represent a significant growth in the Bank's branch office network
and are expected to benefit the Company's earnings in future periods.

LIQUIDITY AND CAPITAL RESOURCES

     As a state chartered  commercial bank, the Bank must meet certain liquidity
requirements  established by the North Carolina  Office of the  Commissioner  of
Banks (the  "Commissioner").  Savings banks,  which convert to commercial banks,
are required to maintain 15%  liquidity  pursuant to the  conversion  guidelines
adopted by the Commissioner. The Bank's liquidity ratio, as computed under these
guidelines,  was 27.9% at September  30, 2000 compared to 22.9% at September 30,
1999.

                                       3
<PAGE>

     The Bank's  primary  sources of funds are deposits,  principal and interest
payments on loans,  proceeds  from loan sales and advances from the Federal Home
Loan Bank of Atlanta (the "FHLB").  While maturities and scheduled  amortization
of  loans  are  predictable  sources  of  funds,   deposit  flows  and  mortgage
prepayments are greatly  influenced by interest rates,  economic  conditions and
local  competition.  The Bank's primary investing activity is the origination of
commercial,  consumer and mortgage  loans.  During the years ended September 30,
2000 and 1999,  the Bank had loan  originations  of $176.5  million  and  $177.5
million,   respectively.   The  Bank's  primary  financing  activities  are  the
attraction of checking,  certificate  and savings  deposits,  and obtaining FHLB
advances.

     The Bank's most liquid assets are cash and cash equivalents.  The levels of
these  assets are  dependent  on the Bank's  operating,  financing,  lending and
investing  activities  during any given period.  At September 30, 2000 and 1999,
cash and cash equivalents totaled $14.7 million and $9.4 million,  respectively.
The Bank has other sources of liquidity if a need for  additional  funds arises.
During the years ended  September 30, 2000 and 1999,  the Bank sold or exchanged
real estate loans totaling $62.8 million and $86.1  million,  respectively.  The
Bank's outstanding FHLB advances and retail repurchase  agreements totaled $30.4
million at September  30, 2000  compared to $1.3 million at September  30, 1999.
Other sources of liquidity  include  investment and  mortgage-backed  securities
designated as available for sale,  which totaled $153.7 million at September 30,
2000 and $59.4 million at September 30, 1999.

     At September 30, 2000  stockholders'  equity was $44.8 million  compared to
$48.8 million at September 30, 1999. At September 30, 2000 there were  3,160,475
shares of common stock outstanding, net of 1,203,569 treasury shares. Net income
for fiscal 2000 was $3.5 million, compared to $3.2 million for fiscal 1999.

     As a  North  Carolina  chartered  commercial  bank  and a  Federal  Deposit
Insurance Corporation (the "FDIC") insured institution,  the Bank is required to
meet various capital standards by its state and federal regulatory agencies. The
Bank's stand-alone  equity was $43.7 million at September 30, 2000,  compared to
$42.6 million at September  30, 1999,  which is  substantially  in excess of all
such regulatory requirements. The Commissioner requires the Bank at all times to
maintain a capital  surplus of not less than 50% of common  capital  stock.  The
FDIC requires the Bank to meet a minimum leverage capital  requirement of Tier I
capital (consisting of retained earnings and common  stockholders'  equity, less
any  intangible  assets) to assets  ratio of at least 4% and a total  capital to
risk-weighted  assets  ratio  of 8%,  of  which 4% must be in the form of Tier I
capital.  The Bank was in compliance  with all capital  requirements of both the
Commissioner and the FDIC at September 30, 2000 and September 30, 1999.

ASSET/LIABILITY MANAGEMENT

     The Bank strives to achieve  consistent net interest  income and reduce its
exposure to adverse changes in interest rates by matching the terms to repricing
of its  interest-sensitive  assets and  liabilities.  Factors  beyond the Bank's
control, such as market interest rates and competition,  may also have an impact
on the Bank's interest income and interest expense.  In the absence of any other
factors,  the overall yield on the Bank's earning assets generally will increase
from existing  levels when interest rates rise over an extended  period of time,
and conversely,  interest  income will decrease when interest rates decline.  In
general,  interest  expense  will  increase  when  interest  rates  rise over an
extended  period of time,  and  conversely  interest  expense will decrease when
interest rates decline.  The Bank can  significantly  influence its net interest
income by  controlling  the increases  and decreases in its interest  income and
interest expense which are caused by changes in market interest rates.

     The  President  of the Bank  reports to the Board of Directors on a regular
basis on interest  rate risk and trends,  as well as liquidity and capital ratio
requirements. The Board of Directors reviews the maturities of the Bank's assets
and liabilities and establishes policies and strategies designed to regulate the
Bank's flow of funds and to  coordinate  the  sources,  uses and pricing of such
funds.  The first  priority in  structuring  and  pricing the Bank's  assets and
liabilities is to maintain an acceptable interest rate spread while reducing the
net effects of changes in interest rates.  The Bank's  management is responsible
for administering the policies and determinations of the Board of Directors with
respect to the Bank's asset and liability goals and strategies.

     A principal  strategy in managing the Bank's interest rate risk has been to
increase  interest rate sensitive  assets such as commercial and consumer loans.
At September 30, 2000, the Bank had $137.9 million of commercial loans and $75.0
million of consumer loans, or 57.2% of the Bank's gross loan portfolio, compared
to $88.8 million and $50.8  million,  respectively,  at September 30, 1999.  The
Bank had $32.4 million of loans held for sale at September 30, 2000, compared to
$13.5 million at September 30, 1999. Depending on conditions existing at a given
time, as part of its interest rate risk management  strategy,  the Bank may sell
fixed-rate residential mortgage loans in the secondary market.

                                       4
<PAGE>

     In managing its portfolio of investment securities, the Bank has emphasized
that all  purchases of securities  are held as available for sale,  allowing the
Bank to sell a security in a timely  manner should an immediate  liquidity  need
arise. The Bank had $153.7 million of investment and mortgage-backed  securities
classified  as  available  for sale at  September  30,  2000,  compared to $59.4
million at September 30, 1999.

MARKET RISK

     Market risk  reflects the risk of economic loss  resulting  from changes in
market  prices  and  interest  rates.  The  risk of  loss  can be  reflected  in
diminished current market values and/or reduced potential net interest income in
future periods.  The Bank's market risk arises primarily from interest rate risk
inherent  in its  lending  and  deposit  taking  activities.  The Bank  does not
maintain a trading account for any class of financial  instruments,  nor does it
engage in hedging  activities  or  purchase  high-risk  derivative  instruments.
Furthermore,  the Bank is not  subject  to  foreign  currency  exchange  risk or
commodity price risk.

     Management  measures the Bank's  interest rate risk by computing  estimated
changes in net interest  income and the net portfolio  value ("NPV") of its cash
flows from assets,  liabilities  and  off-balance  sheet items in the event of a
range of assumed  changes in market  interest  rates.  The  Bank's  exposure  to
interest  rates is reviewed on a quarterly  basis by senior  management  and the
Board of  Directors.  Exposure to interest rate risk is measured with the use of
interest rate  sensitivity  analysis to determine the change in NPV in the event
of hypothetical  changes in interest rates,  while interest rate sensitivity gap
analysis is used to determine the repricing characteristics of the Bank's assets
and  liabilities.  If estimated  changes to NPV and net interest  income are not
within the limits  established by the Board, the Board may direct  management to
adjust the Bank's asset and  liability  mix to bring  interest  rate risk within
Board approved limits.

     NPV  represents  the market value of  portfolio  equity and is equal to the
market value of assets minus the market value of liabilities,  with  adjustments
made for off-balance  sheet items.  This analysis assesses the potential loss in
risk  sensitive  instruments  in the  event of  sudden  and  sustained  1% to 3%
increases and decreases in market interest rates.

     The Bank's  Board of  Directors  has adopted an  interest  rate risk policy
which establishes  maximum increases in NPV of 17%, 36% and 56% and decreases in
NPV of 15%, 36% and 61% in the event of sudden and  sustained 1% to 3% increases
or  decreases  in market  interest  rates.  Table 1 below  presents  the  Bank's
projected change in NPV for the various rate shock levels at September 30, 2000.

TABLE 1 - PROJECTED CHANGE IN NPV AND NET INTEREST INCOME

                   Net Portfolio Value               Net Interest Income
 Change      -------------------------------    ------------------------------
in Rates     $ Amount    $ Change   % Change    $ Amount   $ Change   % Change
--------     --------    --------   --------    --------   --------   --------
                             (Dollars in thousands)

+ 300   bp   $ 30,022    $(28,069)     (48.3)%  $ 14,928   $ (2,873)     (16.1)%
+ 200   bp     39,566     (18,525)     (31.9)     15,956     (1,845)     (10.4)
+ 100   bp     49,063      (9,028)     (15.5)     16,963       (838)      (4.7)
Base                       58,091         --          --     17,801         --
- 100   bp     65,129       7,038       12.1      18,441        640        3.6
- 200   bp     70,199      12,108       20.8      19,029      1,228        6.9
- 300   bp     74,973      16,882       29.1      19,727      1,926       10.8

     Table 1 indicates  that in the event of sudden and  sustained  increases in
market interest rates, the Bank's estimated net interest income and NPV would be
expected to decrease.  In the event of sudden and sustained  decreases in market
interest  rates,  estimated  net  interest  income and NPV would be  expected to
increase. At September 30, 2000, the Bank's estimated changes in NPV were within
the targets established by the Board of Directors.

     Computations of prospective  effects of hypothetical  interest rate changes
are based on numerous assumptions,  including relative levels of market interest
rates,  loan  prepayments and deposit decay rates, and should not be relied upon
as indicative of actual results.  Further,  the  computations do not contemplate
any actions the Bank may undertake in response to changes in interest rates. The
NPV  calculation  is based on the net  present  value of  discounted  cash flows
utilizing market prepayment assumptions.

                                       5
<PAGE>

     Certain  shortcomings  are inherent in the method of analysis  presented in
Table 1. For example,  although  certain assets and liabilities may have similar
maturities  to  repricing,  they may react in  differing  degrees  to changes in
market  interest  rates.  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 rates.  Certain
assets such as  adjustable-rate  loans have features  that  restrict  changes in
interest  rates  on a  short-term  basis  and over  the  life of the  asset.  In
addition,  the proportion of adjustable-rate loans in the Bank's portfolio could
decrease in future periods if market  interest rates remain at or decrease below
current levels due to refinance  activity.  Further, in the event of a change in
interest rates, prepayment and early withdrawal levels would likely deviate from
those assumed in the table.  Also,  the ability of many borrowers to repay their
adjustable-rate debt may decrease in the event of an increase in interest rates.

     In  addition,  the Bank uses  interest  rate  sensitivity  gap  analysis to
monitor  the   relationship   between  the   maturity   and   repricing  of  its
interest-earning assets and interest-bearing  liabilities,  while maintaining an
acceptable interest rate spread. Interest rate sensitivity gap is defined as the
difference between the amount of  interest-earning  assets maturing or repricing
within a specific  time  period and the amount of  interest-bearing  liabilities
maturing or repricing within that time period. A gap is considered positive when
the   amount  of   interest-rate-sensitive   assets   exceeds   the   amount  of
interest-rate-sensitive  liabilities, and is considered negative when the amount
of     interest-rate-sensitive     liabilities    exceeds    the    amount    of
interest-rate-sensitive  assets.  Generally,  during a period of rising interest
rates,  a negative  gap would  adversely  affect net  interest  income,  while a
positive  gap would result in an increase in net  interest  income.  Conversely,
during a period of falling  interest  rates,  a negative  gap would result in an
increase in net interest income,  while a positive gap would  negatively  affect
net interest income. The Bank's goal is to maintain a reasonable balance between
exposure to interest rate fluctuations and earnings.

RATE/VOLUME ANALYSIS

     Net interest income can also be analyzed in terms of the impact of changing
interest rates on average  interest-earning assets and average  interest-bearing
liabilities and the changing  volume or amount of these assets and  liabilities.
Table 2 below  represents  the  extent to which  changes in  interest  rates and
changes  in  the  volume  of  average   interest-earning   assets  and   average
interest-bearing  liabilities  have  affected  the  Bank's  interest  income and
interest  expense  during the periods  indicated.  For each  category of average
interest-earning asset and average  interest-bearing  liability,  information is
provided on changes  attributable  to: (i) changes in volume  (changes in volume
multiplied by old rate);  (ii) changes in rate (change in rate multiplied by old
volume); (iii) changes in rate-volume (changes in rate multiplied by the changes
in volume); and (iv) net change (total of the previous columns).

TABLE 2 - RATE/VOLUME ANALYSIS

<TABLE>
<CAPTION>
                                                                   Year Ended September 30,
                                      ----------------------------------------------------------------------------------
                                             2000        vs.      1999                 1999        vs.       1998
                                      ---------------------------------------   ----------------------------------------
                                            Increase (Decrease) Due to                Increase (Decrease) Due to
                                      ---------------------------------------   ----------------------------------------
                                                            Rate/                                      Rate/
                                       Volume     Rate      Volume     Total     Volume      Rate      Volume     Total
                                      -------   -------    -------    -------   -------    -------    -------    -------
                                                                        (In thousands)
<S>                                   <C>       <C>        <C>        <C>       <C>        <C>        <C>        <C>
Interest income:
   Loans receivable ...............   $ 9,019   $   143    $    67    $ 9,229   $ 1,338    $  (902)   $   (62)   $   374
   Investment securities ..........       994        (7)       (22)       965         5          3         --          8
   Mortgage-backed securities .....     2,598        88         71      2,757     1,066        (89)       (42)       935
   Other interest-earning assets ..       215       342        228        785        30        (79)        (6)       (55)
                                      -------   -------    -------    -------   -------    -------    -------    -------
      Total interest-earning assets    12,826       566        344     13,736     2,439     (1,067)      (110)     1,262
                                      -------   -------    -------    -------   -------    -------    -------    -------

Interest expense:
   Deposits .......................     7,584       744        601      8,929     1,207       (813)      (110)       284
   FHLB advances ..................         8         1         --          9       587        (10)       (92)       485
   Other interest-bearing
      liabilities .................        46        26         24         96        (5)       (27)         2        (30)
                                      -------   -------    -------    -------   -------    -------    -------    -------
      Total interest-bearing

         liabilities ..............     7,638       771        625      9,034     1,789       (850)      (200)       739
                                      -------   -------    -------    -------   -------    -------    -------    -------
Change in net interest income .....   $ 5,188   $  (205)   $  (281)   $ 4,702   $   650    $  (217)   $    90    $   523
                                      =======   =======    =======    =======   =======    =======    =======    =======
</TABLE>

                                       6
<PAGE>

TABLE 3 - YIELD/COST ANALYSIS

<TABLE>
<CAPTION>
                                                                    Year Ended September 30,
                                              --------------------------------------------------------------------
                                                            2000                                1999
                                              --------------------------------    --------------------------------
                                                                      Average                             Average
                                               Average                 Yield/      Average                 Yield/
                                               Balance   Interest       Cost       Balance   Interest       Cost
<S>                                           <C>        <C>           <C>        <C>        <C>           <C>
Interest-earning assets:
   Loans receivable (1)                       $323,178   $ 28,491        8.81%    $220,123   $ 19,262        8.75%
   Investment securities                        18,487      1,284        6.95        4,484        319        7.11
   Mortgage-backed securities                   83,535      5,982        7.16       46,279      3,225        6.97
   Other Interest-earning assets                15,409      1,108        7.19        9,248        323        3.49
                                              --------   --------      ------     --------   --------      ------
      Total interest-earning assets            440,609     36,865        8.37      280,134     23,129        8.26
                                                         --------      ------                --------      ------
Non-interest-earning assets                     25,194                              13,026
                                              --------                            --------
      Total assets                            $465,803                            $293,160
                                              ========                            ========

Interest-bearing liabilities:
   Deposits                                   $395,475     18,309        4.63     $218,742      9,380        4.29
   FHLB advances                                11,046        558        5.05       10,885        549        5.04
   Other interest-bearing liabilities            3,471        146        4.21        1,815         50        2.75
                                              --------   --------      ------     --------   --------      ------
Total interest-bearing liabilities             409,992     19,013        4.64      231,442      9,979        4.31
                                                         --------      ------                --------      ------
Non-interest-bearing liabilities                 9,753                               8,688

   Total liabilities                           419,745                             240,130
   Stockholders' equity                         46,058                              53,030
                                              --------                            --------
      Total liabilities and retained income   $465,803                            $293,160
                                              ========                            ========
Net interest income                                      $ 17,852                            $ 13,150
                                                         ========                            ========
Interest rate spread (2)                                                 3.73%                               3.95%
                                                                       ======                              ======
Net yield on interest-earning assets (3)                                 4.05%                               4.69%
                                                                       ======                              ======
Ratio of average interest-earning assets
   to average interest bearing liabilities                             107.47%                             121.04%
                                                                       ======                              ======
<CAPTION>
                                                  Year Ended September 30,
                                              --------------------------------
                                                            1998
                                              --------------------------------
                                                                      Average
                                               Average                 Yield/
                                               Balance   Interest       Cost
<S>                                           <C>        <C>           <C>
Interest-earning assets:
   Loans receivable (1)                       $205,587   $ 18,888        9.19%
   Investment securities                         4,410        311        7.05
   Mortgage-backed securities                   31,565      2,290        7.25
   Other Interest-earning assets                 8,570        378        4.41
                                              --------   --------      ------
      Total interest-earning assets            250,132     21,867        8.74
                                                         --------      ------
Non-interest-earning assets                     11,278
                                              --------
      Total assets                            $261,410
                                              ========

Interest-bearing liabilities:
   Deposits                                   $193,061      9,096        4.71
   FHLB advances                                 1,071         64        5.98
   Other interest-bearing liabilities            1,944         80        4.12
                                              --------   --------      ------
Total interest-bearing liabilities             196,076      9,240        4.71
                                                         --------      ------
Non-interest-bearing liabilities                 7,445
                                              --------
   Total liabilities                           203,521
   Stockholders' equity                         57,889
                                              --------
      Total liabilities and retained income   $261,410
                                              ========
Net interest income                                      $ 12,627
                                                         ========
Interest rate spread (2)                                                 4.03%
                                                                       ======
Net yield on interest-earning assets (3)                                 5.05%
                                                                       ======
Ratio of average interest-earning assets
   to average interest bearing liabilities                             127.57%
                                                                       ======
</TABLE>

---------------------------------
     (1)  Includes classified loans.
     (2)  Represents   the    difference    between   the   average   yield   on
          interest-earning  assets  and the  average  cost of  interest  bearing
          liabilities.
     (3)  Represents the net interest income divided by average interest-earning
          assets.

                                       7
<PAGE>

ANALYSIS OF NET INTEREST INCOME

     Net interest income  represents the difference  between income derived from
interest-earning   assets  and  the   interest   expense   on   interest-bearing
liabilities.  Net  interest  income is affected by both the  difference  between
rates  of  interest  earned  on  interest-earning   assets  and  rates  paid  on
interest-bearing liabilities ("interest rate spread") and the relative volume of
interest-earning assets and interest-bearing liabilities.

     Table 3  above  sets  forth  certain  information  relating  to the  Bank's
statements  of financial  condition and  statements of operations  for the three
years ended September 30, 2000, 1999, and 1998 and reflects the yield on average
interest-earning assets and the cost of average interest-bearing liabilities for
the periods indicated. Average balances are derived from month end balances. The
Bank does not  believe  that the use of month end  balances  instead  of average
daily balances has caused any material difference in the information presented.

RESULTS OF OPERATIONS

Comparison of Financial Condition at September 30, 2000 and 1999

     Total assets increased to $559.7 million at September 30, 2000, from $292.3
million  at  September  30,  1999,  reflecting  the Green  Street  and  Triangle
acquisitions.

     Loans  receivable  (net of loan  loss  reserves  and  deferred  loan  fees)
increased  72.7% to $366.2 million at September 30, 2000, from $212.1 million at
September 30, 1999, reflecting the Green Street and Triangle acquisitions.

     In recent years,  the Bank has increased its emphasis on the origination of
both  secured  and  unsecured  commercial  and  consumer  loans in order to take
advantage of generally higher yields as well as shorter terms to maturity. Prior
thereto,  a majority of the loans  originated  by the Bank were  mortgage  loans
secured by single-family residences.  From time to time, the Bank sells selected
mortgage  loans in the  secondary  market in order to reduce  interest  rate and
credit risk, while retaining servicing to generate additional fee income.

     Commercial  loans  increased 55.3% to $137.9 million at September 30, 2000,
from $88.8  million at September 30, 1999.  Consumer  loans  increased  47.5% to
$75.0  million at September  30, 2000 from $50.8  million at September 30, 1999.
This growth reflects the Green Street and Triangle  acquisitions  and the Bank's
emphasis of structuring itself as a commercial banking entity.  Residential real
estate mortgage loans increased  109.1% to $159.3 million at September 30, 2000,
from  $76.2  million  at  September  30,  1999,   reflecting  the  Green  Street
acquisition  and the Bank's  origination  volume.  During fiscal 2000,  the Bank
originated $54.1 million of residential real estate mortgage loans,  compared to
$91.2 million  during fiscal 1999.  The Bank sold or exchanged  $62.8 million of
real estate loans during fiscal 1999,  compared to $86.1  million  during fiscal
1999.  Loans  serviced  for others were  $300.0  million at  September  30, 2000
compared to $275.3  million at September 30, 1999.  Commercial and consumer loan
originations  increased to $122.4 million during fiscal 2000, from $86.3 million
during fiscal 1999.

     Investment  securities and mortgage-backed  securities  increased to $153.7
million at September  30, 2000,  from $59.4  million at September  30, 1999.  In
order  to  support  its  growth,  the Bank has  implemented  various  investment
strategies  to increase its required  regulatory  levels.  During the year ended
September 30, 2000,  the Bank  increased  its  investment  securities  portfolio
(primarily U. S. Government and Agency securities) to $45.2 million, compared to
$3.0 million at September 30, 1999. In conjunction  with an investment  strategy
to  increase  its  regulatory  liquidity  levels,  during  this  period the Bank
securitized certain mortgage loans previously held for sale into mortgage-backed
securities,  resulting  in a  mortgage-backed  securities  portfolio  of  $108.5
million at September 30, 2000, compared to $56.3 million at September 30, 1999.

     Deposits  increased to $471.9  million at September  30, 2000,  from $234.6
million at September  30, 1999,  also  reflecting  the Green Street and Triangle
acquisitions  and the Bank's annual  internal  growth.  Certificates  of deposit
increased  95.1% to $339.3 million at September 30, 2000, from $173.9 million at
September 30, 1999. The Bank continues to emphasize  attracting  lower cost core
deposits,  as checking accounts  increased 106.6% to $110.6 million at September
30, 2000, from $53.5 million at September 30, 1999. Total  borrowings  increased
to $30.4 million at September 30, 2000, from $1.3 million at September 30, 1999.
Due to the volatility of short-term  interest rates during fiscal 2000, the Bank
relied more on FHLB advances as a funding source to help control its exposure to
interest rate risk, and to support its operations and liquidity requirements.

                                       8
<PAGE>

     Stockholders'  equity was $44.8 million at September 30, 2000,  compared to
$48.8  million  at  September  30,  1999.  The ratio of  equity to total  assets
decreased to 8.0% at  September  30,  2000,  from 16.7% at  September  30, 1999,
reflecting the leveraging effect of the Green Street and Triangle  acquisitions.
During the years ended  September 30, 2000 and 1999,  the Company  declared four
quarterly cash dividends each,  totaling $0.46 and $0.31 per share respectively.
These cash dividend payments reflect dividend payout ratios of basic earnings of
40.4% and 34.1%  respectively.  Future quarterly dividends will be determined at
the discretion of the Board of Directors  based upon  earnings,  the capital and
financial condition of the Company and general economic conditions.

     The  Company's  note  receivable  from the Employee  Stock  Ownership  Plan
("ESOP")  declined to $1.8 million at September  30, 2000,  from $2.3 million at
September   30,  1999,   reflecting   the  release  of  44,492  shares  to  ESOP
participants.  The note is reported as a reduction of  stockholders'  equity and
requires an annual  $349,000  principal  payment plus interest at prime plus one
percent.  Although  shares of common stock of the Company  secure the ESOP note,
the Bank expects to make  discretionary  contributions to the ESOP in amounts at
least equal to the required  principal and interest  payments.  At September 30,
2000, 181,858  unallocated  shares remained in the ESOP,  compared to 226,350 at
September 30, 1999.

     During fiscal 2000, the  Management  Recognition  Plan ("MRP"),  a deferred
stock awards plan  established  for the benefit of directors and officers of the
Company and the Bank, was terminated upon the distribution of all remaining plan
shares.  On April 8, 2000,  the  remaining  58,187 of awarded  plan  shares were
vested and  distributed  to  participants.  At September 30, 1999, the 58,187 of
awarded  shares  were  held in trust  for  future  vesting,  and  reported  as a
reduction in stockholders' equity as deferred stock awards.

     Pursuant to stock repurchase  programs adopted by the Company during fiscal
years 2000 and 1999,  the Company  acquired  390,066  and 595,301  shares of its
common stock,  respectively,  through open market and private purchases.  Shares
acquired under the repurchase program are being held as treasury stock, at cost.
At September 30, 2000,  treasury  shares were 1,203,569  totaling $23.0 million,
compared to 813,503  shares  totaling  $15.8 million at September 30, 1999.  The
Company  believes the repurchase of its  outstanding  common stock will increase
per share  earnings and book value,  provide an  attractive  investment  for the
Company's excess funds and decrease the potential  dilutive effect caused by the
future exercise of stock options.

Comparison of Operating Results for the Years Ended September 30, 2000 and 1999

     Net  Income.  Net  income  increased  to $3.5  million  for the year  ended
September  30, 2000,  from $3.2 million for the year ended  September  30, 1999.
Basic and diluted  earnings  per share  increased  to $1.14 and $1.13 per share,
respectively,  for the year ended  September  30,  2000,  compared  to $0.91 per
share,  respectively,  for the year ended September 30, 1999. The average number
of basic shares  outstanding (net of unearned ESOP, MRP and treasury shares) was
3,115,768 and 3,530,811,  respectively,  for the years ended  September 30, 2000
and 1999, reflecting the impact of the stock repurchase program.

     Interest  Income.  Interest  income  increased  59.4% to $36.9  million for
fiscal 2000, from $23.1 million for fiscal 1999. The increase in interest income
on loans and  investments  during 2000  results  principally  from the growth in
volume of average  interest-earning  assets attributable to the Green Street and
Triangle acquisitions.  The average balance of interest-earning assets increased
57.2% to $440.6  million for fiscal 2000,  from $280.1  million for fiscal 1999.
The yield on average  interest-earning  assets  increased to 8.4% for 2000, from
8.3% for 1999,  reflecting  the general  increase in short-term  interest  rates
during 2000.

     Interest  Expense.  Interest  expense  increased 90.5% to $19.0 million for
fiscal  2000,  from $10.0  million  for fiscal  1999.  The  increase in interest
expense on deposits  and  borrowings  during 2000 results  principally  from the
increased  volume of average  interest-bearing  liabilities  attributable to the
Green Street Triangle  acquisitions  and rising  short-term  interest rates. The
average  balance  of  interest-bearing  liabilities  increased  77.1% to  $410.0
million for fiscal  2000,  from  $231.4  million  for fiscal  1999.  The cost of
interest-bearing  liabilities  increased  to 4.6% for 2000,  from 4.3% for 1999,
reflecting the general increase in short-term interest rates during 2000.

     Net Interest  Income.  Net interest income increased 35.8% to $17.9 million
for fiscal  2000,  from $13.2  million  for fiscal  1999.  The  increase  in net
interest income is primarily due to the combination of the increases in both the
volume of  average  interest-earning  assets and  interest-bearing  liabilities,
offset by the general  increase in  short-term  interest  rates during 2000,  as
discussed above. The net yield on  interest-earning  assets declined to 4.1% for
fiscal 2000,

                                       9
<PAGE>

from 4.7% for  fiscal  1999.  See  Table 2  (Rate/Volume  Analysis)  and Table 3
(Yield/Cost  Analysis)  above for  additional  information  on interest  income,
interest expense, net interest income, average balances and yield/cost ratios.

     Provision  for Loan Losses.  The Bank  maintains an allowance for losses on
loans based upon  management's  evaluation of risks in the loan  portfolio,  the
Bank's  past loan loss  experience,  and current and  expected  future  economic
conditions.  The Bank  provided  $977,000  for loan losses  during  fiscal 2000,
compared to $120,000 for fiscal 1999. These provisions were necessary to support
the volume of loans acquired in the Green Street and Triangle transactions,  and
the risks  associated  with the  emphasis  placed upon  commercial  and consumer
lending.  The  allowance for loan losses was $5.2 million at September 30, 2000,
compared to $3.3  million at  September  30,  1999,  which the Bank  believes is
adequate  to  absorb  probable  losses in its loan  portfolio.  The ratio of the
allowance for loan losses to total loans, net of  loans-in-process  and deferred
loan fees,  was 1.4% at September  30, 2000,  compared to 1.5% at September  30,
1999.

     The Bank uses a systematic approach in determining the adequacy of its loan
loss  allowance  and  the  necessary  provision  for  loan  losses,   through  a
classification  of  assets  program,  whereby  the loan  portfolio  is  reviewed
generally, and delinquent loans are analyzed individually, on a quarterly basis.
Consideration is given to the loan status,  payment history,  repayment ability,
probability of repayment,  and  loan-to-value  percentages.  As a result of this
review and analysis,  loans are classified in appropriate  categories applicable
to their circumstances.  After reviewing current economic conditions, changes in
delinquency  status,  and actual  loan losses  incurred by the Bank,  management
establishes an  appropriate  reserve  percentage  applicable to each category of
assets,  and provision  for loan losses is recorded when  necessary to bring the
allowance to a level  consistent  with this  analysis.  The ratio of  classified
loans  to total  loans  was  1.4% at  September  30,  2000,  compared  to .3% at
September 30, 1999.

     Other Income. Other income increased 19.4% to $3.4 million for fiscal 2000,
from $2.9  million for fiscal 1999.  Other  income  consists of fees and service
charges earned on loans,  service charges on deposit accounts,  gains from sales
of  loans,  and  other  miscellaneous  income.  Loan  fees and  service  charges
increased  48.8% to $1.9 million for fiscal  2000,  from $1.3 million for fiscal
1999, reflecting the impact of the Green Street and Triangle acquisitions on the
growth of the  commercial and consumer loan  portfolios  and checking  accounts.
Gains from sales of loans and mortgage-backed  securities declined to $2,000 for
fiscal  2000  from   $566,000  for  fiscal   1999.   The  volume  of  loans  and
mortgage-backed  securities  sold or  exchanged  during 2000 was $62.8  million,
compared to $86.1  million for 1999,  reflecting  less sales or exchanges due to
the competitive  pricing in the secondary mortgage market.  Servicing fee income
on loans  serviced for others  increased to $771,000 for 2000 from  $762,000 for
1999, as loans serviced for others  increased to $300.0 million at September 30,
2000, from $275.3 million at September 30, 1999.

     General and Administrative  Expenses.  General and administrative  expenses
increased  37.5% to $14.1 million for fiscal 2000,  from $10.3 million in fiscal
1999.  The  Company's  efficiency  ratio  (noninterest  expenses  divided by net
interest income plus noninterest  income) was 66.2% for fiscal 2000, compared to
63.9%  for  fiscal  1999.  The  largest  single  component  of  these  expenses,
compensation  and fringe  benefits,  increased  24.3% to $8.6 million for fiscal
2000,   from  $6.9  million  for  fiscal  1999.  This  increase  is  principally
attributable to a 50.0% growth in personnel  resulting from the Green Street and
Triangle  acquisitions,  as full time equivalent  employees  increased to 198 at
September 30, 2000 from 132 at September 30, 1999.

     Other noninterest  expenses including deposit insurance premiums,  premises
and equipment,  repairs,  printing,  advertising and office  expenses  sustained
proportionate  incremental  increases  from 1999 to 2000,  supporting  the 91.5%
growth in assets from  September 30, 1999 to September  30, 2000.  During fiscal
2000, the Bank recognized  certain of these  noninterest  expenses in connection
with the  completion of the Green Street and Triangle  acquisitions,  as well as
completing its name change to First South Bank.

     Income Taxes.  The provision for income taxes increased to $2.7 million for
fiscal 2000 from $2.5  million for fiscal 1999.  The  increase in provision  for
income taxes is the result of the increased  pretax earnings of $6.2 million for
fiscal  2000,  from $5.6  million for fiscal 1999 and the  effective  income tax
rates for each period.

Comparison of Financial Condition at September 30, 1999 and 1998

     Total assets  increased 3.8% to $292.3 million at September 30, 1999,  from
$281.5 million at September 30, 1998. Loans receivable (net of loans-in-process,
deferred  fees and loan loss  reserves)  decreased  5.7%,  to $212.1  million at
September  30, 1999 from $225.0  million at September 30, 1998.  Investment  and
mortgage-backed  securities  increased  97.0%, to $59.4 million at September 30,
1999, from $30.1 million at September 30, 1998.

                                       10
<PAGE>

     Commercial  loans  increased  21.1% to $88.8 million at September 30, 1999,
from $73.3 million at September 30, 1998, and consumer  loans  increased 5.1% to
$50.8 million at September  30, 1999,  from $48.4 million at September 30, 1998.
Residential  real estate  mortgage  loans  decreased  28.9% to $76.2  million at
September 30, 1999,  from $107.3  million at September  30, 1998.  During fiscal
1999,  the Bank  originated  $91.2 million of residential  real estate  mortgage
loans, compared to $95.7 million during fiscal 1998. The Bank sold and exchanged
$86.1 million of real estate loans during fiscal 1999, compared to $54.1 million
during fiscal 1998.  Loans  serviced for others were $275.3 million at September
30, 1999,  compared to $250.2  million at September  30,  1998.  Commercial  and
consumer loan  originations  increased to $86.3 million during fiscal 1999, from
$77.4 million during fiscal 1998.

     Deposits  increased  14.7%,  to $234.6 million at September 30, 1999,  from
$204.6 million at September 30, 1998.  Certificates of deposits  increased 11.9%
to $173.9  million at September 30, 1999,  from $155.4  million at September 30,
1998, and checking  accounts  increased  24.8% to $53.5 million at September 30,
1999,  from $42.9  million at September  30, 1998.  Total  borrowings  were $1.3
million at September 30, 1999,  compared to $11.9 million at September 30, 1998,
supporting the Bank's liquidity  requirements and banking  operations during the
periods.

     Stockholders'  equity was $48.8 million at September 30, 1999,  compared to
$56.7  million at  September  30,  1998.  The ratio of equity to total assets at
September 30, 1999  declined to 16.7% from 19.9% at September  30, 1998.  During
the year ended  September 30, 1999,  the Company  declared four  quarterly  cash
dividends totaling $1.1 million, reflecting a dividend payout ratio of 34.1%.

     The  Company's  note  receivable  from the ESOP declined to $2.3 million at
September  30, 1999,  from $2.7 million at September  30, 1998,  reflecting  the
release of 42,359 shares to ESOP  participants.  At September 30, 1999,  226,350
unallocated  shares  remained in the ESOP.  During the year ended  September 30,
1999,  58,197 of the shares  awarded to MRP  participants  were vested,  and the
remaining  58,187  of the  awarded  shares  are being  held in trust for  future
vesting.

     Pursuant to the stock repurchase program, during fiscal years 1999 and 1998
the  Company   acquired   595,301  and  218,202  shares  of  its  common  stock,
respectively,  and are held as treasury stock.  At September 30, 1999,  treasury
shares were 813,503 totaling $15.8 million,  compared to 218,202 shares totaling
$4.9 million at September 30, 1998.

Comparison of Operating Results for the Years Ended September 30, 1999 and 1998

     Net  Income.  Net  income  increased  to $3.2  million  for the year  ended
September  30, 1999,  from $3.1 million for the year ended  September  30, 1998.
Basic and diluted  earnings per share increased 13.8% to $0.91 per share for the
year ended  September  30, 1999,  compared to $0.80 per share for the year ended
September 30, 1998. The average shares  outstanding  (net unearned ESOP, MRP and
treasury shares) was 3,530,811 and 3,876,813,  respectively, for the years ended
September 30, 1999 and 1998.

     Interest Income. Interest income increased 5.8% to $23.1 million for fiscal
1999,  from $21.9  million for fiscal 1998.  The increase in interest  income on
loans and investments during 1999 results  principally from the increased volume
of average  interest-earning  assets.  The average  balance of  interest-earning
assets  increased  12.0% to $280.1 million for fiscal 1999,  from $250.1 million
for fiscal 1998. The yield on average  interest-earning  assets declined to 8.3%
for 1999,  from 8.7% for 1998,  reflecting the general decline in interest rates
during 1999.

     Interest  Expense.  Interest  expense  increased  8.0% to $9.9  million for
fiscal 1999, from $9.2 million for fiscal 1998.  This also resulted  principally
from the increased volume of average interest-bearing  liabilities.  The average
balance of  interest-bearing  liabilities  increased 18.0% to $231.4 million for
fiscal 1999,  from $196.1 million for fiscal 1998. The cost of  interest-bearing
liabilities  declined to 4.3% for 1999,  from 4.7% for 1998, also reflecting the
general decline in interest rates during 1999.

     Net Interest  Income.  Net interest income  increased 4.1% to $13.2 million
for the year ended  September  30, 1999,  from $12.6  million for the year ended
September 30, 1998.

     Provision for Loan Losses. The Bank provided $120,000 and $310,000 for loan
losses  during the years ended  September 30, 1999 and 1998,  respectively.  The
allowance  for loan losses was $3.3 million at September  30, 1999,  compared to
$3.4 million at September  30, 1998.  The ratio of the allowance for loan losses
to total loans was 1.5% at September 30, 1999 and 1998.  The ratio of classified
loans to total loans was 0.4% at September 30, 1999 and 1998.

                                       11
<PAGE>

     Other Income.  Other income increased 8.6% to $2.9 million for fiscal 1999,
from $2.6  million for fiscal 1998.  Other  income  consists of fees and service
charges earned on loans,  service charges on deposit accounts,  gains from sales
of  loans,  and  other  miscellaneous  income.  Loan  fees and  service  charges
increased  28.5% to $1.3 million for fiscal 1999 from  $985,000 for fiscal 1998,
reflecting the growth in the loan portfolio and checking  accounts  during 1999.
Gains from sales of loans and  mortgage-backed  securities  declined to $560,000
for  fiscal  1999,  from  $796,000  for  fiscal  1998.  The  volume of loans and
mortgage-backed  securities  sold or  exchanged  during 1999 was $86.1  million,
compared to $54.1 million for 1998.  Servicing fee income on loans  serviced for
others was $762,000 for 1999,  compared to $637,000 for 1998, as loans  serviced
for others  increased  9.2% to $275.3  million at September 30, 1999 from $250.2
million at September 30, 1998.

     General and Administrative  Expenses.  General and administrative  expenses
increased  3.2% to $10.3  million for fiscal  1999,  from $9.9 million in fiscal
1997. The Company's  efficiency  ratio  improved to 63.9% for fiscal 1999,  from
65.1% for fiscal 1998.

     The largest single  component of these  expenses,  compensation  and fringe
benefits,  declined 4.4% to $6.9 million for fiscal 1999,  from $7.2 million for
fiscal 1998.  During fiscal 1998, the benefits expense for the MRP plan declined
29.4% to $1.3  million,  from  $1.9million  for fiscal 1998.  The Bank  recorded
$854,000  in  benefits  expense  for the ESOP in fiscal  1999,  compared to $1.9
million for fiscal 1998. Other noninterest  expenses including deposit insurance
premiums,  premises and equipment,  advertising  and office  expenses  sustained
marginal incremental  increases from 1998 to 1999,  supporting a 17.3% growth in
assets from September 30, 1997 to September 30, 1999.

     Income Taxes.  The provision for income taxes increased to $2.5 million for
fiscal 1999 from $1.9  million for fiscal 1998.  The  increase in provision  for
income  taxes is the result of  increased  pretax  earnings to $5.6  million for
fiscal  1999,  from $5.0  million for fiscal 1998 and the  effective  income tax
rates then in effect.

IMPACT OF INFLATION AND CHANGING PRICES

     The financial  statements of the Bank and accompanying  footnotes have been
prepared in accordance  with  generally  accepted  accounting  principles.  They
require the measurement of financial  position and operating results in terms of
historical  dollars without  considering  the change in the relative  purchasing
power of money  over  time and due to  inflation.  The  impact of  inflation  is
reflected in the increased cost of the Bank's operations. Unlike most industrial
companies,  nearly all the assets and liabilities of the Bank are monetary. As a
result,  interest rates have a greater impact on the Bank's  performance than do
the effects of general levels of inflation.  Interest  rates do not  necessarily
move in the same  direction  or to the same  extent  as the  price of goods  and
services.

YEAR 2000

     Neither the Company nor the Bank  experienced  any problems  related to the
Year 2000  ("Y2K")  issue.  Much  information  was  published  about the  global
computer problems that could occur in the year 2000. Many computer programs that
only  distinguish  two digits of the year entered were  expected to read entries
for the year 2000 as the year 1900 and compute payment,  interest or delinquency
based on the wrong  date,  or were  expected  to be unable to  compute  payment,
interest or delinquency.

     In compliance with regulatory  guidelines,  the Bank formed a Y2K committee
to review  the  effects  the  century  date  change  could  have on all  current
operating  systems and to assess the  potential  risks  associated  with the Y2K
issue. A formal Y2K strategic plan and contingency plan were developed to insure
those problems and disruptions related to the Y2K issue were minimized.

     A national third party service bureau,  Bisys, Inc.  ("Bisys") provides all
material data processing  functions of the Bank that could have been impacted by
Y2K.  Bisys  dedicated  significant  resources  in assuring  its systems are Y2K
compliant and in developing a comprehensive  testing and  verification  program.
The  Bisys  client  test  facility  provided  the Bank with  end-to-end  testing
capabilities of all its hardware, software and related interfaces. All Bank user
departments   successfully  completed  testing  their  system  applications  and
business resumption  contingency plans,  assuring validation of the century date
change and system readiness.  Additional  testing also took place with all other
external mission critical  information  systems and relationships with which the
Bank exchanges data or information. The Bank believes this readiness resulted in
uninterrupted operations related to Y2K.

                                       12
<PAGE>

     In addressing  Y2K, the Bank used its current  internal  staff with limited
reliance on outside resources. Bisys provided remediated host system software at
no expense to the Bank and no major system or software  needs  replacing  due to
Y2K.  The Bank  believes  the cost of  addressing  the Y2K issue had no material
impact  on  its  results  of  operations,   liquidity,   capital  resources,  or
uncertainty  that  would  cause  its  reported  financial  condition  not  to be
necessarily  indicative of future operating results or financial  condition.  In
addition,  the Bank believes it will incur no additional  costs  relating to the
Y2K issue. The Bank will continue to monitor its data processing systems and its
customers and vendors to insure  preparedness for any unprecedented  delayed Y2K
related problems

FORWARD LOOKING STATEMENTS

     The  Private  Securities  Litigation  Reform  Act of 1995  states  that the
disclosure  of forward  looking  information  is  desirable  for  investors  and
encourages  such  disclosure  by  providing a safe  harbor for  forward  looking
statements by corporate management.  This Annual Report, including the Letter to
Stockholders and Management's Discussion and Analysis of Financial Condition and
Results of Operations, contains forward looking statements that involve risk and
uncertainty.  In order to comply with the terms of the safe harbor,  the Company
notes that a variety of risks and  uncertainties  could cause its actual results
and  experience  to differ  materially  from the  anticipated  results  or other
expectations  expressed in the Company's forward looking  statements.  There are
risks  and   uncertainties   that  may  affect  the   operations,   performance,
development,  growth  projections  and results of the Company's  business.  They
include,  but are not limited to,  economic  growth,  interest  rate  movements,
timely  development  of  technology  enhancements  for  products,  services  and
operating  systems,  the impact of competitive  products,  services and pricing,
customer requirements,  regulatory changes and similar matters.  Readers of this
report are cautioned not to place undue reliance on forward  looking  statements
that are subject to influence by these risk  factors and  unanticipated  events.
Accordingly,   actual   results   may  differ   materially   from   management's
expectations.

                                       13
<PAGE>

                        REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors
First South Bancorp, Inc.
Washington, North Carolina

In our opinion, the accompanying  consolidated statements of financial condition
and the related consolidated  statements of operations,  of stockholders' equity
and of cash flows  present  fairly,  in all  material  respects,  the  financial
position  of First  South  Bancorp,  Inc.  and  Subsidiary  (the  "Company")  at
September 30, 2000 and 1999, and the results of their  operations and their cash
flows for each of the three years in the period ended  September  30,  2000,  in
conformity with accounting principles generally accepted in the United States of
America.  These  financial  statements are the  responsibility  of the Company's
management;  our  responsibility  is to express  an  opinion on these  financial
statements  based on our audits.  We conducted our audits of these statements in
accordance with auditing  standards  generally  accepted in the United States of
America,  which require that we plan and perform the audit to obtain  reasonable
assurance   about  whether  the  financial   statements  are  free  of  material
misstatement.  An audit includes examining, on a test basis, evidence supporting
the  amounts  and  disclosures  in  the  financial  statements,   assessing  the
accounting  principles  used and significant  estimates made by management,  and
evaluating the overall  financial  statement  presentation.  We believe that our
audits provide a reasonable basis for the opinion expressed above.

/s/ PricewaterhouseCoopers LLP
October 27, 2000
Raleigh, North Carolina

                                       14
<PAGE>

<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
SEPTEMBER 30, 2000 AND 1999
-------------------------------------------------------------------------------------------------------

              ASSETS                                                         2000             1999
<S>                                                                     <C>              <C>
Cash and due from banks                                                 $  13,124,356    $   5,375,856
Interest-bearing deposits in financial institutions                         1,617,084        4,034,076
Investment securities - available for sale                                 45,186,391        3,024,531
Mortgage-backed securities - available for sale                           108,518,700       56,325,868
Loans receivable, net:
   Held for sale                                                           32,443,106       13,481,714
   Held for investment                                                    333,766,510      198,572,216
Premises and equipment, net                                                 7,022,819        3,575,974
Deferred income taxes                                                       2,882,886        2,314,930
Real estate owned                                                             220,004          591,144
Federal Home Loan Bank of Atlanta stock, at cost
   which approximates market                                                2,651,300        1,460,200
Accrued interest receivable                                                 3,784,177        2,022,055
Intangible assets                                                           5,044,421          209,090
Other assets                                                                2,060,842        1,317,817
Note receivable                                                             1,396,051               --
                                                                        -------------    -------------
         Total assets                                                   $ 559,718,647    $ 292,305,471
                                                                        =============    =============

              LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits:
   Demand                                                               $ 110,592,166    $  53,525,231
   Savings                                                                 22,069,124        7,220,337
   Large denomination certificates of deposit                              56,336,303       31,399,212
   Other time                                                             282,944,074      142,473,215
                                                                        -------------    -------------
         Total deposits                                                   471,941,667      234,617,995
Borrowed money                                                             30,387,551        1,318,340
Other liabilities                                                          12,554,694        7,606,103
                                                                        -------------    -------------
         Total liabilities                                                514,883,912      243,542,438

Commitments and contingencies (Notes 10 and 14)

Common stock, $.01 par value, 8,000,000 shares authorized,
   4,364,044 shares issued and outstanding                                     43,640           43,640
Additional paid-in capital                                                 44,583,318       44,232,010
Retained earnings, substantially restricted                                26,327,863       24,197,767
Treasury stock at cost, 1,203,569 and 813,503 shares at September 30,
   2000 and 1999, respectively                                            (23,039,101)     (15,770,962)
Unearned ESOP shares, 181,858 and 226,350 shares at September 30,
   2000 and 1999, respectively                                             (1,818,578)      (2,263,500)
Deferred stock awards                                                              --         (783,392)
Accumulated other comprehensive (loss), net                                (1,262,407)        (892,530)
                                                                        -------------    -------------
         Total stockholders' equity                                        44,834,735       48,763,033
                                                                        -------------    -------------
         Total liabilities and stockholders' equity                     $ 559,718,647    $ 292,305,471
                                                                        =============    =============
</TABLE>

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

                                       15
<PAGE>

<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF OPERATIONS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
YEARS ENDED SEPTEMBER 30, 2000, 1999 AND 1998
----------------------------------------------------------------------------------------------------

                                                            2000            1999            1998
<S>                                                     <C>             <C>             <C>
Interest income:
   Interest and fees on loans                           $ 28,491,128    $ 19,261,766    $ 18,888,253
   Interest and dividends on investments and deposits      8,373,756       3,867,259       2,978,655
                                                        ------------    ------------    ------------
         Total interest income                            36,864,884      23,129,025      21,866,908
                                                        ------------    ------------    ------------

Interest expense:
   Interest on deposits                                   18,309,033       9,379,641       9,096,290
   Interest on borrowings                                    703,647         599,422         143,342
                                                        ------------    ------------    ------------
         Total interest expense                           19,012,680       9,979,063       9,239,632
                                                        ------------    ------------    ------------

Net interest income before provision for loan losses      17,852,204      13,149,962      12,627,276
Provision for loan losses                                    977,000         120,000         310,000
                                                        ------------    ------------    ------------
         Net interest income                              16,875,204      13,029,962      12,317,276
                                                        ------------    ------------    ------------
Other income:
   Loan fees and service charges                           1,883,646       1,265,974         985,439
   Loan servicing fees                                       771,093         762,125         637,480
   Gain on sale of real estate, net                          119,331          61,027          28,478
   Gain on sale of mortgage loans and mortgage-backed
      securities                                               1,706         560,469         796,004
   Other income                                              656,363         224,118         198,647
                                                        ------------    ------------    ------------
         Total other income                                3,432,139       2,873,713       2,646,048
                                                        ------------    ------------    ------------
General and administrative expenses:
   Compensation and fringe benefits                        8,602,946       6,924,085       7,239,911
   Federal insurance premiums                                 95,382         123,431         113,646
   Premises and equipment                                  1,299,158         501,270         356,550
   Advertising                                               204,735         137,806         134,978
   Payroll and other taxes                                   709,909         520,656         417,140
   Other                                                   3,188,355       2,047,568       1,677,841
                                                        ------------    ------------    ------------
         Total general and administrative expenses        14,100,485      10,254,816       9,940,066
                                                        ------------    ------------    ------------

Income before income taxes                                 6,206,858       5,648,859       5,023,258

Income taxes                                               2,657,826       2,452,713       1,899,900
                                                        ------------    ------------    ------------

NET INCOME                                                 3,549,032       3,196,146       3,123,358

Other comprehensive (loss) income, net                      (369,877)     (1,378,776)        185,928
                                                        ------------    ------------    ------------

Comprehensive income                                    $  3,179,155    $  1,817,370    $  3,309,286
                                                        ============    ============    ============

Net income per common share:
   Basic                                                $       1.14    $        .91    $        .80
                                                        ============    ============    ============

   Diluted                                              $       1.13    $        .91    $        .80
                                                        ============    ============    ============
</TABLE>

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

                                       16
<PAGE>

<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
YEARS ENDED SEPTEMBER 30, 2000, 1999 AND 1998
------------------------------------------------------------------------------------------------------------------------
                                                                                             RETAINED
                                                                            ADDITIONAL       EARNINGS,       UNEARNED
                                               COMMON         PAID-IN     SUBSTANTIALLY      TREASURY          ESOP
                                                STOCK         CAPITAL       RESTRICTED         STOCK          SHARES
                                            ------------   ------------    ------------    ------------    ------------
<S>                                         <C>            <C>             <C>             <C>             <C>
BALANCE, OCTOBER 1, 1997                    $     29,095   $ 42,654,054    $ 20,041,635    $         --    $ (3,118,984)
Three for two stock split effected in the
   form of a 50% stock dividend                   14,545             --         (14,545)             --              --
Net income                                            --             --       3,123,358              --              --
Fractional shares paid                                --             --          (4,652)             --              --
Other comprehensive income, net of taxes              --             --              --              --              --
Acquisition of shares for MRP                         --             --              --              --              --
Change in market value of deferred stock              --        753,959              --              --              --
MRP amortization                                      --             --              --              --              --
Acquisition of treasury shares                        --             --              --      (4,895,754)             --
Dividends ($.27 per share)                            --             --      (1,054,553)             --              --
Release of ESOP shares                                --        393,974              --              --         431,891
                                            ------------   ------------    ------------    ------------    ------------

BALANCE, SEPTEMBER 30, 1998                       43,640     43,801,987      22,091,243      (4,895,754)     (2,687,093)
Net income                                            --             --       3,196,146              --              --
Other comprehensive loss, net of taxes                --             --              --              --              --
MRP amortization                                      --             --              --              --              --
Acquisition of treasury shares                        --             --              --     (10,875,208)             --
Dividends ($.31 per share)                            --             --      (1,089,622)             --              --
Release of ESOP shares                                --        430,023              --              --         423,593
                                            ------------   ------------    ------------    ------------    ------------

BALANCE, SEPTEMBER 30, 1999                       43,640     44,232,010      24,197,767     (15,770,962)     (2,263,500)
Net income                                            --             --       3,549,032              --              --
Other comprehensive loss, net of taxes                --             --              --              --              --
MRP amortization                                      --        (57,700)             --              --              --
Acquisition of treasury shares                        --             --              --      (7,268,139)             --
Dividends ($.46 per share)                            --             --      (1,418,936)             --              --
Release of ESOP shares                                --        409,008              --              --         444,922
                                            ------------   ------------    ------------    ------------    ------------

BALANCE, SEPTEMBER 30, 2000                 $     43,640   $ 44,583,318    $ 26,327,863    $(23,039,101)   $ (1,818,578)
                                            ============   ============    ============    ============    ============

<CAPTION>
                                                            ACCUMULATED
                                                               OTHER
                                               DEFERRED    COMPREHENSIVE
                                                STOCK      INCOME (LOSS),
                                               AWARDS           NET            TOTAL
                                            ------------   ------------    ------------
<S>                                         <C>            <C>             <C>
BALANCE, OCTOBER 1, 1997                    $ (2,050,531)  $    300,318    $ 57,855,587
Three for two stock split effected in the
   form of a 50% stock dividend                       --             --              --
Net income                                            --             --       3,123,358
Fractional shares paid                                --             --          (4,652)
Other comprehensive income, net of taxes              --        185,928         185,928
Acquisition of shares for MRP                 (1,224,768)            --      (1,224,768)
Change in market value of deferred stock        (753,959)            --              --
MRP amortization                               1,902,959             --       1,902,959
Acquisition of treasury shares                        --             --      (4,895,754)
Dividends ($.27 per share)                            --             --      (1,054,553)
Release of ESOP shares                                --             --         825,865
                                            ------------   ------------    ------------

BALANCE, SEPTEMBER 30, 1998                   (2,126,299)       486,246      56,713,970
Net income                                            --             --       3,196,146
Other comprehensive loss, net of taxes                --     (1,378,776)     (1,378,776)
MRP amortization                               1,342,907             --       1,342,907
Acquisition of treasury shares                        --             --     (10,875,208)
Dividends ($.31 per share)                            --             --      (1,089,622)
Release of ESOP shares                                --             --         853,616
                                            ------------   ------------    ------------

BALANCE, SEPTEMBER 30, 1999                     (783,392)      (892,530)     48,763,033
Net income                                            --             --       3,549,032
Other comprehensive loss, net of taxes                --       (369,877)       (369,877)
MRP amortization                                 783,392             --         725,692
Acquisition of treasury shares                        --             --      (7,268,139)
Dividends ($.46 per share)                            --             --      (1,418,936)
Release of ESOP shares                                --             --         853,930
                                            ------------   ------------    ------------

BALANCE, SEPTEMBER 30, 2000                 $         --   $ (1,262,407)   $ 44,834,735
                                            ============   ============    ============
</TABLE>

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

                                       17
<PAGE>

<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF CASH FLOWS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
YEARS ENDED SEPTEMBER 30, 2000, 1999 AND 1998
--------------------------------------------------------------------------------------------------------------

                                                                   2000             1999             1998
<S>                                                           <C>              <C>              <C>
Operating activities:
   Net income                                                 $   3,549,032    $   3,196,146    $   3,123,358
   Adjustments to reconcile net income to net cash
      used in operating activities:
         Provision for loan losses                                  977,000          120,000          310,000
         Depreciation                                               421,233          289,150          172,844
         ESOP compensation                                          853,930          853,616          825,865
         MRP compensation                                           725,692        1,342,907        1,902,959
         Accretion of discounts on securities                       692,235              371              372
         Provision for (benefit from) deferred income taxes        (321,370)        (825,748)         132,438
         Gain on disposal of premises and equipment and
            real estate acquired in settlement of loans            (119,331)         (64,373)         (34,259)
         Gain on sale of mortgage loans and  mortgage-
            backed securities                                        (1,706)        (560,469)        (796,004)
         Originations of loans held for sale, net               (46,229,695)     (60,777,625)     (66,892,933)
         Proceeds from sale of loans held for sale                       --       40,597,010       36,106,871
         Other operating activities                               2,415,094         (337,366)       3,327,998
                                                              -------------    -------------    -------------
            Net cash used in operating activities               (37,037,886)     (16,166,381)     (21,820,491)
                                                              -------------    -------------    -------------
Investing activities:
   Proceeds from maturities of investment securities
      available for sale                                          3,000,000               --               --
   Purchases of investment securities                           (46,050,000)              --               --
   Proceeds from principal repayments and sales of
      mortgage-backed securities available for sale              10,175,821       14,141,098       16,314,270
   Originations of loans held for investment, net
      of principal repayments                                   (20,480,237)     (12,863,836)     (14,631,404)
   Proceeds from disposal of premises and equipment
      and real estate acquired in settlement of loans               911,869          655,821          441,237
   Purchases of FHLB stock                                          (43,600)         (96,400)         (76,300)
   Purchases of premises and equipment                           (1,614,712)        (312,919)        (916,865)
   Repayment of note receivable                                       3,949               --               --
   Net cash to purchase Green Street Financial Corp.            (26,530,907)              --               --
   Acquisition of Triangle Bancorp, Inc. branches               113,760,993               --               --
                                                              -------------    -------------    -------------
            Net cash provided by investing activities            33,133,176        1,523,764        1,130,938
                                                              -------------    -------------    -------------
Financing activities:
   Net (decrease) increase in deposit accounts                   (8,461,007)      29,982,910       29,519,297
   Proceeds from FHLB borrowings                                125,200,000       61,000,000       46,000,000
   Repayments of  FHLB borrowings                              (101,200,000)     (70,500,000)     (47,500,000)
   Purchase of treasury shares                                   (7,268,139)     (10,875,208)      (4,895,754)
   MRP funding                                                           --               --       (1,224,768)
   Cash paid for fractional shares                                       --               --           (4,652)
   Cash dividends paid                                           (1,418,936)      (1,089,622)      (1,045,908)
   Net change in escrow accounts                                     (4,442)        (362,793)         269,129
   Net change in repurchase agreements                            2,388,742       (1,114,579)         811,799
                                                              -------------    -------------    -------------
            Net cash provided by financing activities             9,236,218        7,040,708       21,929,143
                                                              -------------    -------------    -------------

Increase (decrease) in cash and cash equivalents                  5,331,508       (7,601,909)       1,239,590
Cash and cash equivalents, beginning of year                      9,409,932       17,011,841       15,772,251
                                                              -------------    -------------    -------------

Cash and cash equivalents, end of year                        $  14,741,440    $   9,409,932    $  17,011,841
                                                              =============    =============    =============
</TABLE>

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

                                       18
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

1.   BASIS OF PRESENTATION AND ACCOUNTING POLICIES

     ORGANIZATION AND NATURE OF OPERATIONS

     First  South  Bancorp,  Inc.  (the  "Company")  is a bank  holding  company
     incorporated under the laws of the State of Virginia. First South Bank (the
     "Bank"),  the wholly  owned  subsidiary  of the Company,  is organized  and
     incorporated  under  the laws of the state of North  Carolina.  The Bank is
     regulated  by the  Federal  Deposit  Insurance  Corporation  and the  North
     Carolina Office of the Commissioner of Banks.

     The consolidated  financial  statements include the accounts of the Company
     and its  wholly-owned  subsidiary,  the Bank. All significant  intercompany
     balances and transactions have been eliminated in consolidation.

     The  accounting  and reporting  policies of the Company and the Bank follow
     accounting  principles  generally  accepted in the United States of America
     and general practices within the financial  services industry as summarized
     below.

     CASH AND CASH EQUIVALENTS

     Cash and cash equivalents  include demand and time deposits (with remaining
     maturities  of ninety days or less at time of purchase) at other  financial
     institutions and federal funds sold. Generally, federal funds are purchased
     and sold for one-day periods.

     INVESTMENTS AND MORTGAGE-BACKED SECURITIES

     Investments in certain  securities are classified into three categories and
     accounted  for as  follows:  (1) debt  securities  that the  entity has the
     positive  intent and the  ability to hold to  maturity  are  classified  as
     held-to-maturity  and  reported  at  amortized  cost;  (2) debt and  equity
     securities that are bought and held  principally for the purpose of selling
     them in the near term are classified as trading  securities and reported at
     fair value, with unrealized gains and losses included in earnings; (3) debt
     and equity securities not classified as either held-to-maturity  securities
     or trading  securities are classified as available for sale  securities and
     reported at fair value,  with  unrealized  gains and losses  excluded  from
     earnings and reported as accumulated other comprehensive income, a separate
     component of equity.  As of September 30, 2000, the Bank has classified all
     investments as available for sale.

     Premiums and discounts on debt securities are recognized in interest income
     using the interest method over the period to maturity.

     Mortgage-backed  securities represent  participating  interests in pools of
     long-term first mortgage loans.  Premiums and discounts are amortized using
     the interest  method over the  remaining  period to  contractual  maturity,
     adjusted for anticipated prepayments.

     Gains and  losses on the sale of  securities  are  determined  by using the
     specific identification method.

     LOANS RECEIVABLE AND ALLOWANCE FOR LOAN LOSSES

     Loans  receivable  held for  investment  are stated at the amount of unpaid
     principal,  reduced  by an  allowance  for  loan  losses  and net  deferred
     origination  fees.  Interest  on loans is  accrued  based on the  principal
     amount outstanding and is recognized using the interest method. The accrual
     of interest is  discontinued,  and accrued but unpaid  interest is reversed
     when, in management's judgment, it is determined that the collectibility of
     interest,  but not  necessarily  principal,  is doubtful.  Generally,  this
     occurs when payment is delinquent in excess of ninety days.

                                       19
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

     Loan origination  fees, as well as certain direct loan  origination  costs,
     are deferred.  Such costs and fees are recognized as an adjustment to yield
     over the  contractual  lives of the related  loans  utilizing  the interest
     method.

     Commitment  fees to originate or purchase  loans are  deferred,  and if the
     commitment  is  exercised,  recognized  over  the  life  of the  loan as an
     adjustment of yield. If the commitment expires unexercised, commitment fees
     are  recognized  in income  upon  expiration  of the  commitment.  Fees for
     originating  loans for other financial  institutions are recognized as loan
     fee income.

     A loan is considered impaired,  based on current information and events, if
     it is  probable  that the Bank  will be  unable to  collect  the  scheduled
     payments of principal  or interest  when due  according to the  contractual
     terms  of the loan  agreement.  Uncollateralized  loans  are  measured  for
     impairment  based  on the  present  value of  expected  future  cash  flows
     discounted  at  the  historical   effective   interest   rate,   while  all
     collateral-dependent  loans are measured for  impairment  based on the fair
     value of the  collateral.  At September  30, 2000 and 1999,  and during the
     three  years ended  September  30,  2000,  there were no  individual  loans
     material to the  consolidated  financial  statements  which were defined as
     impaired.

     The Bank uses several  factors in  determining  if a loan is impaired.  The
     internal  asset  classification  procedures  include a  thorough  review of
     significant loans and lending relationships and include the accumulation of
     related data. This data includes loan payment status,  borrowers' financial
     data and borrowers' operating factors such as cash flows,  operating income
     or loss, etc.

     The  allowance  for loan  losses is  increased  by  charges  to income  and
     decreased  by  charge-offs  (net  of  recoveries).   Management's  periodic
     evaluation  of the  adequacy of the  allowance  is based on the Bank's past
     loan loss  experience,  known and inherent risks in the portfolio,  adverse
     situations that may affect the borrower's  ability to repay,  the estimated
     value of any underlying collateral, and current economic conditions.  While
     management  believes  that it has  established  the allowance in accordance
     with  accounting  principles  generally  accepted  in the United  States of
     America  and has taken into  account  the views of its  regulators  and the
     current economic environment,  there can be no assurance that in the future
     the Bank's  regulators or risks in its portfolio  will not require  further
     increases in the allowance.

     LOANS HELD FOR SALE

     Loans  originated and intended for sale are carried at the lower of cost or
     aggregate estimated market value. Net unrealized losses are recognized in a
     valuation  allowance  by charges  to  income.  Gains and losses on sales of
     whole or participating interests in real estate loans are recognized at the
     time of  sale  and are  determined  by the  difference  between  net  sales
     proceeds  and  the  Bank's  basis  of the  loans  sold,  adjusted  for  the
     recognition of any servicing assets retained.

     INCOME RECOGNITION ON IMPAIRED AND NONACCRUAL LOANS

     Loans,  including impaired loans, are generally classified as nonaccrual if
     they are past due as to maturity or payment of  principal or interest for a
     period of more than 90 days,  unless such loans are well-secured and in the
     process of  collection.  If a loan or a portion of a loan is  classified as
     doubtful or is partially  charged off, the loan is generally  classified as
     nonaccrual.  Loans  that are on a current  payment  status or past due less
     than 90 days may also be  classified  as nonaccrual if repayment in full of
     principal and/or interest is in doubt.

     Loans may be returned to accrual  status when all  principal  and  interest
     amounts contractually due (including  arrearages) are reasonably assured of
     repayment within an acceptable period of time, and

                                       20
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

     there is a sustained period of repayment  performance  (generally a minimum
     of six months) by the borrower, in accordance with the contractual terms of
     interest and principal.

     While a loan is classified as nonaccrual and the future  collectibility  of
     the  recorded  loan  balance  is  doubtful,  collections  of  interest  and
     principal  are generally  applied as a reduction to principal  outstanding,
     except in the case of loans with scheduled  amortization  where the payment
     is  generally   applied  to  the  oldest   payment  due.  When  the  future
     collectibility  of the recorded loan balance is expected,  interest  income
     may be  recognized  on a cash basis  limited to that which  would have been
     recognized on the recorded loan balance at the  contractual  interest rate.
     Receipts  in  excess of that  amount  are  recorded  as  recoveries  to the
     allowance  for  loan  losses  until  prior   charge-offs  have  been  fully
     recovered.

     MORTGAGE SERVICING RIGHTS

     The Company  accounts for its mortgage  servicing assets in accordance with
     Statement of Financial  Accounting  Standards ("SFAS") No. 125, "Accounting
     for  Transfers  and Servicing of Financial  Assets and  Extinguishments  of
     Liabilities."  Impairments  of servicing  assets are  evaluated  through an
     assessment  of the  fair  value  of  those  assets  using a  disaggregated,
     discounted cash flows method under which the assets are disaggregated  into
     various strata, based on predominant risk characteristics. The net carrying
     value  of each  stratum,  based on  predominant  risk  characteristics,  is
     compared to its  discounted  estimated  future net cash flows to  determine
     whether  adjustments  should be made to  carrying  values  or  amortization
     schedules.  Impairment  of  a  servicing  asset  is  recognized  through  a
     valuation  allowance  and a  charge  to  current-period  earnings  if it is
     considered to be temporary,  or,  through a direct  write-down of the asset
     and a charge to  current-period  earnings  if it is  considered  other than
     temporary. The predominant risk characteristics of the underlying loan that
     are used to satisfy the servicing  assets and  liabilities  for measurement
     purposes  generally  include the (1) loan origination  date, (2) loan rate,
     (3) loan type and size and (4) loan maturity date.

     PREMISES AND EQUIPMENT

     Premises and equipment are stated at cost less accumulated depreciation and
     amortization.   Depreciation   and   amortization   are   computed  by  the
     straight-line  and accelerated  methods based on estimated service lives of
     assets.  Useful  lives  range  from 10 to 40 years  for  substantially  all
     premises and from 3 to 20 years for equipment and fixtures.

     REAL ESTATE OWNED

     Assets acquired  through loan foreclosure are recorded as real estate owned
     ("REO")  at the lower of the  estimated  fair  value of the  property  less
     estimated  costs to sell at the date of foreclosure or the carrying  amount
     of  the  loan  plus  unpaid  accrued  interest.   The  carrying  amount  is
     subsequently reduced by additional allowances which are charged to earnings
     if the  estimated  fair value  declines  below its  initial  value plus any
     capitalized  costs.  Costs related to the  improvement  of the property are
     capitalized, whereas costs related to holding the property are expensed.

     INVESTMENT IN FEDERAL HOME LOAN BANK STOCK

     The Bank is required  to invest in stock of the  Federal  Home Loan Bank of
     Atlanta ("FHLB") in the amount of 1% of its outstanding home loans or 5% of
     its outstanding  advances from the FHLB, whichever is greater. At September
     30, 2000 and 1999, respectively, the Bank owned 26,513 and 14,602 shares of
     the FHLB's $100 par value capital stock.

                                       21
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

     INTANGIBLE ASSETS

     Intangible  assets  consist  primarily of goodwill and are being  amortized
     over ten years using the straight-line method.

     INCOME TAXES

     Deferred tax asset and liability  balances are determined by application to
     temporary  differences  of the tax rate expected to be in effect when taxes
     will become payable or receivable.  Temporary  differences  are differences
     between the tax basis of assets and liabilities and their reported  amounts
     in the  financial  statements  that will  result in taxable  or  deductible
     amounts in future  years.  The effect on deferred  taxes of a change in tax
     rates is  recognized  in income in the period that  includes the  enactment
     date.

     STOCK SPLIT

     On July 16, 1998, the Company declared a three-for-two  stock split, in the
     form of a 50% stock  dividend,  payable August 19, 1998, to stockholders of
     record on July 31,  1998.  Stockholders  received one  additional  share of
     common stock for every two shares held on the record date. All prior period
     share and per share data have been adjusted for the split.

     RECLASSIFICATIONS

     Certain  items  included  in  the  1999  financial   statements  have  been
     reclassified to conform to the 2000 presentation.  These  reclassifications
     have no  effect  on the  net  income  or  stockholders'  equity  previously
     reported.

     COMPREHENSIVE INCOME

     The Company  adopted  SFAS No. 130,  "Reporting  Comprehensive  Income," on
     October 1, 1998.  SFAS No. 130  establishes  standards  for  reporting  and
     displaying  comprehensive  income  and  its  components  in a  full  set of
     general-purpose financial statements.

     As required by SFAS No. 130,  prior year  information  has been modified to
     conform with the new  presentation.  The Company's only components of other
     comprehensive  income relate to unrealized  gains (losses) on available for
     sale securities.  Information  concerning the Company's other comprehensive
     income (loss) for the years ended  September 30, 2000, 1999 and 1998, is as
     follows:

<TABLE>
<CAPTION>
                                                     2000          1999           1998
<S>                                              <C>            <C>            <C>
     Unrealized (losses) gains on securities
        available for sale                       $  (616,463)   $(2,159,473)   $   578,471

     Reclassification of net gains
        recognized in net income                          --       (138,881)      (272,724)

     Income tax benefit (expense) relating to
        unrealized gains (losses) on available
        for sale securities                          246,586        919,578       (119,819)
                                                 -----------    -----------    -----------

     Other comprehensive (loss) income, net      $  (369,877)   $(1,378,776)   $   185,928
                                                 ===========    ===========    ===========
</TABLE>

                                       22
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

     SEGMENT INFORMATION

     The  Company  adopted  SFAS  No.  131,  "Disclosure  About  Segments  of an
     Enterprise  and  Related  Information,"  on October  1, 1998.  SFAS No. 131
     specifies revised guidelines for determining an entity's operating segments
     and the type and  level  of  financial  information  to be  disclosed.  The
     adoption  of SFAS No. 131 did not have a material  effect on the  Company's
     financial  statements,  as management has determined that the Bank operates
     in one business segment.

     NEW ACCOUNTING PRONOUNCEMENTS

     The Company has adopted the  provisions  of SFAS No. 133,  "Accounting  for
     Derivative Instruments and Hedging Activities," as amended,  effective with
     the fiscal  quarter  beginning  July 1, 2000.  This  statement  establishes
     accounting  and reporting  standards  for  derivative  instruments  and for
     hedging  activities.  It requires that  derivatives be recognized as either
     assets  or  liabilities  in the  statement  of  financial  position  and be
     measured at fair value.  The  accounting for changes in the fair value of a
     derivative depends on the intended use of the derivative and whether or not
     the derivative is designated as a hedging instrument.

     In December 1999, the  Securities  and Exchange  Commission  ("SEC") issued
     Staff  Accounting  Bulletin No. 101 ("SAB 101"),  "Revenue  Recognition  in
     Financial  Statements."  SAB 101  summarizes  certain of the SEC's views in
     applying accounting  principles  generally accepted in the United States of
     America  to  revenue  recognition  in  financial  statements.  The  SEC has
     indicated that they intend to issue additional  written guidance to further
     supplement SAB 101. Based on the SEC's latest timeline for implementing SAB
     101,  the Company  would be required to comply with the  guidelines  in the
     fourth quarter of fiscal 2001.  Adoption of SAB 101 is not expected to have
     any material  impact on the  recognition,  presentation,  and disclosure of
     revenue.

     In March 2000, the Financial  Accounting  Standards  Board ("FASB")  issued
     Interpretation No. 44, "Accounting for Certain Transactions involving Stock
     Compensation  - an  interpretation  of APB  Opinion  No.  25"  ("FIN  44"),
     providing  new  accounting  rules for  stock-based  compensation  under APB
     Opinion No. 25,  "Accounting for Stock Issued to Employees" ("APB 25"). FIN
     44 does not change FASB  Statement  No. 123,  "Accounting  for  Stock-Based
     Compensation"  ("FAS 123").  The new rules are significant and could result
     in  compensation  expense  in  several  situations  in which no  expense is
     typically  recorded under current practice.  FIN 44 is generally  effective
     for transactions occurring after July 1, 2000; however, the accounting must
     be applied prospectively to certain transactions consummated after December
     15,  1998.  The  Company  does not expect  that FIN 44 will have a material
     effect on its financial condition or results of operations.

     In September 2000, the FASB issued SFAS No. 140,  "Accounting for Transfers
     and Servicing of Financial  Assets and  Extinguishments  of Liabilities,  a
     replacement  of SFAS No. 125." It revises the standards for  accounting for
     securitizations  and other transfers of financial assets and collateral and
     requires certain disclosures, but it carries over most of the provisions of
     SFAS No.  125  without  reconsideration.  SFAS  140  requires  a debtor  to
     reclassify  financial  assets pledged as collateral and report these assets
     separately  in the  statement of  financial  position.  It also  requires a
     secured  party  to  disclose  information,   including  fair  value,  about
     collateral  that it has  accepted and is permitted by contract or custom to
     sell or repledge.  SFAS 140 includes specific  disclosure  requirements for
     entities with  securitized  financial  assets and entities that  securitize
     assets.  SFAS 140 is effective  for  transfers  and  servicing of financial
     assets and  extinguishments of liabilities  occurring after March 31, 2000,
     and is effective for recognition and reclassification of collateral and for
     disclosures  relating to  securitization  transactions  and  collateral for
     fiscal years ending  after  December 15, 2000.  The Company does not expect
     that SFAS 140 will have a material effect on financial condition or results
     of operation.

                                       23
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

     USE OF ESTIMATES

     The  preparation  of financial  statements  in conformity  with  accounting
     principles  generally  accepted  in the United  States of America  requires
     management  to make  estimates  and  assumptions  that affect the  reported
     amounts of assets and liabilities  and disclosure of contingent  assets and
     liabilities  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.

2.   SIGNIFICANT ACTIVITIES

     On November 30, 1999,  the Company  consummated  the  acquisition  of Green
     Street Financial Corp. ("Green Street"), the parent holding company of Home
     Federal Savings and Loan Association of Fayetteville, North Carolina ("Home
     Federal"), with full service offices located in Fayetteville and Lumberton,
     North Carolina. The acquisition was accounted for using the purchase method
     of accounting  for a cash  purchase  price of $59.2  million,  representing
     $15.25 per share of Green Street common stock.

     Concurrently  with the Green Street  acquisition,  the Company  changed its
     name to First South Bancorp, Inc.

     The following  table reflects the unaudited pro forma  combined  results of
     operations,  assuming  the  acquisition  had  occurred at the  beginning of
     fiscal 2000, 1999, and 1998:

                                          2000          1999          1998

     Net interest income              $17,409,204   $16,235,962   $15,523,276
     Net income                         3,580,032     3,384,146     3,311,358
     Net earnings per diluted share          1.14           .96           .85

     In  management's  opinion,  these  unaudited  pro  forma  amounts  are  not
     necessarily  indicative of what the actual  combined  results of operations
     might have been if the  acquisitions had been effective at the beginning of
     fiscal 1998.

     On February 18, 2000,  the Bank  completed the  acquisition of six Triangle
     Bank ("Triangle") branch offices located in Rocky Mount and Tarboro,  North
     Carolina.  This  acquisition was accounted for using the purchase method of
     accounting  and the Bank assumed the  deposits of the six  Triangle  branch
     offices for a premium of approximately 4.0% of the assumed deposits.

     The fair value of assets,  including goodwill, and liabilities assumed were
     as follows (in thousands):

                                                  GREEN STREET       TRIANGLE

     Loans receivable                            $ 125,459,235    $  26,162,062
     Premises and equipment                          1,245,957        2,407,409
     Goodwill                                          287,832        4,898,652
     Other assets                                    4,548,219          277,790
     Deposits                                     (101,648,952)    (144,135,727)
     Other liabilities                              (3,361,384)      (3,371,179)
                                                 -------------    -------------

     Net cash paid (received) for acquisitions   $  26,530,907    $(113,760,993)
                                                 =============    =============

                                       24
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

3.   INVESTMENT SECURITIES

     Investment  securities  at September 30, 2000 and 1999,  are  classified as
     available  for sale  according to  management's  intent and  summarized  as
     follows:

<TABLE>
<CAPTION>
                                                           GROSS UNREALIZED         ESTIMATED
                                           AMORTIZED   -------------------------     MARKET
                                             COST         GAINS         LOSSES        VALUE
                                         -----------   -----------   -----------   ----------
<S>                                      <C>           <C>           <C>           <C>
     2000:
        U.S. Treasury and Agency Notes   $45,357,920   $   230,003   $   401,532   $45,186,391
                                         ===========   ===========   ===========   ===========
     1999:
        U.S. Treasury and Agency Notes   $ 3,000,155   $    24,376   $        --   $ 3,024,531
                                         ===========   ===========   ===========   ===========
</TABLE>

     U.S.  Treasury and Agency notes at September  30, 2000,  are  contractually
     scheduled to mature as follows:

                                                             ESTIMATED
                                               AMORTIZED       MARKET
                                                  COST         VALUE
                                              -----------   -----------

     Due after one year through five years    $30,678,308   $30,690,478

     Due after five years through ten years    14,679,612    14,495,913
                                              -----------   -----------

                                              $45,357,920   $45,186,391
                                              ===========   ===========

4.   MORTGAGE-BACKED SECURITIES

     Mortgage-backed  securities at September 30, 2000 and 1999,  are classified
     as available for sale  according to  management's  intent and summarized as
     follows:

<TABLE>
<CAPTION>
                                                                 GROSS UNREALIZED           ESTIMATED
                                              AMORTIZED    ---------------------------        MARKET
                                                COST           GAINS         LOSSES           VALUE
                                            ------------   ------------   ------------    ------------
<S>                                         <C>            <C>            <C>             <C>
     2000:
        FHLMC participation certificates,
        maturing from years 2003 to 2030    $110,462,189   $    166,593   $ (2,110,082)   $108,518,700
                                            ============   ============   ============    ============
     1999:
        FHLMC participation certificates,
        maturing from years 2003 to 2028    $ 57,848,801   $     47,194   $ (1,570,127)   $ 56,325,868
                                            ============   ============   ============    ============
</TABLE>

                                       25
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

     Mortgage-backed   securities  at  September  30,  2000,  are  contractually
     scheduled to mature as follows:

                                                              ESTIMATED
                                               AMORTIZED        MARKET
                                                  COST          VALUE
                                              ------------   ------------

     Due after one year through five years    $  1,059,460   $  1,050,783
     Due after five years through ten years      3,510,053      3,463,869
     Due after ten years                       105,892,675    104,004,048
                                              ------------   ------------

                                              $110,462,188   $108,518,700
                                              ============   ============

     Expected   maturities  may  differ  from  contractual   maturities  because
     borrowers have the right to call or prepay obligations with or without call
     or prepayment penalties.

     Mortgage-backed  securities  with a carrying  value of $0,  $5,520,194  and
     $9,016,982  were sold during the years ended  September 30, 2000,  1999 and
     1998,  respectively.  Gross realized gains on the sales of  mortgage-backed
     securities  were $0,  $138,881  and $272,724  during  2000,  1999 and 1998,
     respectively.  There were no gross  realized  losses during 2000,  1999 and
     1998.

     Mortgage-backed   securities  with  an  amortized  cost  of   approximately
     $5,437,740  and  $2,119,192  were pledged as  collateral  for deposits from
     public entities at September 30, 2000 and 1999, respectively.

5.   LOANS RECEIVABLE

     Loans receivable at September 30, 2000 and 1999, are summarized as follows:

                                         2000             1999

     Mortgage loans                 $ 159,328,698    $  76,207,905
     Consumer loans                    75,001,720       50,848,210
     Commercial loans                 137,941,182       88,809,547
                                    -------------    -------------

           Total                      372,271,600      215,865,662

     Less:
        Allowance for loan losses      (5,159,353)      (3,297,256)
        Deferred loan fees               (902,631)        (514,476)
                                    -------------    -------------

     Loans receivable, net          $ 366,209,616    $ 212,053,930
                                    =============    =============

     The Bank has pledged its eligible real estate loans to collateralize actual
     or  potential  borrowings  from the Federal  Home Loan Bank of Atlanta (See
     Note 10).

     During  2000,  1999 and 1998,  the Bank  exchanged  loans with  outstanding
     principal   balances   of   $62,789,209,   $45,527,117   and   $17,958,559,
     respectively, with the Federal Home Loan Mortgage Corporation ("FHLMC") for
     mortgage-backed securities of equal value.

     The Bank originates mortgage loans for portfolio  investment or sale in the
     secondary  market.  During the period of  origination,  mortgage  loans are
     designated as either held for sale or for investment

                                       26
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

     purposes.  Transfers of loans held for sale to the investment portfolio are
     recorded at the lower of cost or market value on the transfer  date.  Loans
     receivable  held for sale at  September  30, 2000 and 1999,  are fixed rate
     mortgage loans with an estimated market value of approximately  $32,800,000
     and $13,500,000, respectively.

     Net gains on sales of loans  receivable  held for sale  amounted to $1,706,
     $303,324 and $523,280  during the years ended  September 30, 2000, 1999 and
     1998, respectively.

     The changes in the allowance for loan losses for the years ended  September
     30, 2000, 1999 and 1998, are as follows:

                                            2000          1999          1998

     Balance at beginning of year       $ 3,297,256   $ 3,364,588   $ 3,249,352
     Provisions for loan losses             977,000       120,000       310,000
     Balance transferred in acquisition     962,999            --            --
     Loans charged off                     (157,092)     (265,384)     (202,543)
     Recoveries                              79,190        78,052         7,779
                                        -----------   -----------   -----------

     Balance at end of year             $ 5,159,353   $ 3,297,256   $ 3,364,588
                                        ===========   ===========   ===========

     The following is a summary of the principal balances of loans on nonaccrual
     status and loans past due ninety days or more:

                                                       2000         1999
     Loans contractually past due 90 days or more
        and/or on nonaccrual status:
           Residential                              $1,365,949   $  486,714
           Consumer and commercial                     279,826       80,631
                                                    ----------   ----------

                                                    $1,645,775   $  567,345
                                                    ==========   ==========

     During the years ended September 30, 2000,  1999 and 1998,  interest income
     of  approximately  $40,000,  $9,000  and  $18,000,  respectively,  was  not
     recorded related to loans accounted for on a nonaccrual basis.

                                       27
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

6.   PREMISES AND EQUIPMENT

     Premises  and  equipment  at  September  30, 2000 and 1999,  consist of the
     following:

                                             2000          1999

     Land                                $ 2,566,219   $ 1,081,952
     Office buildings                      5,009,762     2,499,579
     Furniture, fixtures and equipment     2,566,530     1,840,334
     Vehicles                                290,031       241,061
                                         -----------   -----------
                                          10,432,542     5,662,926
     Less accumulated depreciation         3,409,723     2,086,952
                                         -----------   -----------

          Total                          $ 7,022,819   $ 3,575,974
                                         ===========   ===========

7.   EMPLOYEE BENEFIT PLANS

     The Company  participates in a multi-employer  defined benefit pension plan
     which  covers  substantially  all  employees.  Expenses of the plan for the
     years ended September 30, 2000, 1999 and 1998, were $258,600,  $133,000 and
     $168,500, respectively.

     The Company  participates in a  multi-employer  defined  contribution  plan
     which covers  substantially  all employees.  Under the plan,  employees may
     contribute from 1% to 15% of compensation,  subject to an annual maximum as
     determined  by the  Internal  Revenue  Code.  The  Company  makes  matching
     contributions of 50% of employees' contributions up to 6% of the employees'
     salaries.  The plan provides that employees'  contributions are 100% vested
     at all  times  and the  Bank's  contributions  vest  25% for  each  year of
     service.  The expenses related to the Company's  contributions to this plan
     for the years  ended  September  30,  2000,  1999 and 1998,  were  $84,924,
     $76,985 and $76,386, respectively.

     Directors and certain officers participate in deferred  compensation plans.
     These plans generally  provide for fixed payments  beginning at retirement.
     These payments are earned over service periods of up to ten years,  and can
     include provisions for deferral of current payments. The expense related to
     these  plans  during the years ended  September  30,  2000,  1999 and 1998,
     aggregated  $544,327,  $516,985  and  $562,478,   respectively.  The  plans
     generally  include  provisions  for  forfeitures  of  unvested  portions of
     payments, and vesting in the event of death or disability.

     On  April  8,  1998,  the  Company's  Stockholders  approved  a  Management
     Recognition  Plan ("MRP") for directors and key employees.  The Company was
     authorized to fund the acquisition of and award up to 174,570 shares (4% of
     shares issued in the stock  conversion) to be awarded by a committee of the
     Board of Directors.  The Company  completed the  acquisition  of MRP shares
     during  fiscal 1998.  On April 8, 1998,  174,570  shares  (market  value of
     $4,029,258  and  aggregate  cost of  $3,275,299)  were  awarded  to certain
     officers and employees.  The vesting schedule  provided that 33-1/3% of the
     shares were earned and became  non-forfeitable  on April 8, 1998,  1999 and
     2000.

     The shares issued to the MRP plan have been recorded as outstanding shares,
     and the unvested portion has been recorded as unearned compensation through
     a contra equity account. The consolidated  statements of operations for the
     years ended September 30, 2000, 1999 and 1998, include compensation expense
     of  $725,692,  $1,342,907  and  $1,902,959,  respectively,  relating to the
     scheduled vesting of MRP shares.

                                       28
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

8.   EMPLOYEE STOCK OWNERSHIP PLAN

     The Company's  Board of Directors  adopted an Employee Stock Ownership Plan
     ("ESOP"),  effective  October 1, 1996.  Employees  of the  Company  and its
     subsidiaries who have attained age 21 and completed one year of service are
     eligible to  participate  in the ESOP,  provided  that any employee who was
     employed   full-time   on  the  closing   date  of  the  Stock   Conversion
     automatically  became a participant  on October 1, 1996.  The ESOP is to be
     funded by  contributions  made by the Company or the Bank in cash or shares
     of Common Stock.  Allocations to  participants'  accounts occur annually on
     September 30.  Shares are committed to be released for financial  statement
     purposes  when the Bank makes  scheduled  payments on the ESOP note payable
     and will be  allocated to  employees  for services  rendered in the current
     accounting period. Employees vest in their allocated ESOP shares over three
     years.  The number of shares legally released and allocated is based on the
     ratio of the  actual  principal  payments  amount  to the  remaining  total
     principal  payments  for  the  ESOP  note  payable.  The  Bank  expects  to
     contribute  sufficient  funds to the ESOP to repay the note  payable over a
     ten-year  period,  plus  such  other  amounts  as the  Company's  Board  of
     Directors may determine in its discretion.

     Initially,  the ESOP acquired  349,140 shares of the Company's common stock
     financed by $3,491,400  in  borrowings  by the ESOP from the Company.  This
     loan is  secured  by the  shares of Common  Stock  purchased  and  earnings
     thereon.  At  September  30, 2000 and 1999,  167,282  and  122,790  shares,
     respectively, have been allocated to participants' accounts and 181,858 and
     226,350  shares,   with  an  estimated   market  value  of  $4,182,734  and
     $4,031,973,  respectively,  remain  unallocated.  All allocated  shares are
     considered   outstanding  for  earning  per  share   purposes,   while  the
     unallocated shares are not included in the calculation.

     The principal  balance of the ESOP loan was  $1,818,578  and  $2,263,500 at
     September 30, 2000 and 1999, respectively.  The Bank is using the dividends
     declared  on  shares  held by the  ESOP to  reduce  the  outstanding  debt.
     Dividends  on  allocated  shares are  treated as a  reduction  of  retained
     earnings. Dividends on unallocated shares are treated only as debt service,
     and  there is no  reduction  of  retained  earnings.  Compensation  expense
     related to the ESOP is based on the  average  fair  market  value of shares
     during the period since the prior  allocation date through the dates shares
     are committed to be released.  The financial statements for the years ended
     September  30,  2000,  1999  and  1998,  include  compensation  expense  of
     $853,930, $853,616, and $825,865, respectively, related to the ESOP.

9.   STOCK OPTION PLAN

     On April 8, 1998, the  Shareholders of the Company approved the First South
     Bancorp, Inc. 1997 Stock Option Plan (the "Plan"). The purpose of this Plan
     is to advance the interests of the Company through  providing  selected key
     employees and Directors of the Bank and the Company with the opportunity to
     purchase  shares.  The Plan  reserves  436,425  shares for grant within ten
     years of the effective date. The option price is required to be 100% of the
     stock's fair market value as defined, with an exception for any shareholder
     with more than a 10% ownership interest in the Company.  The exercise price
     is required to be 110% of the stock's fair market  value for these  options
     holders.  Vesting is  determined  on the date of the grant.  Options have a
     10-year life;  however,  there are additional  limitations for shareholders
     with more than a 10% ownership interest in the Company. The Plan also has a
     change of control  provision under which all shares  immediately  vest if a
     change of control, as defined, occurs.

     The  Company  has  adopted  SFAS  No.  123,  "Accounting  for  Stock  Based
     Compensation."  As  permitted  by SFAS No.  123,  the Company has chosen to
     apply APB Opinion No. 25,  "Accounting  for Stock Issued to Employees," and
     related interpretations. Accordingly, no compensation cost has been

                                       29
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

     recognized for options granted under the Option Plan. Had compensation cost
     for the Company's  Option Plan been  determined  based on the fair value at
     the grant dates for awards under the Option Plan consistent with the method
     of SFAS No. 123,  the Plan's net income and net income per share would have
     been reduced to the pro forma amounts indicated below:

<TABLE>
<CAPTION>
                                                                 FOR THE YEAR ENDED
                                 SEPTEMBER 30, 2000              SEPTEMBER 30, 1999              SEPTEMBER 30, 1998
                           -----------------------------   -----------------------------   -----------------------------
                            AS REPORTED      PRO FORMA      AS REPORTED      PRO FORMA      AS REPORTED      PRO FORMA
<S>                        <C>             <C>             <C>             <C>             <C>             <C>
     Net income            $   3,549,032   $   3,464,965   $   3,196,146   $   3,138,174   $   3,123,358   $   1,829,801
     Earnings per common
        share - basic               1.14            1.11             .91             .89             .80             .47
     Earnings per common
        share - diluted             1.13            1.11             .91             .89             .80             .47
</TABLE>

     The fair value of each option grant is estimated on the date of grant using
     the Black-Scholes  option-pricing model with the following weighted-average
     assumptions used for grants in 2000, 1999 and 1998, respectively:  dividend
     growth rate of 17%, 15% and 0%;  expected  volatility  of 18.6%,  20.8% and
     6.1%;  risk-free  interest rates of 6.0%, 7.1% and 5.3%; and expected lives
     of 7 years.

     A summary  of the status of the Plan as of  September  30,  2000,  1999 and
     1998, and changes during the years then ended,  including  weighted-average
     exercise price ("Price"), is presented below:

<TABLE>
<CAPTION>
                                                  2000                  1999                  1998
                                            SHARES     PRICE      SHARES     PRICE      SHARES     PRICE
                                           -------    -------    -------    -------    -------    -------
<S>                                        <C>        <C>        <C>        <C>        <C>        <C>
     Outstanding at beginning of year      404,303    $ 18.24    398,303    $ 18.25         --    $    --
     Granted                                21,000      18.26      6,000      17.75    398,303      18.25
     Cancellations                         (12,000)     18.25                               --         --
                                           -------               -------               -------
     Outstanding at year end               413,303      18.25    404,303      18.24    398,303      18.25
                                           =======               =======               =======

     Weighted-average fair value of
        options granted during the year               $  4.02               $  5.04               $  5.59
                                                      =======               =======               =======
</TABLE>

     The following table summarizes additional information about the Option Plan
     at September 30, 2000,  including  weighted-average  remaining  contractual
     life ("Life") and Price:

                                OPTIONS OUTSTANDING          OPTIONS EXERCISABLE
                          -------------------------------    -------------------
                           SHARES      LIFE       PRICE       SHARES     PRICE

     $17.75 - 18.56       413,303   8.7 years   $   18.25    388,428   $   18.24

                                       30
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

10.  BORROWED MONEY

     Borrowed money represents advances from the FHLB and repurchase agreements.
     Advances  from the FHLB had a weighed  average  rate of 6.94%  and  totaled
     $24,000,000 at September 30, 2000. There were no advances  outstanding from
     the FHLB at September 30, 1999.

     At  September  30, 2000 and 1999,  repurchase  agreements  outstanding  had
     average rates of 4.38% and 3.13%,  and totaled  $6,387,552 and  $1,318,340,
     respectively.

     At September 30, 2000,  repurchase  agreements were  collateralized by U.S.
     government agency  obligations with a principal balance of $7,000,000.  The
     Company has pledged all of its stock in the FHLB and certain  loans secured
     by one to four family  residential  mortgages as  collateral  for actual or
     potential  borrowings from the FHLB. At September 30, 2000, the Company had
     an additional $41,000,000 of credit available with the FHLB.

11.  INCOME TAXES

     The  components  of income tax expense for the years  ended  September  30,
     2000, 1999 and 1998, are as follows:

                                     2000           1999           1998
     Current:
        Federal                  $ 2,665,596    $ 2,712,909    $ 1,422,845
        State                        313,600        565,552        344,617
                                 -----------    -----------    -----------
                                   2,979,196      3,278,461      1,767,462
                                 -----------    -----------    -----------
      Deferred:
        Federal                     (287,542)      (719,993)       115,458
        State                        (33,828)      (105,755)        16,980
                                 -----------    -----------    -----------
                                    (321,370)      (825,748)       132,438
                                 -----------    -----------    -----------

     Total                       $ 2,657,826    $ 2,452,713    $ 1,899,900
                                 ===========    ===========    ===========

     A reconciliation of the expected income tax expense at statutory tax rates,
     with income tax expense  reported in the  statements of operations  for the
     years ended September 30, 2000, 1999 and 1998, are as follows:

<TABLE>
<CAPTION>
                                                         2000          1999          1998
<S>                                                  <C>           <C>           <C>
     Expected income tax expense at 34%              $ 2,110,332   $ 1,920,612   $ 1,707,908
     State income taxes, net of federal income tax       296,998       270,298       239,220
     Non-deductible ESOP, other expenses and
        other adjustments                                250,496       261,803       (47,228)
                                                     -----------   -----------   -----------

                                                     $ 2,657,826   $ 2,452,713   $ 1,899,900
                                                     ===========   ===========   ===========
</TABLE>

                                       31
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

     The  components  of  deferred  income  tax assets  and  liabilities  are as
     follows:

                                                           2000         1999
     Deferred income tax assets:
        Deferred directors' fees                        $  548,288   $  379,283
        Allowance for loan losses                        1,490,452    1,000,686
        Employee benefits                                  747,790      878,390
        Unrealized losses on securities
           available for sale                              852,611      606,025
        Loans mark-to-market                               123,823           --
        Other                                              109,005       79,602
                                                        ----------   ----------
                                                         3,871,969    2,943,986
                                                        ----------   ----------
     Deferred income tax liabilities:
        Loans mark-to-market                                    --      266,793
        Depreciation and amortization                      315,426      173,055
        Carrying value - land                              386,200           --
        Deferred loan origination fees and costs            91,656       90,696
        FHLB stock                                         195,801       98,512
                                                        ----------   ----------
                                                           989,083      629,056
                                                        ----------   ----------

     Net deferred income tax asset                      $2,882,886   $2,314,930
                                                        ==========   ==========

     Retained earnings at September 30, 2000, include  approximately  $1,850,000
     for which no deferred income tax liability has been recognized. This amount
     represents an allocation  of income to bad debt  deductions  for income tax
     purposes  only.  Reductions of the amount so allocated  for purposes  other
     than for tax bad debt losses or  adjustments  arising from carryback of net
     operating losses could create taxable income,  in certain remote instances,
     which would be subject to the then current corporate income tax rate.

12.  REGULATORY CAPITAL REQUIREMENTS

     Dividend   payments   made  by  the  Company  are  subject  to   regulatory
     restrictions  under Federal  Reserve Board policy as well as to limitations
     under applicable  provisions of Virginia corporate law. The Federal Reserve
     Board may prohibit a bank holding  company from paying any dividends if the
     holding  company's  bank  subsidiary is  classified as  "undercapitalized."
     Under Virginia law, dividends may be paid out of surplus or, if there is no
     surplus,  out of net profits  for the fiscal year in which the  dividend is
     declared  and  for the  preceding  fiscal  year.  Furthermore,  under  FDIC
     regulations,  the Bank is prohibited from making any capital  distributions
     if,  after  making  the  distribution,  the Bank  would  have:  (i) a total
     risk-based  capital  ratio  of less  than  8.0%;  (ii) a Tier 1  risk-based
     capital  ratio of less than 4.0%;  or (iii) a  leverage  ratio of less than
     4.0%.

     The Bank is subject to various regulatory capital requirements administered
     by the federal and state banking agencies.  Failure to meet minimum capital
     requirements  can  initiate  certain  mandatory,  and  possibly  additional
     discretionary,  actions by  regulators  that, if  undertaken,  could have a
     direct material  effect on the Bank's  financial  statements.  Quantitative
     measures  established by regulation to ensure capital  adequacy require the
     Bank to maintain  minimum  amounts  and  ratios,  as set forth in the table
     below.  Management believes,  as of September 30, 2000, that the Bank meets
     all capital adequacy requirements to which it is subject.

     As of  September  30,  2000,  the most  recent  notification  from the FDIC
     categorized the Bank as well capitalized under the regulatory framework for
     prompt  corrective  action.  To be categorized as well capitalized the Bank
     must maintain minimum amounts and ratios, as set forth in the table below.

                                       32
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

     There are no conditions or events since that  notification  that management
     believes have changed the Bank's category.

     The Bank's actual  capital  amounts and ratios as of September 30, 2000 and
     1999, are presented in the table below (dollars in thousands):

<TABLE>
<CAPTION>
                                                                                            TO BE WELL
                                                                                           CAPITALIZED
                                                                        FOR CAPITAL       UNDER PROMPT
                                                       ACTUAL        ADEQUACY PURPOSE   ACTION PROVISIONS
                                                  ----------------   ----------------   ----------------
                                                   AMOUNT    RATIO    AMOUNT    RATIO    AMOUNT    RATIO
                                                  -------    -----   -------    -----   -------    -----
<S>                                               <C>        <C>     <C>         <C>    <C>        <C>
     2000:
     Total Capital (to Risk Weighted Assets)      $45,655    13.0%   $28,214     8.0%   $35,268    10.0%
     Tier I Capital (to Risk Weighted Assets)      41,237    11.7%    14,107     4.0%    21,161     6.0%
     Tier I Capital (to Average Assets)            41,237     7.7%    21,523     4.0%    26,904     5.0%

     1999:
     Total Capital (to Risk Weighted Assets)      $51,989    24.8%   $16,750     8.0%   $20,938    10.0%
     Tier I Capital (to Risk Weighted Assets)      48,691    23.3%     8,375     4.0%    12,563     6.0%
     Tier I Capital (to Average Assets)            48,691    16.2%    12,041     4.0%    15,052     5.0%
</TABLE>

13.  EARNINGS PER SHARE

     The following table provides a reconciliation of income available to common
     stockholders  and the average number of shares  outstanding  (less unearned
     ESOP shares,  unearned  deferred stock awards and treasury  shares) for the
     years ended September 30, 2000, 1999 and 1998. Options to purchase 413,303,
     404,303,  and 398,303  shares of common stock were  outstanding  during the
     years ended September 30, 2000, 1999, and 1998, respectively. For the years
     ended  September 30, 1999 and 1998,  none of these options were included in
     the  computation  of diluted EPS because the  options'  exercise  price was
     greater  than the  average  market  price of common  shares for each of the
     years.

                                              2000         1999         1998

     Net income (numerator)                $3,549,042   $3,196,146   $3,123,358
                                           ==========   ==========   ==========

     Weighted average shares outstanding
        for basic EPS (denominator)         3,115,768    3,530,811    3,876,813
     Dilutive effect of stock options          11,104           --           --
                                           ----------   ----------   ----------

     Adjusted shares for diluted EPS        3,126,872    3,530,811    3,876,813
                                           ==========   ==========   ==========

14.  MORTGAGE BANKING ACTIVITIES

     Mortgage  loans  serviced for others are not  included in the  accompanying
     consolidated  statements  of  financial  condition.  The  unpaid  principal
     balances of  mortgage  loans  serviced  for others  were  $286,238,000  and
     $275,255,000 at September 30, 2000 and 1999, respectively.  Servicing loans
     for others generally consists of collecting mortgage payments,  maintaining
     escrow   accounts,   disbursing   payment  to  investors  and   foreclosure
     processing. Loan servicing income is recorded on the accrual

                                       33
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

     basis and  includes  servicing  fees from  investors  and  certain  charges
     collected from borrowers, such as late payment fees.

     At September 30, 2000 and 1999,  mortgage  servicing rights reported in the
     consolidated statements of financial condition,  net of amortization,  were
     $184,228 and $209,090, respectively.

15.  FINANCIAL  INSTRUMENT WITH  OFF-BALANCE  SHEET RISK AND  SIGNIFICANT  GROUP
     CONCENTRATION OF CREDIT RISK:

     The Company is a party to financial instruments with off-balance sheet risk
     in the  normal  course  of  business  to meet  the  financing  needs of its
     customers and to reduce its own exposure to fluctuations in interest rates.
     These  financial  instruments  include  commitments  to extend  credit  and
     involve,  to varying degrees,  elements of credit and interest rate risk in
     excess of the amount recognized in the balance sheet.

     The Company's  exposure to credit loss in the event of  non-performance  by
     the other  party to the  financial  instrument  for  commitments  to extend
     credit is represented by the contractual amount of those  instruments.  The
     Company uses the same credit policies in making commitments and conditional
     obligations as it does for on-balance sheet instruments.

     Commitments  to extend credit are  agreements to lend to a customer as long
     as there is no  violation of any  condition  established  in the  contract.
     Commitments  generally  have fixed  expiration  dates or other  termination
     clauses  and may  require  payment of a fee.  The  Company  evaluates  each
     customer's   creditworthiness  on  a  case-by-case  basis.  The  amount  of
     collateral  obtained,  if deemed necessary by the Company upon extension of
     credit, is based on management's credit evaluation of the borrower.

     A  summary  of  the  contractual  amounts  of  the  Company's  exposure  to
     off-balance sheet risk as of September 30, 2000 and 1999, is as follows:

<TABLE>
<CAPTION>
                                                                    2000          1999
<S>                                                             <C>           <C>
     Commitments to extend credit:
        Commitments to originate loans                          $44,052,960   $33,769,607
        Undrawn balances on lines of credit and undrawn
           balances on credit reserves (overdraft protection)    43,864,361    28,341,602
                                                                -----------   -----------

                                                                $87,917,321   $62,111,209
                                                                ===========   ===========
</TABLE>

     Included in the commitments to originate loans as of September 30, 2000 and
     1999,  are  fixed  interest  rate  loan   commitments  of  $16,262,511  and
     $9,118,636,   respectively.  The  shorter  duration  of  interest-sensitive
     liabilities,  to the extent they are used to fund these  fixed-rate  loans,
     indicates  that the Company is exposed to interest rate risk because,  in a
     rising rate  environment,  liabilities  will be repricing  faster at higher
     interest rates,  thereby reducing the market value of fixed-rate  long-term
     assets and net interest income.

     The  Company's  lending is  concentrated  primarily  in  Beaufort,  Craven,
     Cumberland, Edgecombe,  Fayetteville,  Lenoir, Lumberton, Nash, Pasquotank,
     Pitt, Robeson,  Tarboro and surrounding counties in North Carolina.  Credit
     has been extended to certain of the Company's  customers  through  multiple
     lending transactions.

                                       34
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

     Since many of the  commitments  are expected to expire  without being drawn
     upon,   amounts   reported  do  not  necessarily   represent   future  cash
     requirements.

16.  PARENT COMPANY FINANCIAL INFORMATION

     The Company's  principal  asset is its  investment  in the Bank.  Condensed
     financial  statements  of the parent  company as of September  30, 2000 and
     1999, and for the three years ended September 30, 2000, are as follows:

<TABLE>
<CAPTION>
                                                                2000            1999
<S>                                                         <C>             <C>
     CONDENSED BALANCE SHEETS
     Cash                                                   $  1,055,374    $  1,151,744
     Due from subsidiary                                         477,287       5,368,089
     Investment in wholly-owned subsidiary                    43,692,079      42,563,204
     Other assets                                                  8,747          12,115
                                                            ------------    ------------
              Total assets                                  $ 45,233,487    $ 49,095,152
                                                            ============    ============

     Other liabilities                                      $    398,752    $    332,119
     Stockholders' equity                                     44,834,735      48,763,033
                                                            ------------    ------------
           Total liabilities and stockholders' equity       $ 45,233,487    $ 49,095,152
                                                            ============    ============

<CAPTION>
                                                                2000            1999            1998
<S>                                                         <C>             <C>             <C>
     CONDENSED STATEMENTS OF INCOME
     Interest income, net                                   $    204,090    $    234,242    $    291,950
     Equity in earnings of subsidiary                          3,471,752       3,121,370       3,007,978
     Miscellaneous expenses                                      126,810         159,466         176,570
                                                            ------------    ------------    ------------
              Net income                                    $  3,549,032    $  3,196,146    $  3,123,358
                                                            ============    ============    ============

                                       35
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

<CAPTION>
                                                                2000            1999            1998
     CONDENSED STATEMENTS OF CASH FLOWS
<S>                                                         <C>             <C>             <C>
     Operating activities:
        Net income                                          $  3,549,032    $  3,196,146    $  3,123,358
        Adjustments to reconcile net income to net
           cash provided by operating activities:
           Equity in undistributed earnings of subsidiary     (3,471,752)     (3,121,370)     (3,007,978)
           Deferred income taxes                                      --              --         (57,800)
           ESOP compensation                                     853,930         853,616         825,865
           MRP compensation                                      725,692       1,342,907       1,902,959
           Other operating activities                             70,001         628,213        (589,308)
                                                            ------------    ------------    ------------
              Net cash provided by operating activities        1,726,903       2,899,512       2,197,096
                                                            ------------    ------------    ------------
     Investing activities:
        Repayments of advances to subsidiary                   6,863,802       9,257,445       5,910,220
                                                            ------------    ------------    ------------
              Net cash provided by investing activities        6,863,802       9,257,445       5,910,220
                                                            ------------    ------------    ------------
     Financing activities:
        MRP funding                                                   --              --      (1,224,768)
        Purchase of treasury shares                           (7,268,139)    (10,875,208)     (4,895,754)
        Cash paid for fractional shares                               --              --          (4,652)
        Dividends paid                                        (1,418,936)     (1,089,622)     (1,045,908)
                                                            ------------    ------------    ------------

              Net cash used in financing activities           (8,687,075)    (11,964,830)     (7,171,082)
                                                            ------------    ------------    ------------

     Net (decrease) increase in cash                             (96,370)        192,127         936,234
     Cash at beginning of year                                 1,151,744         959,617          23,383
                                                            ------------    ------------    ------------
     Cash at end of year                                    $  1,055,374    $  1,151,744    $    959,617
                                                            ============    ============    ============
</TABLE>

17.  QUARTERLY FINANCIAL DATA (UNAUDITED)

     Summarized unaudited quarterly financial data for the years ended September
     30, 2000 and 1999, is as follows (in thousands):

                                            FOURTH    THIRD     SECOND    FIRST
                                           -------   -------   -------   -------
     2000:
     Interest income                       $10,783   $10,099   $ 9,178   $ 6,805
     Interest expense                        5,921     5,241     4,680     3,171
     Provision for loan losses                 300       250       200       227
     Noninterest income                        950     1,052       815       615
     Noninterest expense                     3,768     4,058     3,631     2,643
     Income tax expense                        762       699       628       569
                                           -------   -------   -------   -------

     Net income                            $   982   $   903   $   854   $   810
                                           =======   =======   =======   =======
     Net income per common share:
        Basic and diluted                  $   .32   $   .30   $   .27   $   .25
                                           =======   =======   =======   =======

                                       36
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

                                            FOURTH    THIRD     SECOND    FIRST
                                           -------   -------   -------   -------
     1999:
     Interest income                       $ 5,918   $ 5,935   $ 5,629   $ 5,647
     Interest expense                        2,610     2,500     2,450     2,419
     Provision for loan losses                  70        --        --        50
     Noninterest income                        644       685       735       810
     Noninterest expense                     2,546     2,574     2,553     2,582
     Income tax expense                        532       762       561       598
                                           -------   -------   -------   -------

     Net income                            $   804   $   784   $   800   $   808
                                           =======   =======   =======   =======
     Net income per common share:
        Basic and diluted                  $   .24   $   .23   $   .22   $   .22
                                           =======   =======   =======   =======

18.  FAIR VALUES OF FINANCIAL INSTRUMENTS

     Statement of Financial  Accounting  Standards No. 107,  "Disclosures  about
     Fair  Value of  Financial  Instruments"  ("SFAS  No.  107"),  requires  the
     disclosure  of  estimated  fair values for  financial  instruments.  Quoted
     market prices, if available,  are utilized as an estimate of the fair value
     of  financial  instruments.  Because no quoted  market  prices  exist for a
     significant part of the Company's financial instruments,  the fair value of
     such  instruments has been derived based on management's  assumptions  with
     respect to future economic conditions, the amount and timing of future cash
     flows  and  estimated  discount  rates  with  respect  to  future  economic
     conditions,  the  amount  and  timing of future  cash  flows and  estimated
     discount rates.  Different  assumptions  could  significantly  affect these
     estimates.  Accordingly,  the net  realizable  value  could  be  materially
     different from the estimates  presented  below. In addition,  the estimates
     are only indicative of individual financial  instruments' values and should
     not be considered an indication of the fair value of the Company taken as a
     whole.

     Fair values have been estimated  using data which  management  considers as
     the best available,  and estimation  methodologies  deemed suitable for the
     pertinent category of financial instrument.  The estimation  methodologies,
     resulting fair values,  and recorded carrying amounts at September 30, 2000
     and 1999, were as follows:

     Cash and cash  equivalents are by definition  short-term and do not prevent
     any  unanticipated  credit  issues.  Therefore,  the  carrying  amount is a
     reasonable  estimate of fair value. The estimated fair values of investment
     securities and mortgage backed  securities are provided in Notes 3 and 4 to
     the financial  statements.  These are based on quoted market  prices,  when
     available.  If a  quoted  market  price  is not  available,  fair  value is
     estimated using quoted market prices for similar securities.

     The fair  value of the net loan  portfolio  has been  estimated  using  the
     present  value of expected  cash  flows,  discounted  at an  interest  rate
     adjusted  for  servicing  costs  and  giving   consideration  to  estimated
     prepayment risk and credit loss factors, as follows:

                                       37
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

<TABLE>
<CAPTION>
                                             2000                          1999
                                 ---------------------------   ---------------------------
                                   ESTIMATED      CARRYING       ESTIMATED      CARRYING
                                  FAIR VALUE       AMOUNT       FAIR VALUE       AMOUNT
                                 ------------   ------------   ------------   ------------
<S>                              <C>            <C>            <C>            <C>
     1 - 4 family mortgages      $157,985,659   $157,650,137   $ 74,868,715   $ 74,822,333
     Consumer                      73,079,204     74,100,552     49,641,554     50,263,344
     Non-residential              134,458,927    134,458,927     86,968,253     86,968,253
                                 ------------   ------------   ------------   ------------

                                 $365,523,790   $366,209,616   $211,478,522   $212,053,930
                                 ============   ============   ============   ============
</TABLE>

     The fair value of deposit  liabilities  with no stated  maturities has been
     estimated  to equal the  carrying  amount (the  amount  payable on demand),
     totaling  $132,661,290  and  $60,745,568  at  September  30, 2000 and 1999,
     respectively.  The fair value  estimates for these  products do not reflect
     the benefits that the Bank receives  from the low-cost,  long-term  funding
     they provide. These benefits are considered significant.

     The fair value of  certificates  of deposits and advances  from the FHLB is
     estimated  by  discounting  the future cash flows  using the current  rates
     offered  for  similar   deposits  and  advances  with  the  same  remaining
     maturities. The carrying value and estimated fair values of certificates of
     deposit and FHLB advances at September 30, 2000 and 1999, are as follows:

                                                    2000               1999
     Certificates of deposits:
        Carrying amount                         $339,280,377       $173,872,427
        Estimated fair value                     340,318,757        174,479,131

     Advances for Federal Home Loan Bank:
        Carrying amount                         $ 24,000,000       $         --
        Estimated fair value                      24,000,000                 --

     The carrying amount of repurchase  agreements  approximates the fair value.
     The  interest  rate on these  agreements  is a  floating  rate based on the
     federal fund's daily rate.

     There is no material  difference  between the carrying amount and estimated
     fair value of  off-balance  sheet items  totaling  $87,917,321  in 2000 and
     $62,111,209  in 1999,  which  are  primarily  comprised  of  unfunded  loan
     commitments.

     The Company's remaining assets and liabilities are not considered financial
     instruments.

                                       38
<PAGE>

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
--------------------------------------------------------------------------------

19.  SUPPLEMENTAL CASH FLOW INFORMATION

     Supplemental  cash flow information for the years ended September 30, 2000,
     1999 and 1998, is as follows:

<TABLE>
<CAPTION>
                                                       2000          1999          1998
<S>                                                <C>           <C>           <C>
     Real estate acquired in settlement of loans   $   411,040   $   764,023   $   458,061
     Exchange of loans for mortgage-backed
        securities                                  62,789,209    45,527,117    17,958,559
     Cash paid for interest                         19,012,680     9,960,689     9,268,840
     Cash paid for income taxes                      2,769,000     2,787,000     2,637,000
     Dividends declared, not paid                      387,220       332,119       271,102
</TABLE>

                                       39

<TABLE>
<CAPTION>
                               BOARD OF DIRECTORS

<S>                                   <C>                              <C>
DR. FREDERICK H. HOWDY                LINLEY H. GIBBS, JR.             EDMUND T. BUCKMAN, JR.
CHAIRMAN                              VICE CHAIRMAN                    Retired
President                             Retired                          Washington, NC
Drs. Freshwater and Howdy, P.A.       Washington, NC
Washington, NC

FREDERICK N. HOLSCHER                 CHARLES E. PARKER, JR.           H. D. REAVES, JR.
Partner                               Vice President                   Former President and
Rodman, Holscher, Francisco &         Robinson Insurance Agency           Chief Executive Officer
   Peck, P.A.                         New Bern, NC                     Home Federal Savings & Loan
Washington, NC                                                         Fayetteville, NC

MARSHALL T. SINGLETON                 THOMAS A. VANN
Co-Owner                              President and Chief
B. E. Singleton & Sons                   Executive Officer
Washington, NC                        First South Bank
                                      Washington, NC

                               EXECUTIVE OFFICERS

THOMAS A. VANN                        JACK L. ASHLEY                   JOSEPH C. DUNN
President and                         Executive Vice President         Executive Vice President
Chief Executive Officer               Branch Administration and        Credit Administration
                                      Operations

WALTER P. HOUSE                       WILLIAM L. WALL                  MARY R. BOYD
Executive Vice President              Executive Vice President         Senior Vice President
Mortgage Operations                   Chief Financial Officer and      Loan Servicing
                                      Secretary

SHERRY L. CORRELL                     KRISTIE W. HAWKINS               WILLIAM R. OUTLAND
Senior Vice President                 Treasurer                        Senior Vice President
Deposit Administration                Controller                       Consumer Lending

                               REGIONAL EXECUTIVES

JAMES F. BUCKMAN, IV                  D. NICHOLSON GUY, JR.            GEORGE R. HAMILTON
Senior Vice President                 Senior Vice President            Senior Vice President
Washington                            Fayetteville                     Rocky Mount
Chocowinity                           Lumberton                        Tarboro


RUSSELL A. LAY                        JAMES R. ROSE, JR.
Senior Vice President                 Senior Vice President
Elizabeth City                        Greenville
                                      Kinston
                                      New Bern

                                       40
<PAGE>

<CAPTION>
                               FIRST SOUTH BANK OFFICE LOCATIONS

BANKING OFFICES

<S>                              <C>                                    <C>
CHOCOWINITY                      ELIZABETH CITY                         FAYETTEVILLE
2999 Highway 17 South            604 East Ehringhaus Street             241 Green Street
252-946-4178                     252-335-0848                           910-483-3681

GREENVILLE                       KINSTON                                3107 Raeford Road
301 East Arlington Blvd          827 Hardee Road                        910-484-2116
252-321-2600                     252-522-9466

LUMBERTON                        NEW BERN                               TARBORO
600 North Chestnut Street        202 Craven Street                      100 East Hope Lodge Street
910-739-3274                     252-636-2997                           252-823-0157

ROCKY MOUNT                      1725 Glenburnie Road                   WASHINGTON
300 Sunset Avenue                252-636-2997                           1311 Carolina Avenue
252-972-9661                                                            252-946-4178

2901 Sunset Avenue                                                      300 North Market Street
252-451-1259                                                            252-946-4178

1378 Benvenue Road                                                      Corporate Office
252-442-8375                                                            1311 Carolina Avenue
                                                                        252-946-4178
450 North Winstead Avenue
252-937-1900                                                            Loan Administration
                                                                        239 West Main Street
3635 North Halifax Road                                                 252-946-4178
252-451-8700
(located in Smith's Red & White/ Dortches)

                         FIRST SOUTH BANK ATM* LOCATIONS

CHOCOWINITY                      ELIZABETH CITY                         FAYETTEVILLE
2999 Highway 17 South            604 East Ehringhaus Street             241 Green Street
                                                                        3107 Raeford Road

GREENVILLE                       LUMBERTON                              NEW BERN
301 East Arlington Blvd          3551 Fayetteville Road                 1725 Glenburnie Road
                                 (located at Turner Carpet Center)

TARBORO                          ROCKY MOUNT                            WASHINGTON
1202 Western Blvd                300 Sunset Avenue                      1311 Carolina Avenue
(located at Amoco Food Shop)     2901 Sunset Avenue                     300 North Market Street
                                 1378 Benvenue Road
                                 450 North Winstead Avenue
                                 3635 North Halifax Road
                                 (located at Smith's Red & White)
</TABLE>

----------
*    Member of Star and Cirrus ATM networks.
     Member FDIC

                         "ALL THE BANK YOU'LL EVER NEED"

                                       41
<PAGE>

                     FIRST SOUTH BANK PRODUCTS AND SERVICES

PERSONAL BANKING SERVICES

     CHECKING ACCOUNTS:
          Free Basic Checking
          Free Senior Checking (age 50 and over)
          Preferred Checking
          Money Market Checking

     LENDING SERVICES:
          Consumer Loans
          Home Equity Loans
          Mortgage Loans
          FHA/VA Financing
          Reserve Lines
          VISA and MasterCard Credit Cards

     SAVINGS ACCOUNTS:
          Regular Savings
          Custodial Savings

     OTHER PERSONAL BANKING SERVICES:
          AccessLine 24 Hour Telephone Banking
          Automated Teller Machines (ATMs)
          24 Hour Banking Cards (ATM)
          Certificates of Deposit
          Individual Retirement Accounts
          VISA CheckCards
          Drive-Thru Windows
          Night Depository
          Safe Deposit Boxes
          Wire Transfers

COMMERCIAL BANKING SERVICES

     CHECKING ACCOUNTS:
          Commercial Checking
          Commercial Money Market Checking
          Business Interest Checking
          Simple Business Checking
          Simple Business Plus Checking

     LENDING SERVICES:
          Commercial Real Estate Loans
          Commercial Business Loans
          SBA Loans
          Lines-of-Credit

     OTHER COMMERCIAL BANKING SERVICES
          Cash Management Sweep Products
          VISA and MasterCard Merchant Services
          Night Depository
          Wire Transfers
          Cash Services (Coin and Currency)

                                       42
<PAGE>

                             STOCKHOLDER INFORMATION

CORPORATE HEADQUARTERS
     First South Bancorp, Inc.          Telephone:  252-946-4178
     1311 Carolina Avenue               Fax:  252-946-3873
     Washington, NC  27889              E-mail:  info@firstsouthnc.com
                                        Website:  www.firstsouthnc.com

STOCK LISTING INFORMATION
The  Company's  common  stock trades on the Nasdaq Stock Market under the symbol
FSBK.

STOCK PRICE INFORMATION
The  following  table sets forth the high and low trade  price  information  and
dividends declared per share for the periods indicated.

     Quarter Ended                High             Low         Dividends
     -------------                ----             ---         ---------
     December 31, 1998          $ 22.00         $ 16.50         $   .07
     March 31, 1999               18.25           17.00             .07
     June 30, 1999                18.50           17.00             .07
     September 30, 1999           18.625          16.00             .10

     December 31, 1999            18.875          17.125            .10
     March 31, 2000               18.875          17.375            .10
     June 30, 2000                20.00           18.375            .13
     September 30, 2000           23.25           19.25             .13

REGISTRAR AND TRANSFER AGENT
Inquiries regarding stock transfer,  registration,  lost certificates or changes
in name and  address  should be  directed to the stock  registrar  and  transfer
agent:

     Registrar and Transfer Company
     10 Commerce Drive
     Cranford, New Jersey 07016
     (800) 866-1340

FORM 10-K
The Company's annual report on Form 10-K, filed with the Securities and Exchange
Commission,  is available to shareholders without charge by writing:  William L.
Wall,  Chief  Financial  Officer,  First South  Bancorp,  Inc.,  P. O. Box 2047,
Washington, NC 27889.

INVESTOR INFORMATION
Shareholders,  investors,  and analysts interested in additional information may
contact William L. Wall, Chief Financial Officer, First South Bancorp, Inc.

ANNUAL MEETING
The Annual Meeting of  Stockholders  of First South  Bancorp,  Inc. will be held
Thursday,  February  15, 2001 at 11:00  a.m.,  at the main office of First South
Bank, 1311 Carolina Avenue, Washington, North Carolina.

<TABLE>
<CAPTION>
<S>                              <C>                              <C>
GENERAL COUNSEL                  SPECIAL COUNSEL                  INDEPENDENT ACCOUNTANTS
Rodman, Holscher, Francisco &    Stradley Ronon Housley           PricewaterhouseCoopers LLP
   Peck, P.A.                       Kantarian & Bronstein, LLP    Suite 2300
320 North Market Street          Suite 700                        150 Fayetteville Street Mall
Washington, NC  27889            1220 19th Street, N.W.           Raleigh, NC  27601
                                 Washington, DC 20036
</TABLE>

                                       43
<PAGE>

          First South Bancorp
          =====================================
          -------------------------------------
          1311 Carolina Avenue
          P.O. Box 2047
          Washington, North Carolina 27889
          (252) 946-4178 Fax (252) 946-3873