##### Table of Contents

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington D.C. 20549



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FORM 10-QSB



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QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934



For the quarterly period
ended March 31, 2005



Commission File No: 0-24479



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AF Financial Group

(Exact name of
small business issuer as specified in its charter)



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|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|Federally Chartered                                            |  | 56-2098545                          
|(State or other jurisdiction of incorporation or organization) |  | (I.R.S. Employer Identification No.)



21 East Ashe Street

West Jefferson, North Carolina 28694

(Address of principal executive offices)



(336) 246-4344

(Issuers telephone number)



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



As of
April 30, 2005 there were 1,049,835 shares of the registrants common stock outstanding, $.01 par value.



Transitional Small Business Disclosure Format:    Yes ̈No  x



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##### Table of Contents

AF FINANCIAL GROUP

CONTENTS



|                                                                                                                                             |  |       |  | 
|-------------------------------------------------------------------------------------------------------------------------------------------- |  | ----- |  | 
|                                                                                                                                             |  | Pages
|PART I - FINANCIAL INFORMATION                                                                                                               |  |      
|                                                                                                                                             | 
|Item 1. Financial Statements                                                                                                                 |  |      
|                                                                                                                                             | 
|Condensed Consolidated Statements of Financial Condition as of March 31, 2005 (unaudited) and June 30, 2004                                  |  | 1    
|                                                                                                                                             | 
|Condensed Consolidated Statements of Income and Comprehensive Income (unaudited) for the Three and Nine Months ended March 31, 2005 and 2004 |  | 2    
|                                                                                                                                             | 
|Condensed Consolidated Statements of Cash Flows (unaudited) for the Nine Months ended March 31, 2005 and 2004                                |  | 3    
|                                                                                                                                             | 
|Notes to Condensed Consolidated Financial Statements                                                                                         |  | 4-7  
|                                                                                                                                             | 
|Item 2. Managements Discussion and Analysis                                                                                                 |  | 8-16 
|                                                                                                                                             | 
|Item 3. Controls and Procedures                                                                                                              |  | 16   
|                                                                                                                                             | 
|PART II  OTHER INFORMATION                                                                                                                  |  |      
|                                                                                                                                             | 
|Item 1. Legal Proceedings                                                                                                                    |  | 17   
|                                                                                                                                             | 
|Item 2. Unregistered Sales of Equity Securities and Use of Proceeds                                                                          |  | 17   
|                                                                                                                                             | 
|Item 3. Defaults Upon Senior Securities                                                                                                      |  | 17   
|                                                                                                                                             | 
|Item 4. Submission of Matters to a Vote of Security Holders                                                                                  |  | 17   
|                                                                                                                                             | 
|Item 5. Other Information                                                                                                                    |  | 17   
|                                                                                                                                             | 
|Item 6. Exhibits                                                                                                                             |  | 17-18
|                                                                                                                                             | 
|Signatures                                                                                                                                   |  | 19   



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##### Table of Contents

AF FINANCIAL GROUP AND SUBSIDIARIES



CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION

As of March 31, 2005 and June 30, 2004



|                                                                                                                                                           |  |                |             |   |               |   |             |  
|---------------------------------------------------------------------------------------------------------------------------------------------------------- |  | -------------- | ----------- | - | ------------- | - | ----------- | -
|                                                                                                                                                           |  | March 31, 2005 |             |   | June 30, 2004 |  
|                                                                                                                                                           |  | (Unaudited)    |             |   | (*)           |  
|ASSETS                                                                                                                                                     |  |                |             |   |               |   |             |  
|Cash and cash equivalents:                                                                                                                                 |  |                |             |   |               |   |             |  
|Interest-bearing deposits                                                                                                                                  |  | $              | 2,442,296   |   |               | $ | 2,498,878   |  
|Noninterest-bearing deposits                                                                                                                               |  |                | 6,092,564   |   |               |   | 5,175,174   |  
|Securities held to maturity                                                                                                                                |  |                | 392,787     |   |               |   | 529,000     |  
|Securities available for sale                                                                                                                              |  |                | 4,061,684   |   |               |   | 4,315,066   |  
|Federal Home Loan Bank stock                                                                                                                               |  |                | 1,884,800   |   |               |   | 1,657,200   |  
|                                                                                                                                                           |  |               
|Loans                                                                                                                                                      |  |                | 186,985,936 |   |               |   | 182,734,177 |  
|Less allowance for loan losses                                                                                                                             |  |                | (1,414,936  | ) |               |   | (1,245,018  | )
|                                                                                                                                                           |  |                |             |   |               |   |             |  
|Loans receivable, net                                                                                                                                      |  |                | 185,571,000 |   |               |   | 181,489,159 |  
|Real estate owned                                                                                                                                          |  |                | 240,000     |   |               |   |            |  
|Office properties and equipment, net                                                                                                                       |  |                | 12,972,658  |   |               |   | 11,515,179  |  
|Accrued interest receivable on loans                                                                                                                       |  |                | 848,079     |   |               |   | 855,408     |  
|Accrued interest receivable on investment securities                                                                                                       |  |                | 61,405      |   |               |   | 66,402      |  
|Prepaid expenses and other assets                                                                                                                          |  |                | 1,638,094   |   |               |   | 1,560,688   |  
|Deferred income taxes, net                                                                                                                                 |  |                | 278,093     |   |               |   | 280,577     |  
|Goodwill                                                                                                                                                   |  |                | 1,648,468   |   |               |   | 1,676,446   |  
|                                                                                                                                                           |  |                |             |   |               |   |             |  
|Total assets                                                                                                                                               |  | $              | 218,131,928 |   |               | $ | 211,619,177 |  
|                                                                                                                                                           |  |                |             |   |               |   |             |  
|LIABILITIES AND STOCKHOLDERS EQUITY                                                                                                                       |  |                |             |   |               |   |             |  
|Liabilities:                                                                                                                                               |  |                |             |   |               |   |             |  
|Savings deposits                                                                                                                                           |  | $              | 164,183,961 |   |               | $ | 157,433,544 |  
|Short-term borrowings                                                                                                                                      |  |                | 1,589,497   |   |               |   | 5,150,000   |  
|Long-term borrowings                                                                                                                                       |  |                | 37,036,997  |   |               |   | 34,261,980  |  
|Accounts payable and other liabilities                                                                                                                     |  |                | 1,859,187   |   |               |   | 1,764,907   |  
|Redeemable common stock held by the ESOP, net of unearned ESOP shares                                                                                      |  |                | 607,016     |   |               |   | 534,750     |  
|                                                                                                                                                           |  |                |             |   |               |   |             |  
|Total liabilities                                                                                                                                          |  |                | 205,276,658 |   |               |   | 199,145,181 |  
|                                                                                                                                                           |  |                |             |   |               |   |             |  
|Commitments and Contingencies                                                                                                                              |  |                |             |   |               |   |             |  
|                                                                                                                                                           |  |               
|Stockholders Equity:                                                                                                                                      |  |                |             |   |               |   |             |  
|Common stock, par value $.01 per share; authorized 5,000,000 shares; 1,053,675 issued and 1,049,835 outstanding shares at March 31, 2005 and
June 30, 2004 |  |                | 10,537      |   |               |   | 10,537      |  
|Additional paid-in capital                                                                                                                                 |  |                | 4,679,630   |   |               |   | 4,653,933   |  
|Retained earnings, substantially restricted                                                                                                                |  |                | 8,225,727   |   |               |   | 7,874,017   |  
|Accumulated other comprehensive income                                                                                                                     |  |                | 14,256      |   |               |   | 10,389      |  
|                                                                                                                                                           |  |                |             |   |               |   |             |  
|                                                                                                                                                           |  |                | 12,930,150  |   |               |   | 12,548,876  |  
|Less the cost of 3,840 shares of treasury stock                                                                                                            |  |                | (74,880     | ) |               |   | (74,880     | )
|                                                                                                                                                           |  |                |             |   |               |   |             |  
|Total stockholders equity                                                                                                                                 |  |                | 12,855,270  |   |               |   | 12,473,996  |  
|                                                                                                                                                           |  |                |             |   |               |   |             |  
|Total liabilities and stockholders equity                                                                                                                 |  | $              | 218,131,928 |   |               | $ | 211,619,177 |  
|                                                                                                                                                           |  |                |             |   |               |   |             |  

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|* | The Condensed Consolidated Statement of Financial Condition as of June 30, 2004 has been derived from audited consolidated financial statements.
|- | ------------------------------------------------------------------------------------------------------------------------------------------------



See Notes to Condensed Consolidated Financial Statements.



1



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##### Table of Contents

AF FINANCIAL GROUP AND SUBSIDIARIES



CONDENSED CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME (UNAUDITED)

For the Three and Nine Months Ended March
31, 2005 and 2004



|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|--------------------------------------------------- |  | ---------------------------- | --------- | --------------------------- | ---- | - | --------- |  | - | --------- | - |  | - | --------- | -
|                                                    |  | Three Months Ended March 31, |           | Nine Months Ended March 31, |     
|                                                    |  | 2005                         |           |                             | 2004 |   | 2005      |  |   | 2004      |  
|Interest and dividend income:                       |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Loans                                               |  | $                            | 2,889,065 |                             |      | $ | 2,577,821 |  | $ | 8,640,503 |   |  | $ | 7,735,239 |  
|Investment securities                               |  |                              | 66,707    |                             |      |   | 50,117    |  |   | 171,747   |   |  |   | 167,925   |  
|Interest-bearing deposits                           |  |                              | 18,908    |                             |      |   | 5,194     |  |   | 41,612    |   |  |   | 37,566    |  
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Total interest income                               |  |                              | 2,974,680 |                             |      |   | 2,633,132 |  |   | 8,853,862 |   |  |   | 7,940,730 |  
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Interest expense:                                   |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Savings deposits                                    |  |                              | 703,815   |                             |      |   | 649,244   |  |   | 2,022,293 |   |  |   | 2,065,421 |  
|Short-term borrowings                               |  |                              | 43,158    |                             |      |   | 1,351     |  |   | 127,038   |   |  |   | 1,964     |  
|Long-term borrowings                                |  |                              | 458,542   |                             |      |   | 405,004   |  |   | 1,340,549 |   |  |   | 1,267,142 |  
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Total interest expense                              |  |                              | 1,205,515 |                             |      |   | 1,055,599 |  |   | 3,489,880 |   |  |   | 3,334,527 |  
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Net interest income                                 |  |                              | 1,769,165 |                             |      |   | 1,577,533 |  |   | 5,363,982 |   |  |   | 4,606,203 |  
|Provision for loan losses                           |  |                              | 85,000    |                             |      |   |          |  |   | (128,922  | ) |  |   | 544,000   |  
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Net interest income after provision for loan losses |  |                              | 1,684,165 |                             |      |   | 1,577,533 |  |   | 5,492,904 |   |  |   | 4,062,203 |  
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Noninterest income:                                 |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Insurance commissions                               |  |                              | 679,017   |                             |      |   | 585,693   |  |   | 1,927,571 |   |  |   | 1,771,166 |  
|Other                                               |  |                              | 364,581   |                             |      |   | 300,061   |  |   | 1,088,258 |   |  |   | 857,556   |  
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|                                                    |  |                              | 1,043,598 |                             |      |   | 885,754   |  |   | 3,015,829 |   |  |   | 2,628,722 |  
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Noninterest expense:                                |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Compensation and employee benefits                  |  |                              | 1,397,873 |                             |      |   | 1,377,132 |  |   | 4,247,510 |   |  |   | 4,122,339 |  
|Occupancy and equipment                             |  |                              | 337,878   |                             |      |   | 329,245   |  |   | 1,008,486 |   |  |   | 946,318   |  
|Computer processing charges                         |  |                              | 167,710   |                             |      |   | 157,553   |  |   | 503,931   |   |  |   | 454,059   |  
|Other                                               |  |                              | 593,418   |                             |      |   | 527,884   |  |   | 1,900,809 |   |  |   | 1,648,888 |  
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|                                                    |  |                              | 2,496,879 |                             |      |   | 2,391,814 |  |   | 7,660,736 |   |  |   | 7,171,604 |  
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Income (loss) before income taxes                   |  |                              | 230,884   |                             |      |   | 71,473    |  |   | 847,997   |   |  |   | (480,679  | )
|Income taxes                                        |  |                              | 98,578    |                             |      |   | 48,617    |  |   | 374,480   |   |  |   | (128,963  | )
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Net income (loss)                                   |  |                              | 132,306   |                             |      |   | 22,856    |  |   | 473,517   |   |  |   | (351,716  | )
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Other comprehensive income (loss), net of tax:      |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Unrealized gain (loss) on securities, net of tax    |  |                              | (29,814   | )                           |      |   | 9,193     |  |   | 3,867     |   |  |   | (7,963    | )
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Comprehensive income (loss)                         |  | $                            | 102,492   |                             |      | $ | 32,049    |  | $ | 477,384   |   |  | $ | (359,679  | )
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Basic earnings (loss) per share of common stock     |  | $                            | 0.13      |                             |      | $ | 0.02      |  | $ | 0.45      |   |  | $ | (0.34     | )
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Diluted earnings (loss) per share of common stock   |  | $                            | 0.13      |                             |      | $ | 0.02      |  | $ | 0.45      |   |  | $ | (0.34     | )
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Basic weighted average shares outstanding           |  |                              | 1,045,260 |                             |      |   | 1,041,560 |  |   | 1,044,328 |   |  |   | 1,040,628 |  
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Diluted weighted average shares outstanding         |  |                              | 1,046,858 |                             |      |   | 1,044,342 |  |   | 1,045,214 |   |  |   | 1,040,628 |  
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  
|Cash dividends declared per share                   |  | $                            | 0.05      |                             |      | $ | 0.05      |  | $ | 0.15      |   |  | $ | 0.15      |  
|                                                    |  |                              |           |                             |      |   |           |  |   |           |   |  |   |           |  



See Notes to Condensed Consolidated
Financial Statements



2



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##### Table of Contents

AF FINANCIAL GROUP AND SUBSIDIARIES



CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

For the Nine Months Ended March 31, 2005 and 2004



|                                                                                         |  |                             |            |   |      |   |             |  
|---------------------------------------------------------------------------------------- |  | --------------------------- | ---------- | - | ---- | - | ----------- | -
|                                                                                         |  | Nine Months Ended March 31, |           
|                                                                                         |  | 2005                        |            |   | 2004 |  
|Cash Flows from Operating Activities                                                     |  |                             |            |   |      |   |             |  
|Net income (loss)                                                                        |  | $                           | 473,517    |   |      | $ | (351,716    | )
|Adjustments to reconcile net income (loss) to net cash provided by operating activities: |  |                             |            |   |      |   |             |  
|Provision for loan losses                                                                |  |                             | (128,922   | ) |      |   | 544,000     |  
|Depreciation                                                                             |  |                             | 691,785    |   |      |   | 655,075     |  
|ESOP expense                                                                             |  |                             | 53,475     |   |      |   | 56,128      |  
|Change in operating assets and liabilities:                                              |  |                             |            |   |      |   |             |  
|Accrued interest receivable                                                              |  |                             | 12,326     |   |      |   | 18,099      |  
|Accrued interest payable                                                                 |  |                             | (204,326   | ) |      |   | (131,566    | )
|Prepaid expense and other assets                                                         |  |                             | 316,025    |   |      |   | (30,277     | )
|Accounts payable and other liabilities                                                   |  |                             | 212,984    |   |      |   | 141,619     |  
|                                                                                         |  |                             |            |   |      |   |             |  
|Net cash provided by operating activities                                                |  |                             | 1,426,864  |   |      |   | 901,362     |  
|                                                                                         |  |                             |            |   |      |   |             |  
|Cash Flows from Investing Activities                                                     |  |                             |            |   |      |   |             |  
|Increase in Federal Home Loan Bank stock                                                 |  |                             | (227,600   | ) |      |   | (275,000    | )
|Purchases of investments held to maturity                                                |  |                             | (438,787   | ) |      |   | (380,000    | )
|Proceeds from maturities of investments held to maturity                                 |  |                             | 575,000    |   |      |   | 95,000      |  
|Purchases of securities available for sale                                               |  |                             | (1,900,000 | ) |      |   | (2,000,000  | )
|Proceeds from principal repayment and maturities of securities available for sale        |  |                             | 2,146,908  |   |      |   | 4,383,994   |  
|Net originations of loans receivable                                                     |  |                             | (4,432,731 | ) |      |   | (16,415,153 | )
|Recovery (investment) in insurance agency assets                                         |  |                             | 27,978     |   |      |   | (80,000     | )
|Purchases of office properties and equipment                                             |  |                             | (2,215,058 | ) |      |   | (2,540,151  | )
|Proceeds from sale of real estate owned                                                  |  |                             | 80,000     |   |      |   | 47,145      |  
|                                                                                         |  |                             |            |   |      |   |             |  
|Net cash used in investing activities                                                    |  |                             | (6,384,290 | ) |      |   | (17,164,165 | )
|                                                                                         |  |                             |            |   |      |   |             |  
|Cash Flows from Financing Activities                                                     |  |                             |            |   |      |   |             |  
|Net increase in savings deposits                                                         |  |                             | 6,836,039  |   |      |   | 5,345,663   |  
|Short-term borrowings, net                                                               |  |                             | (3,560,503 | ) |      |   | 5,500,000   |  
|Long-term borrowings, net                                                                |  |                             | 2,620,017  |   |      |   | (74,141     | )
|Dividends paid                                                                           |  |                             | (77,319    | ) |      |   | (73,123     | )
|                                                                                         |  |                             |            |   |      |   |             |  
|Net cash provided by financing activities                                                |  |                             | 5,818,234  |   |      |   | 10,698,399  |  
|                                                                                         |  |                             |            |   |      |   |             |  
|Net increase (decrease) in cash and cash equivalents                                     |  |                             | 860,808    |   |      |   | (5,564,404  | )
|Cash and cash equivalents:                                                               |  |                             |            |   |      |   |             |  
|Beginning                                                                                |  |                             | 7,674,052  |   |      |   | 14,072,018  |  
|                                                                                         |  |                             |            |   |      |   |             |  
|Ending                                                                                   |  | $                           | 8,534,860  |   |      | $ | 8,507,614   |  
|                                                                                         |  |                             |            |   |      |   |             |  



See Notes to Condensed
Consolidated Financial Statements.



3



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##### Table of Contents

AF FINANCIAL GROUP

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS



Note 1. Nature of Business



AF Financial Group (the
Company) is a federally chartered stock holding company for AF Bank (the Bank), AF Insurance Services, Inc. (an independent insurance agency) and AF Brokerage, Inc. (a registered broker/dealer, member NASD and SIPC). AF Bank
conducts business from its main office located in West Jefferson, North Carolina, with branches in Boone, Jefferson, Sparta, Warrensville, and West Jefferson, North Carolina. Headquartered in West Jefferson, North Carolina, AF Insurance Services,
Inc., has branches in Boone, Elkin, Jefferson, Lenoir, Sparta, West Jefferson, and North Wilkesboro, North Carolina. AF Brokerage, Inc. serves Ashe, Alleghany, Wilkes and Watauga counties in North Carolina.



Note 2. Basis of Presentation



The accompanying unaudited condensed consolidated financial statements (except for the
condensed consolidated statement of financial condition at June 30, 2004, which is derived from audited consolidated financial statements) have been prepared in accordance with accounting principles generally accepted in the United States (US
GAAP) for interim financial information and with the instructions to Form 10-QSB of Regulation S-B. Accordingly, they do not include all of the information and footnotes required by US GAAP for complete financial statements. In the opinion of
management, all adjustments (none of which were other than normal recurring accruals) necessary for a fair presentation of the financial position and results of operations for the periods presented have been included. The results of operations for
the three and nine month periods ended March 31, 2005 are not necessarily indicative of the results of operations that may be expected for the Companys fiscal year ending June 30, 2005.



Certain amounts in the three and nine month periods ended March 31, 2004 financial statements
have been reclassified to conform to the three and nine month periods ended March 31, 2005 presentation. The reclassifications had no effect on net income (loss) or stockholders equity as previously reported.



The accounting policies which follow are as set forth in Note 1 of the Notes to Consolidated
Financial Statements in the Companys 2004 audited consolidated financial statements, which are included in the Companys Annual Report on Form 10-KSB for the year ended June 30, 2004. This quarterly report should be read in conjunction
with such annual report.



Note 3. Earnings Per Share



Basic earnings per share amounts are based on the weighted average shares of common stock
outstanding. Diluted earnings per share assumes the exercise or issuance of all potential common stock instruments such as options, unless the effect is antidilutive (to reduce a loss or increase earnings per share). Shares owned by the
Companys ESOP that have not been committed to be released are not considered to be outstanding for the purposes of computing earnings per share. Earnings per share have been calculated in accordance with Statement of Position 93-6
Employers Accounting for Employee Stock Ownership Plans and Statement of Financial Accounting Standards Number 128.



Earnings per share have been computed using the weighted average number of shares of common stock and potentially dilutive common stock equivalents outstanding as
follows:



4



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##### Table of Contents

|                                                                                            |  |                             |  |                            |  |           |  |          
|------------------------------------------------------------------------------------------- |  | --------------------------- |  | -------------------------- |  | --------- |  | ---------
|                                                                                            |  | Three Months EndedMarch 31, |  | Nine Months EndedMarch 31,
|                                                                                            |  | 2005                        |  | 2004                       |  | 2005      |  | 2004     
|Weighted average shares outstanding                                                         |  | 1,045,260                   |  | 1,041,560                  |  | 1,044,328 |  | 1,040,628
|Potentially dilutive effect of stock options                                                |  | 1,598                       |  | 2,782                      |  | 886       |  |         
|                                                                                            |  |                             |  |                            |  |           |  |          
|Weighted average shares outstanding, including potentially dilutive effect of stock options |  | 1,046,858                   |  | 1,044,342                  |  | 1,045,214 |  | 1,040,628
|                                                                                            |  |                             |  |                            |  |           |  |          



Note 4. Capital Securities



On December 31, 2004, the Company adopted FIN 46R which resulted in the
deconsolidation of the Companys trust preferred subsidiary, AF Capital Trust I (the Trust). Upon deconsolidation, the junior subordinated debentures issued by the Company to the trust were included in borrowings (instead of trust
preferred securities) and the Companys equity interests in the trust were included in other assets. As a result, other assets and borrowings increased by $155,000. Except for accounting treatment, the relationship between the Company and the
Trust has not changed. AF Capital Trust I continues to be a wholly owned trust preferred subsidiary of the Company and the full and unconditional guarantee of the Company for the repayment of the trust preferred securities remains in effect.



Note 5. Dividends Declared



On March 24, 2005, the Board of Directors of the Company declared a dividend of $0.05 a
share for stockholders of record as of April 4, 2005 and payable on April 11, 2005. The dividends declared were accrued and reported in accounts payable and other liabilities in the March 31, 2005 Consolidated Statement of Financial Condition.
AsheCo, MHC, the mutual holding company, waived the receipt of dividends declared by the Company.



Note 6. Income Taxes



Income taxes
resulted from applying normal, expected tax rates on income earned and on losses during the three and nine months ended March 31, 2005 and 2004. The income tax expense was $98,578 for the three months ended March 31, 2005 compared to the income tax
expense of $48,617 for the three months ended March 31, 2004. The income tax expense was $374,480 for the nine months ended March 31, 2005 compared to the income tax credit of $128,963 for the nine months ended March 31, 2004. The effective tax rate
was higher than statutory tax rates, resulting primarily from the fact that North Carolina corporations may not file consolidated income tax returns. This had the effect of taxing all income in a particular member of a consolidated group without
permitting an offsetting benefit for losses incurred in another member of the same group, creating a higher than expected overall state income tax expense.



Note 7. Segment Reporting



The Company has additional reportable segments, AF Bank, AF Insurance Services, Inc. and AF Brokerage, Inc. AF Bank is a federally chartered stock savings bank. The
principal activities of the Bank consist of obtaining savings deposits and providing credit to customers in its primary market area. AF Insurance Services, Inc. and AF Brokerage, Inc. provide insurance and noninsured investment services
respectively. Information about reportable segments and reconciliation of such information to the condensed consolidated financial statements as of the three and nine month periods ended March 31, 2005 and 2004 is as follows (dollars in thousands):



5



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|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |        
|----------------------------------- |  | ---------------- | ---- | - | ------- | - | ------------------------- |  | - | ---------------- | - |  | ------------------------- | --- | - | ------------------ | - | ---- | - |  | - | -------
|                                    |  | AFFinancialGroup |      |   | AF Bank |   | AFInsuranceServices, Inc. |  |   | AFBrokerage Inc. |   |  | Inter- segmentElimination |     |   | ConsolidatedTotals
|Three Months Ended March 31, 2005   |  |                  |      |  
|Interest income                     |  | $                |     |   |         | $ | 2,976                     |  | $ |                 |   |  | $                         |    |   |                    | $ | (1   | ) |  | $ | 2,975  
|                                    |  |                  |      |   |         |  
|Interest expense                    |  |                  | 125  |   |         |   | 1,070                     |  |   | 11               |   |  |                           |    |   |                    |   | (1   | ) |  |   | 1,205  
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |        
|Net interest income                 |  |                  | (125 | ) |         |   | 1,906                     |  |   | (11              | ) |  |                           |    |   |                    |   |     |   |  |   | 1,770  
|Provision for loan losses           |  |                  |     |   |         |   | 85                        |  |   |                 |   |  |                           |    |   |                    |   |     |   |  |   | 85     
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |        
|Net interest income after provision |  |                  | (125 | ) |         |   | 1,821                     |  |   | (11              | ) |  |                           |    |   |                    |   |     |   |  |   | 1,685  
|Non-interest income                 |  |                  |     |   |         |   | 353                       |  |   | 685              |   |  |                           | 90  |   |                    |   | (85  | ) |  |   | 1,043  
|Non-interest expense                |  |                  | 74   |   |         |   | 1,772                     |  |   | 642              |   |  |                           | 94  |   |                    |   | (85  | ) |  |   | 2,497  
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |        
|Income (loss) before income taxes   |  |                  | (199 | ) |         |   | 402                       |  |   | 32               |   |  |                           | (4  | ) |                    |   |     |   |  |   | 231    
|Income taxes                        |  |                  | (69  | ) |         |   | 156                       |  |   | 13               |   |  |                           | (1  | ) |                    |   |     |   |  |   | 99     
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |        
|Net income (loss)                   |  | $                | (130 | ) |         | $ | 246                       |  | $ | 19               |   |  | $                         | (3  | ) |                    | $ |     |   |  | $ | 132    
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |        
|Assets                              |  | $                | 360  |   |         | $ | 215,731                   |  | $ | 2,228            |   |  | $                         | 197 |   |                    | $ | (384 | ) |  | $ | 218,132
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |        



|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |        
|----------------------------------- |  | ---------------- | ---- | - | ------- | - | ------------------------- |  | - | ---------------- | - |  | ------------------------- | --- | - | ------------------ | - | ---- | - |  | - | -------
|                                    |  | AFFinancialGroup |      |   | AF Bank |   | AFInsuranceServices, Inc. |  |   | AFBrokerage Inc. |   |  | Inter- segmentElimination |     |   | ConsolidatedTotals
|Three Months Ended March 31, 2004   |  |                  |      |  
|Interest income                     |  | $                |     |   |         | $ | 2,635                     |  | $ |                 |   |  | $                         |    |   |                    | $ | (2   | ) |  | $ | 2,633  
|                                    |  |                  |      |   |         |  
|Interest expense                    |  |                  | 126  |   |         |   | 916                       |  |   | 15               |   |  |                           |    |   |                    |   | (2   | ) |  |   | 1,055  
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |        
|Net interest income                 |  |                  | (126 | ) |         |   | 1,719                     |  |   | (15              | ) |  |                           |    |   |                    |   |     |   |  |   | 1,578  
|Provision for loan losses           |  |                  |     |   |         |   |                          |  |   |                 |   |  |                           |    |   |                    |   |     |   |  |   |       
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |        
|Net interest income after provision |  |                  | (126 | ) |         |   | 1,719                     |  |   | (15              | ) |  |                           |    |   |                    |   |     |   |  |   | 1,578  
|Non-interest income                 |  |                  |     |   |         |   | 325                       |  |   | 600              |   |  |                           | 38  |   |                    |   | (77  | ) |  |   | 886    
|Non-interest expense                |  |                  | 106  |   |         |   | 1,711                     |  |   | 577              |   |  |                           | 75  |   |                    |   | (77  | ) |  |   | 2,392  
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |        
|Income (loss) before income taxes   |  |                  | (232 | ) |         |   | 333                       |  |   | 8                |   |  |                           | (37 | ) |                    |   |     |   |  |   | 72     
|Income taxes                        |  |                  | (75  | ) |         |   | 131                       |  |   | 3                |   |  |                           | (10 | ) |                    |   |     |   |  |   | 49     
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |        
|Net income (loss)                   |  | $                | (157 | ) |         | $ | 202                       |  | $ | 5                |   |  | $                         | (27 | ) |                    | $ |     |   |  | $ | 23     
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |        
|Assets                              |  | $                | 303  |   |         | $ | 199,852                   |  | $ | 2,412            |   |  | $                         | 186 |   |                    | $ | (360 | ) |  | $ | 202,378
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |        



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|                                    |  |                  |      |   |         |   |         |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |         |  
|----------------------------------- |  | ---------------- | ---- | - | ------- | - | ------- | ------------------------- |  | - | ---------------- | - |  | ------------------------- | --- | - | ------------------ | - | ---- | - |  | - | ------- | -
|                                    |  | AFFinancialGroup |      |   | AF Bank |   |         | AFInsuranceServices, Inc. |  |   | AFBrokerage Inc. |   |  | Inter- segmentElimination |     |   | ConsolidatedTotals |  
|Nine Months Ended March 31, 2005    |  |                  |      |   |        
|Interest income                     |  | $                |     |   |         | $ | 8,858   |                           |  | $ |                 |   |  | $                         | 1   |   |                    | $ | (5   | ) |  | $ | 8,854   |  
|                                    |  |                  |      |   |         |  
|Interest expense                    |  |                  | 388  |   |         |   | 3,065   |                           |  |   | 42               |   |  |                           |    |   |                    |   | (5   | ) |  |   | 3,490   |  
|                                    |  |                  |      |   |         |   |         |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |         |  
|Net interest income                 |  |                  | (388 | ) |         |   | 5,793   |                           |  |   | (42              | ) |  |                           | 1   |   |                    |   |     |   |  |   | 5,364   |  
|Provision for loan losses           |  |                  |     |   |         |   | (129    | )                         |  |   |                 |   |  |                           |    |   |                    |   |     |   |  |   | (129    | )
|                                    |  |                  |      |   |         |   |         |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |         |  
|Net interest income after provision |  |                  | (388 | ) |         |   | 5,922   |                           |  |   | (42              | ) |  |                           | 1   |   |                    |   |     |   |  |   | 5,493   |  
|Non-interest income                 |  |                  |     |   |         |   | 1,066   |                           |  |   | 1,971            |   |  |                           | 238 |   |                    |   | (259 | ) |  |   | 3,016   |  
|Non-interest expense                |  |                  | 243  |   |         |   | 5,563   |                           |  |   | 1,819            |   |  |                           | 295 |   |                    |   | (259 | ) |  |   | 7,661   |  
|                                    |  |                  |      |   |         |   |         |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |         |  
|Income (loss) before                |  |                  |      |   |         |   |         |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |         |  
|income taxes                        |  |                  | (631 | ) |         |   | 1,425   |                           |  |   | 110              |   |  |                           | (56 | ) |                    |   |     |   |  |   | 848     |  
|Income taxes                        |  |                  | (207 | ) |         |   | 555     |                           |  |   | 42               |   |  |                           | (16 | ) |                    |   |     |   |  |   | 374     |  
|                                    |  |                  |      |   |         |   |         |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |         |  
|Net income (loss)                   |  | $                | (424 | ) |         | $ | 870     |                           |  | $ | 68               |   |  | $                         | (40 | ) |                    | $ |     |   |  | $ | 474     |  
|                                    |  |                  |      |   |         |   |         |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |         |  
|Assets                              |  | $                | 360  |   |         | $ | 215,731 |                           |  | $ | 2,228            |   |  | $                         | 197 |   |                    | $ | (384 | ) |  | $ | 218,132 |  
|                                    |  |                  |      |   |         |   |         |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |         |  



|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |         |  
|----------------------------------- |  | ---------------- | ---- | - | ------- | - | ------------------------- |  | - | ---------------- | - |  | ------------------------- | --- | - | ------------------ | - | ---- | - |  | - | ------- | -
|                                    |  | AFFinancialGroup |      |   | AF Bank |   | AFInsuranceServices, Inc. |  |   | AFBrokerage Inc. |   |  | Inter- segmentElimination |     |   | ConsolidatedTotals |  
|Nine Months Ended March 31, 2004    |  |                  |      |   |        
|Interest income                     |  | $                |     |   |         | $ | 7,947                     |  | $ |                 |   |  | $                         |    |   |                    | $ | (6   | ) |  | $ | 7,941   |  
|                                    |  |                  |      |   |         |  
|Interest expense                    |  |                  | 387  |   |         |   | 2,906                     |  |   | 48               |   |  |                           |    |   |                    |   | (6   | ) |  |   | 3,335   |  
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |         |  
|Net interest income                 |  |                  | (387 | ) |         |   | 5,041                     |  |   | (48              | ) |  |                           |    |   |                    |   |     |   |  |   | 4,606   |  
|Provision for loan losses           |  |                  |     |   |         |   | 544                       |  |   |                 |   |  |                           |    |   |                    |   |     |   |  |   | 544     |  
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |         |  
|Net interest income after provision |  |                  | (387 | ) |         |   | 4,497                     |  |   | (48              | ) |  |                           |    |   |                    |   |     |   |  |   | 4,062   |  
|Non-interest income                 |  |                  |     |   |         |   | 906                       |  |   | 1,803            |   |  |                           | 136 |   |                    |   | (216 | ) |  |   | 2,629   |  
|Non-interest expense                |  |                  | 342  |   |         |   | 5,110                     |  |   | 1,701            |   |  |                           | 235 |   |                    |   | (216 | ) |  |   | 7,172   |  
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |         |  
|Income (loss) before income taxes   |  |                  | (729 | ) |         |   | 293                       |  |   | 54               |   |  |                           | (99 | ) |                    |   |     |   |  |   | (481    | )
|Income taxes                        |  |                  | (237 | ) |         |   | 115                       |  |   | 21               |   |  |                           | (28 | ) |                    |   |     |   |  |   | (129    | )
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |         |  
|Net income (loss)                   |  | $                | (492 | ) |         | $ | 178                       |  | $ | 33               |   |  | $                         | (71 | ) |                    | $ |     |   |  | $ | (352    | )
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |         |  
|Assets                              |  | $                | 303  |   |         | $ | 199,852                   |  | $ | 2,412            |   |  | $                         | 186 |   |                    | $ | (360 | ) |  | $ | 202,378 |  
|                                    |  |                  |      |   |         |   |                           |  |   |                  |   |  |                           |     |   |                    |   |      |   |  |   |         |  



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AF FINANCIAL GROUP



Item 2. Managements Discussion and Analysis



This Form 10-QSB contains certain forward-looking statements consisting of estimates with respect to the financial condition, results of operations and other business of the Company, that are subject to various factors which could cause
actual results to differ materially from the estimates. These factors include: changes in general, economic and market conditions; the development of an interest rate environment that adversely affects the interest rate spread or other income
anticipated from the Companys operations and investments; our ability to offer new products and increase lower cost core deposits; and depositor and borrower preferences. The Company disclaims any obligation to publicly announce future events
or developments that may affect the forward-looking statements contained herein.



Overview



AF Financial Group is a
financial services company that provides banking, insurance and investment services to residents in the northwest corner of North Carolina. Our bank subsidiary, AF Bank, was chartered in 1939 and the historical operations of AF Bank have been to
provide fixed rate loans for the residents of Ashe County, North Carolina. Over the past several years, we have expanded our market area to include Alleghany, Caldwell, Surry, Watauga and Wilkes counties and have diversified our product lines by
engaging in non-residential mortgage and non-mortgage lending and offering insurance and brokerage products. In July 1997, we started offering traditional property and casualty, life and health insurance products through AF Insurance Services, Inc.,
a wholly-owned subsidiary of AF Financial Group, headquartered in West Jefferson, North Carolina and operating in Boone, Elkin, Jefferson, Lenoir, Sparta, West Jefferson and Wilkesboro, North Carolina. We also have a broker/dealer subsidiary, AF
Brokerage, Inc., which serves Ashe, Alleghany, Wilkes and Watauga counties. AF Brokerage offers a full array of uninsured investment products, including fixed-rate and variable annuities and mutual funds.



The Board of Directors of AF Financial Group has approved a plan to dissolve our
broker/dealer subsidiary, AF Brokerage, Inc., during the fourth quarter of the current fiscal year. We will continue to offer a full array of uninsured investment products through a third party relationship that AF Bank has entered into with LaSalle
Street Securities. This new structure will allow us to provide the same level of products and service to our customers while reducing expenses associated with maintaining an independent broker/dealer registration.



We are committed to the long-term profitability and success of AF Financial Group. Management
and the board of directors are placing major emphasis upon improving our net earnings and return on equity in the year ended June 30, 2005 and beyond. This will be accomplished by increasing the overall productivity of AF Financial Group and its
operating subsidiaries, controlling costs, and reducing or eliminating unprofitable activities whenever and wherever possible.



There are a number of positive factors and recent events, which reflect our progress toward our long-term goals during the nine months ended March 31, 2005:



| |  |  | An increase in net loans of $4.1 million or 2.3%;
| | - |  | -------------------------------------------------



| |  |  | An increase in savings deposits of $6.8 million or 4.3%
| | - |  | -------------------------------------------------------



| |  |  | Asset growth of $6.5 million or 3.1%;
| | - |  | -------------------------------------



| |  |  | An increase in stockholders equity of $381,274, or 3.1%;
| | - |  | ---------------------------------------------------------



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| |  |  | An increase in net income of $825,233 during the nine months ended March 31, 2005 as compared to the nine months ended March 31, 2004;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------



| |  |  | An increase in noninterest income of $387,107, or 14.7% during the nine months ended March 31, 2005 as compared to the nine months ended March 31, 2004;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Our new Financial Center in Boone, North Carolina opened on October 4, 2004. The Financial Center combines banking, insurance and investments into one convenient highly visible
location serving the Watauga County market.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Our operating
results are primarily dependent upon net interest income, fees and charges and insurance commissions. Net interest income is the difference between interest earned on loans and investments and the interest paid on savings deposits and our
borrowings. Our primary interest-earning asset is our loan portfolio representing 85.1% of total assets. Our net interest income is affected by changes in economic conditions that influence market interest rates and to a large extent by the monetary
actions by the Federal Reserve. We have reduced the exposure to rising rates by limiting the term or the time to reprice the loans that we retain in our portfolio.



Net income increased $109,450 to $132,306 for the three months ended March 31, 2005 from $22,856 for the three-month period ended March 31,
2004. Net income increased $825,233 to $473,517 for the nine-month period ended March 31, 2005 from a net loss of $351,716 for the nine-month period ended March 31, 2004. This change is primarily due to an increase in interest income due to the 150
basis point interest rate hike by the Federal Reserve during the nine months ended March 31, 2005 and from the reduction in the provision for loan losses due to a recovery of a charged off loan during the nine months ended March 31, 2005. We believe
that a positive upturn in economic indicators will continue to have a positive impact on our net income. At March 31, 2005 we had approximately $64.0 million in loans priced at prime or a margin thereto which provides for adjusting rates immediately
when market rates change. In a rising rate environment, our ability to make immediate rate adjustments serves to protect the interest margin against increases in rates at a more rapid speed than the increase in funding costs.



Critical Accounting Policies and Estimates



The notes to our audited consolidated financial statements for the year ended June 30, 2004
included in the AF Financial Group 2004 Annual Report on Form 10-KSB contain a summary of our significant accounting policies. We believe that our policies with respect to the methodology for our determination of the allowance for loan losses, the
fair value of mortgage servicing assets and asset impairment judgments, including the recoverability of goodwill, involve a higher degree of complexity and require management to make difficult and subjective judgments which often require assumptions
or estimates about highly uncertain matters. Changes in these judgments, assumptions or estimates could cause reported results to differ materially. These critical policies and their application are periodically reviewed with the Audit Committee and
our Board of Directors. We consider the following accounting policies to be most critical in their potential effect on our financial position or results of operations:



Allowance for Loan Losses



The Allowance for Loan Losses (ALL) is established through a provision for loan losses based on our evaluation of the risks inherent in AF Banks loan
portfolio, prior loss history and the general economy. The ALL is maintained at an amount we consider adequate to cover loan losses which are deemed probable and estimable. The allowance is based upon a number of factors, including asset
classifications, economic trends, industry experience and trends, industry and geographic concentrations, estimated collateral values, our assessment of the credit risk inherent in the portfolio, historical loan loss experience, and AF Banks
underwriting policies. Our methodology for assessing the ALL consists of two components, which are specific allowance for identified problem or impaired loans and a formula allowance for the remainder of the



9



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##### Table of Contents

portfolio. Although we believe we have established and maintained the ALL at appropriate levels, future adjustments may be necessary if economic, real estate
and other conditions differ substantially from the current operating environment. We will continue to monitor and modify our ALL as conditions dictate.



Mortgage Servicing Assets



Mortgage servicing assets represent the present value of the future net servicing fees from servicing mortgage loans sold to the secondary market. The most critical
accounting policy associated with mortgage servicing is the methodology used to determine the fair value of mortgage servicing assets, which requires the development of a number of assumptions, including anticipated loan principal amortization and
prepayments of principal. The value of mortgage servicing rights is significantly affected by mortgage interest rates available in the marketplace that influence the speed of mortgage loan prepayments. During periods of declining interest rates, the
value of mortgage servicing assets generally declines due to increasing prepayments attributable to increased mortgage refinance activity. Conversely, during periods of rising interest rates, the value of servicing assets generally increases due to
reduced refinance activity. We amortize mortgage servicing assets over the estimated period that servicing income is expected to be received based on estimates of the amount and timing of future cash flows. The amount and timing of servicing asset
amortization is adjusted quarterly based on actual results and updated projections.



Goodwill



On July 1, 2002, we adopted the provisions of
Financial Accounting Standards Board Statement 142, Goodwill and Other Intangible Assets. Under the provisions of the Statement, on July 1, 2002, we ceased to amortize goodwill. We will reevaluate the carrying value of goodwill annually by comparing
the market value of each reporting segment to the respective total equity at that level. Impairment would then be determined if the equity exceeds the fair value of the reporting unit. This evaluation is subjective as it requires material estimates
that may be susceptible to significant change.



Comparison of Financial
Condition at March 31, 2005 and June 30, 2004:



Total assets increased by
$6.5 million, or 3.1%, to $218.1 million at March 31, 2005 from $211.6 million at June 30, 2004. The increase in assets was primarily the result of an increase of $4.1 million, or 2.3%, in net loans receivable, an increase of $1.5 million, or 12.7%,
in net office properties and equipment and an increase of $860,808, or 11.2%, in cash and cash equivalents and from June 30, 2004 to March 31, 2005. The increase in net loans receivable is typical for AF Bank, which operates in lending markets
that have had sustained loan demand over the last several years. The increase in net office properties and equipment was primarily due to the costs to construct the new Financial Services Center in Boone, North Carolina, which opened on October 4,
2004.



Securities available for sale decreased $253,382, or 5.9%, to $4.1
million at March 31, 2005 from $4.3 million at June 30, 2004. This decrease was due to maturing investments. At March 31, 2005, our investment portfolio had approximately $23,415 in net unrealized gains as compared to net unrealized gains of $17,064
at June 30, 2004.



As mentioned above, net loans increased $4.1 million, or
2.3%, to $185.6 million at March 31, 2005 from $181.5 million at June 30, 2004. The following table sets forth the composition of our mortgage and other loan portfolios in dollar amounts and percentages at the dates indicated.



10



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##### Table of Contents

|                                              |  |                        |         |            |                  |   |        |   |            |  |        |  
|--------------------------------------------- |  | ---------------------- | ------- | ---------- | ---------------- | - | ------ | - | ---------- |  | ------ | -
|                                              |  | At March 31, 2005      |         |            | At June 30, 2004 |  
|                                              |  | Amount                 |         | % of Total |                  |   | Amount |   | % of Total | 
|                                              |  | (Dollars in thousands) |        
|Mortgage loans:                               |  |                        |         |            |                  |   |        |   |            |  |        |  
|One-to four-family                            |  | $                      | 98,104  |            | 52.86            | % |        | $ | 96,024     |  | 52.90  | %
|Multi-family                                  |  |                        | 5,194   |            | 2.80             | % |        |   | 5,728      |  | 3.16   | %
|Non-residential                               |  |                        | 26,332  |            | 14.19            | % |        |   | 28,958     |  | 15.96  | %
|Land                                          |  |                        | 18,775  |            | 10.12            | % |        |   | 13,906     |  | 7.66   | %
|Construction                                  |  |                        | 12,696  |            | 6.84             | % |        |   | 14,203     |  | 7.83   | %
|                                              |  |                        |         |            |                  |   |        |   |            |  |        |  
|Total mortgage loans                          |  | $                      | 161,101 |            | 86.81            | % |        | $ | 158,819    |  | 87.51  | %
|                                              |  |                        |         |            |                  |   |        |   |            |  |        |  
|Other loans:                                  |  |                        |         |            |                  |   |        |   |            |  |        |  
|Commercial                                    |  | $                      | 14,807  |            | 7.98             | % |        | $ | 12,626     |  | 6.96   | %
|Consumer loans                                |  |                        | 11,297  |            | 6.09             | % |        |   | 11,512     |  | 6.34   | %
|                                              |  |                        |         |            |                  |   |        |   |            |  |        |  
|Total other loans                             |  | $                      | 26,104  |            | 14.07            | % |        | $ | 24,138     |  | 13.30  | %
|                                              |  |                        |         |            |                  |   |        |   |            |  |        |  
|Gross loans                                   |  | $                      | 187,205 |            | 100.88           | % |        | $ | 182,957    |  | 100.81 | %
|                                              |  |                        |         |            |                  |   |        |   |            |  |        |  
|Less:                                         |  |                        |         |            |                  |   |        |   |            |  |        |  
|Unearned discounts and net deferred loan fees |  | $                      | 219     |            | 0.12             | % |        | $ | 223        |  | 0.12   | %
|Allowance for loan losses                     |  |                        | 1,415   |            | 0.76             | % |        |   | 1,245      |  | 0.69   | %
|                                              |  |                        |         |            |                  |   |        |   |            |  |        |  
|                                              |  |                        | 1,634   |            | 0.88             | % |        |   | 1,468      |  | 0.81   | %
|                                              |  |                        |         |            |                  |   |        |   |            |  |        |  
|Loans, net                                    |  | $                      | 185,571 |            | 100.00           | % |        | $ | 181,489    |  | 100.00 | %
|                                              |  |                        |         |            |                  |   |        |   |            |  |        |  



Savings deposits increased by $6.8
million, or 4.3%, from $157.4 million at June 30, 2004 to $164.2 million at March 31, 2005. We believe the increase in deposits is attributable to our continuing efforts directed towards increasing balances in savings and transaction accounts and in
smaller, stable certificates of deposits. We intend to further focus our marketing efforts and to offer new products to increase lower cost core deposits.



Short-term borrowings decreased $3.6 million, or 69.1%, to $1.6 million at March 31, 2005 from $5.2 million at June 30, 2004. Long-term borrowings increased $2.8 million,
or 8.1%, to $37.0 million at March 31, 2005 from $34.3 million at June 30, 2004. The shift from short-term to long-term borrowings was due to extending the maturity of a portion of the borrowings in order to obtain an interest rate that was lower
than what was available under short-term borrowing structures.



Total
stockholders equity increased $381,274, or 3.1%, to $12.9 million at March 31, 2005 from $12.5 million at June 30, 2004. The increase in stockholders equity was the primarily the result of net income of $473,517, the increase in other
comprehensive income of $3,867 and ESOP expenses of $53,475. These increases were partially offset by the increase in the value of redeemable common stock held by the ESOP of $72,266, or 13.5%, and dividends of $77,319. At March 31, 2005, AF
Banks regulatory capital amounted to $17.5 million compared to $17.0 million at June 30, 2004, which was in excess of regulatory capital requirements at both such dates.



AF Banks level of non-performing loans, defined as loans past due 90 days or more, decreased to $366,930 at March 31, 2005 compared to
$518,801 at June 30, 2004. The decrease is primarily the result of the Bank foreclosing on a real estate loan during the nine-month period ended March 31, 2005, where the borrower lost his employment and was not able to keep his payments current.
This transaction resulted in moving the amount from a delinquent loan to REO. The Bank recognized net recoveries of $298,840 during the nine-month period ended March 31, 2005 compared to net charge-offs of $513,059 for the comparable period ended
March  31, 2004.



11



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##### Table of Contents

The following table sets forth activity in the Banks ALL at or for the dates indicated.



|                                                                          |  |                                         |         |   |                                          |   |         |  
|------------------------------------------------------------------------- |  | --------------------------------------- | ------- | - | ---------------------------------------- | - | ------- | -
|                                                                          |  | For the NineMonths Ended March 31, 2005 |         |   | For the Nine Months Ended March 31, 2004 |  
|                                                                          |  | (Dollars in thousands)                  |        
|Balance at beginning of year                                              |  | $                                       | 1,245   |   |                                          | $ | 1,111   |  
|Provision for loan losses                                                 |  |                                         | (129    | ) |                                          |   | 544     |  
|                                                                          |  |                                         |         |   |                                          |   |         |  
|Charge-offs:                                                              |  |                                         |         |   |                                          |   |         |  
|One-to four-family residential                                            |  |                                         | (16     | ) |                                          |   | (84     | )
|Multi-family residential                                                  |  |                                         |        |   |                                          |   |        |  
|Non-residential and land                                                  |  |                                         |        |   |                                          |   | (18     | )
|Construction                                                              |  |                                         |        |   |                                          |   |        |  
|Commercial                                                                |  |                                         |        |   |                                          |   | (399    | )
|Consumer loans                                                            |  |                                         | (110    | ) |                                          |   | (71     | )
|                                                                          |  |                                         |         |   |                                          |   |         |  
|Total charge-offs                                                         |  |                                         | (126    | ) |                                          |   | (572    | )
|                                                                          |  |                                         |         |   |                                          |   |         |  
|Recoveries:                                                               |  |                                         |         |   |                                          |   |         |  
|One-to four-family residential                                            |  |                                         | 13      |   |                                          |   | 37      |  
|Multi-family residential                                                  |  |                                         |        |   |                                          |   |        |  
|Non-residential and land                                                  |  |                                         |        |   |                                          |   |        |  
|Construction                                                              |  |                                         |        |   |                                          |   |        |  
|Commercial                                                                |  |                                         | 342     |   |                                          |   |        |  
|Consumer loans                                                            |  |                                         | 70      |   |                                          |   | 22      |  
|                                                                          |  |                                         |         |   |                                          |   |         |  
|Total recoveries                                                          |  |                                         | 425     |   |                                          |   | 59      |  
|                                                                          |  |                                         |         |   |                                          |   |         |  
|Balance at end of period                                                  |  | $                                       | 1,415   |   |                                          | $ | 1,142   |  
|                                                                          |  |                                         |         |   |                                          |   |         |  
|Total loans outstanding at end of period                                  |  | $                                       | 187,205 |   |                                          | $ | 173,460 |  
|                                                                          |  |                                         |         |   |                                          |   |         |  
|Allowance for loan losses to total loans at end of period                 |  |                                         | 0.76    | % |                                          |   | 0.66    | %
|                                                                          |  |                                         |         |   |                                          |   |         |  
|Allowance for loan losses to total non-performing assets at end of period |  |                                         | 233.13  | % |                                          |   | 581.41  | %
|                                                                          |  |                                         |         |   |                                          |   |         |  
|Allowance for loan losses to total non-performing loans at end of period  |  |                                         | 385.61  | % |                                          |   | 581.41  | %
|                                                                          |  |                                         |         |   |                                          |   |         |  





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##### Table of Contents

Comparison of Operating Results for the Three and Nine Months Ended March 31, 2005 and 2004:



Net income for the three-month period ended March 31, 2005 increased $109,450 to $132,306
compared to net income of $22,856 during the same period in 2004. Net income for the nine-month period ended March 31, 2005 increased $825,233 to $473,517 compared to a net loss of $351,716 for the nine-month period ended March 31, 2004. The
increase in net income during the three month period was attributable to an increase in interest income and noninterest income partially offset by an increase in noninterest expense and an increase in the provision for loan losses. The increase in
net income during the nine month period was attributable to an increase in interest income and noninterest income and a decrease in the provision for loan losses partially offset by an increase in noninterest expense.



Interest Income. Interest income increased by $341,548, or 13.0%, from $2,633,132 for
the three-month period ended March 31, 2004 to $2,974,680 for the three-month period ended March 31, 2005. Interest income increased by $913,132, or 11.5%, from $7,940,730 for the nine-month period ended March 31, 2004 to $8,853,862 for the
nine-month period ended March 31, 2005. Interest income from loans increased $311,244, or 12.1%, from $2,577,821 for the three-month period ended March 31, 2004 to $2,889,065 for the three-month period ended March 31, 2005. Interest income from
loans increased $905,264, or 11.7%, from $7,735,239 for the nine-month period ended March 31, 2004 to $8,640,503 for the nine-month period ended March 31, 2005. The increase in interest income from loans for the three and nine month periods was
attributable to an increase in volume of outstanding loan balances and by the increase in the weighted average rate on portfolio loans. Total loans increased $13.7 million from $173.5 million at March 31, 2004 to $187.2 million at March 31, 2005.
The weighted average rate on portfolio loans increased .33% from 5.94% at March 31, 2004 to 6.27% at March 31, 2005, primarily due to the 150 basis point interest rate hike by the Federal Reserve during the nine months ended March 31, 2005.



Interest Expense. Interest expense increased by $149,916, or 14.2%, to
$1,205,515 for the three-month period ended March 31, 2005 from $1,055,599 for the three months ended March 31, 2004. Interest expense increased by $155,353, or 4.7%, to $3,489,880 for the nine-month period ended March 31, 2005 from $3,334,527 for
the nine months ended March 31, 2004. Interest expense on savings deposits increased $54,571 from $649,244 for the three months ended March 31, 2004 to $703,815 for the three months ended March 31, 2005. This increase was primarily attributable to
the increase in savings deposits and by the increase of the weighted average rate paid on deposits. Savings deposits increased $9.3 million from $154.9 million at March 31, 2004 to $164.2 million at March 31, 2005. The weighted average rate paid on
saving deposits increased .13% from 1.67% at March 31, 2004 to 1.80% at March 31, 2005. Interest expense on savings deposits decreased $43,128 from $2,065,421 for the nine months ended March 31, 2004 to $2,022,293 for the nine months ended March 31,
2005. Although, as mentioned above, the weighted average rate paid on deposits increased .13% during the twelve-month period ended March 31, 2005, most of the increase was during the three month period ended March 31, 2005; therefore, the average
weighted average rate paid on deposits was lower during the twelve months ended March 31, 2005 than during the same time period in 2004. This change resulted in the decrease in interest expense during the nine-month period ended March 31, 2005.



The increase in interest expense for the three and nine month periods was also
due to increases in interest expense on short-term and long-term borrowings. Interest expense on short-term borrowings increased $41,807 from $1,351 for the three months ended March 31, 2004 to $43,158 for the three months ended March 31, 2005.
Interest expense on short-term deposits increased $125,074 from $1,964 for the nine months ended March 31, 2004 to $127,038 for the nine months ended March 31, 2005. Interest expense on long-term borrowings increased $53,538 from $405,004 for the
three months ended March 31, 2004 to $458,542 for the three months ended March 31, 2005. Interest expense on long-term borrowings increased $73,407 from $1,267,142 for the nine-month period ended March 31, 2004 to $1,340,549 for the nine-month



13



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##### Table of Contents

period ended March 31, 2005. The increase in interest expense on short and long term borrowings is the result of the average balance increase in Federal Home
Loan Bank (FHLB) advances during the three and nine months ended March 31, 2005. These advances were used to fund loan demand.



Net Interest Income. Net interest income increased by $191,632, or 12.2%, from $1,577,533 for the three-month period ended March 31, 2004 to $1,769,165 for the
three-month period ended March 31, 2005. Net interest income increased by $757,779, or 16.5%, from $4,606,203 for the nine-month period ended March 31, 2004 to $5,363,982 for the nine-month period ended March 31, 2005. The increase in net interest
income is the result of the increase in outstanding loan balances and the increase in the weighted average interest rate earned on the loan portfolio, partially offset by the increase in interest expense as discussed above. In a rising rate
environment, we have the ability to make immediate rate adjustments on our loans priced at prime or a margin thereto, which allows us to increase loan rates at a more rapid speed than the increase in funding costs. We believe that a positive upturn
in economic indicators will have a positive impact on our net income. We do not believe that there has been a material change in interest rate risk from the end of our most recent fiscal year.



Provision for Loan Losses. The provision for loan losses charged to earnings is an
amount sufficient to bring the allowance for loan losses to an estimated balance considered adequate to absorb probable losses on existing loans that may become uncollectible. Loans are charged off against the allowance when we believe collection is
unlikely. The allowance for loan losses changes from period to period as a result of a number of factors, including: changes in the mix of types of loans; changes in credit grades within the portfolio, which arise from a deterioration or an
improvement in the performance of the borrower; changes in the historical loss percentages and delinquency trends; current charge offs and recoveries; and changes in the amounts of loans outstanding. The net change in all of the components results
in the provision for loan losses.



All loans in the portfolio are assigned an
allowance percentage requirement based on the type of underlying collateral and payment terms. Furthermore, loans are evaluated individually and are assigned a credit grade using such factors as the borrowers cash flow, the value of the
collateral and the strength of any guarantee. Loans identified as having weaknesses, or adverse credit grades, are assigned a higher allowance percentage requirement than loans where no weaknesses are identified. We routinely monitor our loan
portfolio to determine if a loan is deteriorating, therefore requiring a higher allowance requirement. Factors we consider are payment status, collateral value and the probability of collecting scheduled principal and interest payment when due.
Although we believe that we have established and maintained the allowance for loan losses at adequate levels, future adjustments may be necessary if economic, real estate and other conditions differ substantially from the current operating
environment.



We made a $85,000 provision to the allowance for loan losses
during the three-month period ended March 31, 2005, compared no provision for loan losses made during the three-month period ended March 31, 2004. We reversed provisions in the amount of $128,922 from the allowance for loan losses during the
nine-month period ended March 31, 2005, compared to a $544,000 provision for loan losses made during the nine-month period ended March 31, 2004.



During the nine-month period ended March 31, 2005 we had net recoveries of $298,840 primarily due to a $309,080 recovery from a commercial loan that was previously
charged off. We reversed provisions for loan loss allowances during the nine month period ended March 31, 2005 based upon an analysis of the quality of our loan portfolio and the aforementioned recovery. While future loan loss provision requirements
are uncertain, management believes that similar recoveries are unlikely. At March 31, 2005, our level of allowance for loan losses amounted to $1,414,936, or 0.76% of total loans, as compared to $1,141,625 of allowance for loan losses, or 0.66% of
total loans at March 31, 2004, which we believe is adequate to absorb any probable losses inherent in our loan portfolio.



Noninterest Income. Noninterest income increased by $157,844, or 17.8%, from $885,754 for the three-month period ended March 31, 2004 to $1,043,598 for the
three months ended March 31, 2005. Noninterest



14



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##### Table of Contents

income increased by $387,107, or 14.7%, from $2,628,722 for the nine-month period ended March 31, 2004 to $3,015,829 for the nine months ended March 31,
2005. The changes in noninterest income during the three and nine month period ended March 31, 2005 were primarily attributable to increases in insurance commissions and in transaction fees on deposit accounts. The increase in insurance commissions
is primarily due to an increase in number of sales due to increased emphasis on training and monitoring the sales activities of insurance producers. The increase in transaction fees on deposit accounts is primarily attributable to an increase in the
number of transaction accounts. These trends are expected to continue to produce growth in non-interest income.



Non-Interest Expense. Non-interest expense increased by $105,065, or 4.4%, from $2,391,814 for the three months ended March 31, 2004 to $2,496,879 for the three
months ended March 31, 2005. Non-interest expense increased by $489,132, or 6.8%, from $7,171,604 for the nine months ended March 31, 2004 to $7,660,736 for the nine months ended March 31, 2005. The increase in non-interest expense for the three
month period ended March 31, 2005 is primarily attributable to an increase in expenses on real estate owned and an increase in compensation and employee benefits. Compensation and employee benefits increased during the three and nine month period
primarily due to an increase in commissions paid to employees whose pay is based on a percentage of insurance and brokerage commissions that the Company earns. Insurance commissions increased $93,324 for the three months ended March 31, 2005 and
increased $156,405 during the nine months ended March 31, 2005. The increase in non-interest expense for the nine month period ended March 31, 2005 is primarily attributable to an increase in professional services expense due to attorney fees
associated with a personnel issue and an increase in expenses on real estate owned. While future increases in attorney fees and expenses on real estate owned are uncertain, management believes that similar expenses are unlikely.



Capital Resources and Liquidity:



The term liquidity generally refers to an organizations ability to
generate adequate amounts of funds to meet its needs for cash. More specifically, for financial institutions, liquidity ensures that adequate funds are available to meet deposit withdrawals, fund loan demand and capital expenditure commitments,
maintain reserve requirements, pay operating expenses, and provide funds for debt service, dividends to stockholders, and other institutional commitments. The Companys primary sources of funds consist of deposits, borrowings, repayment and
prepayment of loans, sales and participations of loans, maturities of securities and interest-bearing deposits, and funds provided from operations. While scheduled repayments of loans and maturities of securities are predictable sources of funds,
deposit flows and loan prepayments are greatly influenced by the general level of interest rates, economic conditions, and competition. The Company uses its liquid resources primarily to fund existing and future loan commitments, to fund net deposit
outflows, to invest in other interest-earning assets, to maintain liquidity, and to meet operating expenses. For additional information about cash flows from the Companys operating, financing and investing activities, see Condensed
Consolidated Statements of Cash Flow.



Liquidity management is both a
daily and long-term function of management. If we require funds beyond our ability to generate them internally, we believe we could borrow additional funds from the FHLB and use the wholesale deposit markets. At March 31, 2005, we had borrowings of
$32.1 million from the FHLB. The Bank also maintains borrowing agreements with the Federal Reserve Bank of Richmond, VA.



The Company anticipates that it will have sufficient funds available to meet its current loan origination commitments. Certificates of deposit scheduled to mature in one
year or less totaled $62.3 million at March 31, 2005. Based upon historical experience, we believe that a significant portion of such deposits will remain with the Bank.



As of March 31, 2005, cash and cash equivalents, a significant source of liquidity, totaled $8.5 million. The Office of Thrift Supervision
regulations require the Company to maintain sufficient liquidity to ensure its safe and sound operation. Given our level of liquidity and our ability to borrow from the FHLB, we believe that we will have sufficient funds available to meet
anticipated future loan commitments, unexpected deposit withdrawals, and other cash requirements.



15



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##### Table of Contents

Capital management is another important daily and long-term function of management. While we currently meet all
regulatory capital levels, we monitor this level on an ongoing basis. Our principal goals related to capital management are to provide an adequate return to shareholders while retaining a sufficient foundation from which to support future growth and
to comply with all regulatory guidelines.



Off Balance-Sheet Arrangements:



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



New Accounting Pronouncements:



In December 2004, the FASB issued SFAS No. 123(R), Accounting for Stock-Based
Compensation (SFAS No. 123(R)). SFAS No. 123(R) establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services. This Statement focuses primarily on accounting for transactions
in which an entity obtains employee services in share-based payment transactions. SFAS No. 123(R) requires that the fair value of such equity instruments be recognized as an expense in the historical financial statements as services are performed.
Prior to SFAS No. 123(R), only certain pro forma disclosures of fair value were required. The provisions of this Statement are effective for the first interim reporting period of the first fiscal year that begins on or after December 15,
2005. Accordingly, we will adopt SFAS No. 123(R) commencing with the quarter ending March 31, 2006. Since all options granted were fully vested on December 8, 2001 there would be no cost of employee stock option compensation in our
consolidated financial statements for the three and nine months ended March 31, 2005 and 2004. Accordingly, the adoption of SFAS No. 123(R) is not expected to have a material effect on our consolidated financial statements.



Item 3. Controls and Procedures



The Company
maintains a system of internal controls and procedures designed to provide reasonable assurance as to the reliability of our published financial statements and other disclosures included in this report. The Companys Board of Directors,
operating through its Audit Committee, which is composed entirely of independent outside directors, provides oversight of the Companys financial reporting process.



Management, including the Companys President and Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness
of the Companys disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) as of the end of the period covered by this report. Based upon that evaluation, the President and Chief Executive Officer and Chief
Financial Officer concluded that the disclosure controls and procedures were effective, in all material respects, to ensure that information required to be disclosed in the reports the Company files and submits under the Exchange Act is recorded,
processed, summarized and reported as and when required.



There have been no
changes in the Companys internal control over financial reporting identified in connection with the evaluation that occurred during the Companys last fiscal quarter that has materially affected, or that is reasonably likely to materially
affect, the Companys internal control over financial reporting.



16



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##### Table of Contents

Part II. OTHER INFORMATION



Item 1. Legal Proceedings



The
Company is not a party to, and its property is not the subject of, any pending legal proceedings at the present time other than routine litigation that is incidental to the business.



Item 2. Unregistered Sales of Equity Securities and Use of Proceeds



(a) Not applicable



(b) Not applicable



(c) During the three and nine month periods ended March 31, 2005, the Company did not repurchase any of its common stock. The Company does not have a
stock repurchase program in place at the present time.



Item 3. Defaults Upon Senior Securities



None



Item 4. Submission of Matters to a Vote of Security Holders



None



Item 5. Other Information



(a)
Not applicable



(b) Not applicable



(c) Not applicable



(d) Not applicable



Item 6. Exhibits



|    |  |                                                                                                                                                                                                                                                                                               
|--- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|2.1 |  | Agreement and Plan of Reorganization dated September 15, 1997 by and among Ashe Federal Bank, AF Bankshares, Inc. and Ashe Interim Savings Bank (Incorporated by reference to Exhibit 2.1 of
the Registration Statement on Form 8-A, as filed with the SEC on June 16, 1998 (the Form 8-A)).
|    | 
|3.1 |  | Federal Stock Charter of the Company (Incorporated by reference to Exhibit 3.1 of the Form 8-A).                                                                                                                                                                                              
|    | 
|3.2 |  | Bylaws of the Company (Incorporated by reference to Exhibit 3.2 of the Form 8-A).                                                                                                                                                                                                             
|    | 
|4.1 |  | Common Stock Certificate of the Company (Incorporated by reference to Exhibit 4.3 of the Form 8-A).                                                                                                                                                                                           
|    | 
|4.2 |  | Indenture dated July 16, 2001 by and between AF Bankshares, Inc. and The Bank of New York (Incorporated by reference to Exhibit 4.2 of the Annual Report on Form 10-KSB, as filed with the SEC
on September 29, 2003 (the 2003 Form 10-KSB)).                                               



17



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##### Table of Contents

|      |  |                                                                                                                                                                                                                                                  
|----- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|4.3   |  | Guarantee Agreement of AF Bankshares, Inc. dated July 16, 2001 (Incorporated by reference to Exhibit 4.3 of the 2003 Form 10-KSB).                                                                                                               
|      | 
|10.1  |  | Employment Agreement between AF Bank and James A. Todd dated November 18, 2002 (Incorporated by reference to Exhibit 10.1 of the 2003 Form 10-KSB).                                                                                              
|      | 
|10.2  |  | Employment Agreement between AF Bank and Melanie Paisley Miller dated November 18, 2002 (Incorporated by reference to Exhibit 10.2 of the 2003 Form 10-KSB).                                                                                     
|      | 
|10.3  |  | Employment Agreement with Martin G. Little, Senior Vice President and Chief Lending Officer (Incorporated by reference to Exhibit 10.3 of the Annual Report on Form 10-KSB, as filed with the
SEC on September 29, 1998 (the 1998 Form 10-KSB).
|      | 
|10.4  |  | Employee Stock Ownership Plan of Ashe Federal Bank (Incorporated by reference to Exhibit 10.4 of the 1998 Form 10-KSB).                                                                                                                          
|      | 
|10.5  |  | Amendment No. 1 to the Employee Stock Ownership Plan of AF Bank (Incorporated by reference to Exhibit 10.5 of the 2003 Form 10-KSB).                                                                                                             
|      | 
|10.6  |  | Amendment No. 2 to the Employee Stock Ownership Plan of AF Bank (Incorporated by reference to Exhibit 10.6 of the 2003 Form 10-KSB).                                                                                                             
|      | 
|10.7  |  | Amendment No. 3 to the Employee Stock Ownership Plan of AF Bank (Incorporated by reference to Exhibit 10.7 of the 2003 Form 10-KSB).                                                                                                             
|      | 
|10.8  |  | Amendment No. 4 to the Employee Stock Ownership Plan of AF Bank (Incorporated by reference to Exhibit 10.7 of the 2003 Form 10-KSB).                                                                                                             
|      | 
|10.9  |  | Salary Continuation Agreement between AF Bankshares, Inc. and Melanie Paisley Miller dated April 15, 2002 (Incorporated by reference to Exhibit 10.10 of the 2003 Form
10-KSB).                                                                  
|      | 
|10.10 |  | Employment Agreement between AF Financial Group and James A. Todd                                                                                                                                                                                
|      | 
|      |  | dated November 18, 2002 (Incorporated by reference to Exhibit 10.11 of the 2003 Form 10-KSB).                                                                                                                                                    
|      | 
|10.11 |  | Employment Agreement between AF Financial Group and Melanie Paisley                                                                                                                                                                              
|      | 
|      |  | Miller dated November 18, 2002 (Incorporated by reference to Exhibit 10.13 of the 2003 Form 10-KSB).                                                                                                                                             
|      | 
|10.12 |  | Settlement Agreement dated September 24, 2004 by and between James A. Todd and AF Financial Group (Incorporated by reference to Exhibit 99.1 of the Current Report on Form 8-K, as filed with
the SEC on September 24, 2004).                    
|      | 
|31.1  |  | Rule 13a-14(a)/15d-14(a) Certifications                                                                                                                                                                                                          
|      | 
|32.1  |  | Section 1350 Certifications                                                                                                                                                                                                                      



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##### Table of Contents

SIGNATURES



In accordance with the requirements of
the Exchange Act, the registrant has caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.



|                   |  |                    |  |                                                   
|------------------ |  | ------------------ |  | --------------------------------------------------
|                   |  | AF Financial Group
|                   |  |                   
|Dated May 13, 2005 |  | By:                |  | /s/ Melanie Paisley Miller                        
|                   |  |                    |  | Melanie Paisley Miller                            
|                   |  |                    |  | Chief Financial Officer, Executive Vice President,
|                   |  |                    |  | Secretary, Treasurer                              



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