Table ofContents

 

 

 

**SECURITIESAND EXCHANGE COMMISSION********WASHINGTON, D.C. 20549**

 

**FORM 10-Q**

 

**x        QUARTERLY REPORT PURSUANT TO SECTION 13OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the Quarterly PeriodEnded September 30, 2008**

 

**o        TRANSITION REPORT PURSUANT TO SECTION 13OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**COMMUNITY VALLEY BANCORP******(Exact name of registrant as specified in its charter)

 

| **California**                               | ** ** | **000-51678**            | ** ** | **68-0479553**           |
|----------------------------------------------|------------|--------------------------|------------|--------------------------|
| (State or other jurisdiction of              |       | (Commission File Number) |       | (IRS Employer ID Number) |
| incorporation or organization)               |       |                     |       |                     |
|                                         |       |                     |       |                     |
| **1360 E. Lassen Avenue, Chico, California** | ** ** | **95973**                |
| (Address of principal executive offices)     |       | (Zip code)               |

 

**(530) 899-2344**

(Registrant’s telephone number, including area code)

 

 

(Former name, former address and former fiscal year, if changed sincelast report.)

 

Indicateby check mark whether the registrant (1) has filed all reports required tobe filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or such shorter period that the registrantwas required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days. Yes  x     No  o

 

Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer, or a non-accelerated filer. See definition of “acceleratedfiler and large accelerated filer” in Exchange Act Rule 12-b-2.

 
|   Large  accelerated filer  o | Accelerated  filer  o | Non-accelerated  filer  o | Smaller  reporting company x |
|---------------------------------------------------|---------------------------------|-------------------------------------|------------------------------|

 

Indicateby check mark whether the registrant is a shell company (as defined in ExchangeAct Rule 12b-2. Yes  o     No  x

 

Indicatethe number of shares outstanding of each of the issuer’s classes of commonstock, as of the latest practicable date:

 

No par value Common Stock — 6,692,931 shares outstanding at October 31, 2008.

 

 

 

Table of Contents

 

**Table of Contents**

 
| PART I  |                                                                                                                           | 3      |
|--------------|--------------------------------------------------------------------------------------------------------------------------------|--------|
|         |                                                                                                                           |   |
|         | Item  1. Financial Statements                                                                                                  | 3      |
|         |                                                                                                                           |   |
|         | Item 2. Management’s Discussion and Analysis f  Financial Condition and Results of Operations of Community Valley Bancorp | 11     |
|         |                                                                                                                           |   |
|         | Item 3. Quantitative  and Qualitative Disclosures about Market Risk                                                            | 28     |
|         |                                                                                                                           |   |
|         | Item 4. Controls and  Procedures                                                                                               | 30     |
|         |                                                                                                                           |   |
| PART II |                                                                                                                           | 31     |
|         |                                                                                                                           |   |
|         | Item  1. Legal Proceedings                                                                                                     | 31     |
|         |                                                                                                                           |   |
|         | Item 1A. Risk Factors                                                                                                          | 31     |
|         |                                                                                                                           |   |
|         | Item 2.  Changes in Securities and Use of Proceeds                                                                             | 31     |
|         |                                                                                                                           |   |
|         | Item 4.  Submission of Matters to a Vote of Security Holders                                                                   | 31     |
|         |                                                                                                                           |   |
|         | Item 5. Other  Information                                                                                                     | 32     |
|         |                                                                                                                           |   |
|         | Item 6. Exhibits                                                                                                               | 32     |
|         |                                                                                                                           |   |
|         | Signatures                                                                                                                     | 33     |
|         |                                                                                                                           |   |
|         | Ex.  31.1. Certification of CEO Pursuant to Section 302 of the Sarbanes Oxley  Act of 2002                                |   |
|         |                                                                                                                           |   |
|         | Ex. 31.2  Certification of CFO Pursuant to Section 302 of the Sarbanes Oxley Act  of 2002                                 |   |
|         |                                                                                                                           |   |
|         | Ex. 32.1  Certification of CEO Pursuant to Section 906 of the Sarbanes Oxley Act  of 2002                                 |   |
|         |                                                                                                                           |   |
|         | Ex. 32.2  Certification of CFO Pursuant to Section 906 of the Sarbanes Oxley Act  of 2002                                 |   |

 

2

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**PART I - FINANCIAL INFORMATION**

**Item 1**

** **

**COMMUNITY VALLEY BANCORP**

**CONSOLIDATED BALANCE SHEET (Unaudited)**

(dollars in thousands)

 
| ** **                                                                                                                                                                       | ** ** | **September 30, 2008** | ** ** | **December 31, 2007** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ASSETS                                                                                                                                                                           |       |                             |       |                            |       |
| Cash and due from banks                                                                                                                                                          |       | $                                | 15,576     |                            | $          | 31,714 |   |
| Federal funds sold & other                                                                                                                                              |       | 41,110                           |       | 54,290                          |       |
| Total cash & cash equivalents                                                                                                                                           |       | 56,686                           |       | 86,004                          |       |
|                                                                                                                                                                             |       |                             |       |                            |       |
| Interest-bearing deposits in banks                                                                                                                                               |       | 3,170                            |       | 4,250                           |       |
| Investment securities (fair value of $8,148 at September 30, 2008  and $6,270 at December 31, 2007)                                                                    |       | 8,640                            |       | 6,264                           |       |
| Loans held for sale at lower of cost or market                                                                                                                                   |       | 478                              |       | —                          |       |
| Loans, less allowance for loan losses of $6,524 at September 30,  2008 and $5,232 at December 31, 2007                                                                 |       | 497,169                          |       | 441,350                         |       |
| Premises and equipment, net                                                                                                                                                      |       | 7,277                            |       | 17,905                          |       |
| Other real estate owned                                                                                                                                                          |       | 1,521                            |       | —                          |       |
| Bank owned life insurance                                                                                                                                                        |       | 10,526                           |       | 10,201                          |       |
| Accrued interest receivable and other assets                                                                                                                                     |       | 14,861                           |       | 14,646                          |       |
| Total assets                                                                                                                                                                     |       | $                                | 600,328    |                            | $          | 580,620 |   |
|                                                                                                                                                                             |       |                             |       |                            |       |
| LIABILITIES AND SHAREHOLDERS’ EQUITY                                                                                                                                        |       |                             |       |                            |       |
|                                                                                                                                                                             |       |                             |       |                            |       |
| Deposits:                                                                                                                                                                        |       |                             |       |                            |       |
| Non-interest bearing                                                                                                                                                             |       | $                                | 73,454     |                            | $          | 77,574 |   |
| Interest bearing                                                                                                                                                                 |       | 459,915                          |       | 423,417                         |       |
| Total deposits                                                                                                                                                                   |       | 533,369                          |       | 500,991                         |       |
|                                                                                                                                                                             |       |                             |       |                            |       |
| Notes payable                                                                                                                                                                    |       | 4,976                            |       | 1,093                           |       |
| Junior subordinated debentures                                                                                                                                                   |       | 8,248                            |       | 16,496                          |       |
| Accrued interest payable and other liabilities                                                                                                                                   |       | 13,063                           |       | 11,066                          |       |
| Total liabilities                                                                                                                                                                |       | 559,656                          |       | 529,646                         |       |
|                                                                                                                                                                             |       |                             |       |                            |       |
| Commitments and contingencies                                                                                                                                                    |       |                             |       |                            |       |
|                                                                                                                                                                             |       |                             |       |                            |       |
| Shareholders’ equity                                                                                                                                                        |       |                             |       |                            |       |
| Common stock - no par value; 20,000,000 shares authorized; issued and  outstanding - 6,692,931 shares at September 30, 2008 and 7,607,908 shares  at December 31, 2007 |       | 10,177                           |       | 10,910                          |       |
|                                                                                                                                                                             |       |                             |       |                            |       |
| Unallocated ESOP shares 113,313 shares at September 30, 2008 and  126,590 shares at December 31, 2007 (at cost)                                                        |       | (1,345                           | )          | (1,407                          | )          |
| Retained Earnings                                                                                                                                                                |       | 31,845                           |       | 41,454                          |       |
| Accumulated other comprehensive (loss) income, net                                                                                                                               |       | (5                               | )          | 17                              |       |
|                                                                                                                                                                             |       |                             |       |                            |       |
| Total shareholders’ equity                                                                                                                                                  |       | 40,672                           |       | 50,974                          |       |
| Total liabilities and shareholders’ equity                                                                                                                                  |       | $                                | 600,328    |                            | $          | 580,620 |   |

 

See Notes to UnauditedCondensed Consolidated Financial Statements

 

3

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**COMMUNITY VALLEY BANCORP**

**CONSOLIDATED STATEMENTS OF INCOME (Unaudited)**

(dollars in thousands, except per share data)

 
| ** **                                           | ** ** | **For the periods ended September 30,** | ** ** |
|------------------------------------------------------|------------|------------------------------------------------------------------|------------|
| ** **                                           | ** ** | **Three Months**                                            | ** ** | **Nine Months** | ** ** |
| ** **                                           | ** ** | **2008**                                                         | ** ** | **2007** | ** ** | **2008** | ** ** | **2007** | ** ** |
| Interest income:                                | ** ** | ** **                                                       | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Interest and fees on loans                           |       | $                                                                | 9,225      |   | $ | 10,450 |   | $ | 27,126 |   | $ | 30,539 |   |
| Interest on federal funds sold                       |       | 83                                                               |       | 518 |   | 534 |   | 1,815 |   |
| Interest on deposits in banks                        |       | 49                                                               |       | 90 |   | 355 |   | 139 |   |
| Interest on investment securities:                   |       |                                                             |       |   |   |   |   |   |   |
| Taxable                                              |       | 97                                                               |       | 53 |   | 315 |   | 162 |   |
| Exempt from federal income tax                       |       | 17                                                               |       | 16 |   | 49 |   | 49 |   |
| Total interest income                                |       | 9,471                                                            |       | 11,127 |   | 28,379 |   | 32,704 |   |
|                                                 |       |                                                             |       |   |   |   |   |   |   |
| Interest expense:                                    |       |                                                             |       |   |   |   |   |   |   |
| Interest expense on deposits                         |       | 2,216                                                            |       | 3,204 |   | 7,424 |   | 9,625 |   |
| Interest expense on junior subordinated debentures   |       | 143                                                              |       | 322 |   | 423 |   | 694 |   |
| Interest expense on notes payble                     |       | 80                                                               |       | 21 |   | 113 |   | 72 |   |
| Total interest expense                               |       | 2,439                                                            |       | 3,547 |   | 7,960 |   | 10,391 |   |
| Net interest income before provision for loan losses |       | 7,032                                                            |       | 7,580 |   | 20,419 |   | 22,312 |   |
| Provision for loan losses                            |       | 750                                                              |       | 75 |   | 1,425 |   | 150 |   |
| Net interest income after provision for loan losses  |       | 6,282                                                            |       | 7,505 |   | 18,994 |   | 22,162 |   |
|                                                 |       |                                                             |       |   |   |   |   |   |   |
| Non-interest income                                  |       | 2,539                                                            |       | 2,653 |   | 6,708 |   | 6,341 |   |
|                                                 |       |                                                             |       |   |   |   |   |   |   |
| Non-interest expenses:                               |       |                                                             |       |   |   |   |   |   |   |
| Salaries and employee benefits                       |       | 3,729                                                            |       | 3,827 |   | 11,080 |   | 11,779 |   |
| Occupancy                                            |       | 727                                                              |       | 476 |   | 2,116 |   | 1,418 |   |
| Furniture and equipment                              |       | 668                                                              |       | 586 |   | 1,960 |   | 1,665 |   |
| Other expense                                        |       | 1,832                                                            |       | 1,680 |   | 5,513 |   | 5,071 |   |
| Total non-interest expense                           |       | 6,956                                                            |       | 6,569 |   | 20,669 |   | 19,933 |   |
|                                                 |       |                                                             |       |   |   |   |   |   |   |
| Income before provision for income taxes             |       | 1,865                                                            |       | 3,589 |   | 5,033 |   | 8,570 |   |
|                                                 |       |                                                             |       |   |   |   |   |   |   |
| Provision for income taxes                           |       | 564                                                              |       | 1,411 |   | 1,864 |   | 3,499 |   |
|                                                 |       |                                                             |       |   |   |   |   |   |   |
| Net income                                           |       | $                                                                | 1,301      |   | $ | 2,178 |   | $ | 3,169 |   | $ | 5,071 |   |
|                                                 |       |                                                             |       |   |   |   |   |   |   |
| Basic earnings per share                             |       | $                                                                | 0.20       |   | $ | 0.29 |   | $ | 0.45 |   | $ | 0.69 |   |
| Diluted earnings per share                           |       | $                                                                | 0.20       |   | $ | 0.29 |   | $ | 0.44 |   | $ | 0.67 |   |
|                                                 |       |                                                             |       |   |   |   |   |   |   |
| Cash dividends per share                             |       | $                                                                | 0.04       |   | $ | 0.08 |   | $ | 0.16 |   | $ | 0.24 |   |

 

SeeNotes to Unaudited Condensed Consolidated Financial Statements

 

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COMMUNITYVALLEY BANCORP

CONDENSEDCONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS’ EQUITY

(Unaudited)

(Inthousands except number of shares)

 
| ** **                                                                           | ** ** | ** **            | ** ** | ** **      | ** ** | ** **           | ** ** | ** **              | ** ** | **Accumulated Other** | ** ** | ** **        | ** ** | ** ** | ** ** |
|--------------------------------------------------------------------------------------|------------|-----------------------|------------|-----------------|------------|----------------------|------------|-------------------------|------------|----------------------------|------------|-------------------|------------|------------|------------|
| ** **                                                                           | ** ** | ** **            | ** ** | ** **      | ** ** | ** **           | ** ** | ** **              | ** ** | **Comprehensive**          | ** ** | **Total**         | ** ** | ** ** | ** ** |
| ** **                                                                           | ** ** | **Common Stock** | ** ** | **Unallocated** | ** ** | **Retained**         | ** ** | **(Loss) Income,** | ** ** | **Shareholders’**     | ** ** | **Comprehensive** | ** ** |
| ** **                                                                           | ** ** | **Shares**            | ** ** | **Amount**      | ** ** | **ESOP shares** | ** ** | **Earnings**            | ** ** | **net of taxes** | ** ** | **Equity**        | ** ** | **Income** | ** ** |
| Balance,  January 1, 2007                                                       |       | 7,394,664             |       | $               | 9,727      |                 | $          | (1,514                  | )          | $                          | 37,505     |              | $          | 9          |       | $ | 45,727 |   |   |   |
|                                                                                 |       |                  |       |            |       |                 |       |                    |       |                       |       |              |       |       |       |
| Comprehensive  income                                                                |       |                  |       |            |       |                 |       |                    |       |                       |       |              |       |       |       |
| Net income                                                                           |       |                  |       |            |       |                 |       | 6,459                   |       |                       |       | 6,459             |       | 6,459      |       |
| Other  comprehensive income                                                          |       |                  |       |            |       |                 |       |                    |       |                       |       |              |       |       |       |
| Net change in  unrealized gains on available-for-sale investment securities          |       |                  |       |            |       |                 |       |                    |       | 8                          |       | 8                 |       | 8          |       |
| Total  comprehensive income                                                          |       |                  |       |            |       |                 |       |                    |       |                       |       |              |       | 6,467      |       |
|                                                                                 |       |                  |       |            |       |                 |       |                    |       |                       |       |              |       |       |       |
| Exercise of stock  options and related tax benefit                                   |       | 232,108               |       | 1,104           |       |                 |       |                    |       |                       |       | 1,104             |       |       |       |
| Amortization of  stock compensation – ESOP shares                               |       |                  |       | 65              |       | 107                  |       |                    |       |                       |       | 172               |       |       |       |
| Cash dividends-  $.32 per share                                                      |       |                  |       |            |       |                 |       | (2,425                  | )          |                       |       | (2,425            | )          |       |       |
| Stock based  compensation expense                                                    |       |                  |       | 139             |       |                 |       |                    |       |                       |       | 139               |       |       |       |
| Retirement of  common stock                                                          |       | (18,864               | )          | (125            | )          |                 |       | (85                     | )          |                       |       | (210              | )          |       |       |
|                                                                                 |       |                  |       |            |       |                 |       |                    |       |                       |       |              |       |       |       |
| Balance,  December 31, 2007                                                     |       | 7,607,908             |       | 10,910          |       | (1,407               | )          | 41,454                  |       | 17                         |       | 50,974            |       |       |       |
|                                                                                 |       |                  |       |            |       |                 |       |                    |       |                       |       |              |       |       |       |
| Comprehensive  income                                                                |       |                  |       |            |       |                 |       |                    |       |                       |       |              |       |       |       |
| Net income                                                                           |       |                  |       |            |       |                 |       | 3,169                   |       |                       |       | 3,169             |       | 3,169      |       |
| Other  comprehensive income                                                          |       |                  |       |            |       |                 |       |                    |       |                       |       |              |       |       |       |
|                                                                                 |       |                  |       |            |       |                 |       |                    |       |                       |       |              |       |       |       |
| Net change in  unrealized (losses) gains on available-for-sale investment securities |       |                  |       |            |       |                 |       |                    |       | (22                        | )          | (22               | )          | (22        | )          |
| Total  comprehensive income                                                          |       |                  |       |            |       |                 |       |                    |       |                       |       |              |       | 3,147      |       |
|                                                                                 |       |                  |       |            |       |                 |       |                    |       |                       |       |              |       |       |       |
| Exercise of stock  options and related tax benefit                                   |       | 99,151                |       | 630             |       |                 |       |                    |       |                       |       | 630               |       |       |       |
| Amortization of  stock compensation – ESOP shares                               |       |                  |       | 63              |       | 62                   |       |                    |       |                       |       | 125               |       |       |       |
| Cash dividends-  $.16 per share                                                      |       |                  |       |            |       |                 |       | (1,149                  | )          |                       |       | (1,149            | )          |       |       |
| Stock based  compensation expense                                                    |       |                  |       | 63              |       |                 |       |                    |       |                       |       | 63                |       |       |       |
| Retirement of  common stock                                                          |       | (1,012,006            | )          | (1,489          | )          |                 |       | (11,629                 | )          |                       |       | (13,118           | )          |       |       |
|                                                                                 |       |                  |       |            |       |                 |       |                    |       |                       |       |              |       |       |       |
| Balance,  September 30, 2008                                                    |       | 6,695,053             |       | $               | 10,177     |                 | $          | (1,345                  | )          | $                          | 31,845     |              | $          | (5         | )          | $ | 40,672 |   |   |   |

 

SeeNotes to Unaudited Condensed Consolidated Financial Statements

 

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COMMUNITYVALLEY BANCORP

CONDENSEDCONSOLIDATED STATEMENT OF CASH FLOWS

(Unaudited)

(Inthousands)

 
| ** **                                                                         | ** ** | **Nine Months Ended** | ** ** |
|------------------------------------------------------------------------------------|------------|---------------------------------|------------|
| ** **                                                                         | ** ** | **September 30,**          | ** ** |
| **(dollars in thousands)**                                               | ** ** | **2008**                        | ** ** | **2007** | ** ** |
| Cash flows from operating activities:                                              |       |                            |       |   |   |
| Net income                                                                         |       | $                               | 3,169      |   | $ | 5,071 |   |
| Adjustments to reconcile net income to net cash provided by operating  activities: |       |                            |       |   |   |
| Provision for loan losses                                                          |       | 1,425                           |       | 150 |   |
| Decrease in deferred loan origination fees                                         |       | (149                            | )          | (260 | ) |
| Depreciation and amortization, net                                                 |       | 1,596                           |       | 1,505 |   |
| (Gain) loss on disposition of premises and equipment                               |       | (4                              | )          | 29 |   |
| Net increase in loans held for sale                                                |       | (478                            | )          | 68 |   |
| Increase in cash surrender value of bank-owned life insurance, net                 |       | (325                            | )          | (302 | ) |
| Excess tax benefit from exercise of stock options                                  |       | (163                            | )          | (413 | ) |
| Non-cash compensation expense associated with the ESOP                             |       | 124                             |       | 171 |   |
| Stock based compensation                                                           |       | 63                              |       | 113 |   |
| Increase (Decrease) in accrued interest receivable and other assets                |       | 357                             |       | (267 | ) |
| Increase in accrued interest payable and other liabilities                         |       | 2,844                           |       | 1,809 |   |
| Provision for deferred income taxes                                                |       | (242                            | )          | (1,032 | ) |
| Net cash provided by operating activities                                          |       | 8,217                           |       | 6,642 |   |
|                                                                               |       |                            |       |   |   |
| Cash flows from investing activities:                                              |       |                            |       |   |   |
| Increase (decrease) in interest-bearing deposits in banks                          |       | 1,080                           |       | (981 | ) |
| Proceeds from matured or called available-for-sale investment  securities          |       | 2,000                           |       | 1,000 |   |
| Proceeds from principal payments on available-for-sale investment  securities      |       | 163                             |       | 70 |   |
| Proceeds from matured or called held-to-maturity investment  securities            |       | 1,000                           |       | — |   |
| Proceeds from principal payments of held-to-maturity investment  securities        |       | 185                             |       | 116 |   |
| Purchase of available-for-sale investment securities                               |       | (4,009                          | )          | (2,437 | ) |
| Purchase of held-to-maturity investment securities                                 |       | (1,750                          | )          | — |   |
| Purchases of premises and equipment                                                |       | (678                            | )          | (4,092 | ) |
| Proceeds from sale of premises and equipment                                       |       | 9,712                           |       | 19 |   |
| Net increase in loans                                                              |       | (59,273                         | )          | (26,238 | ) |
| Net cash used in investing activities                                              |       | (51,570                         | )          | (32,543 | ) |
|                                                                               |       |                            |       |   |   |
| Cash flows from financing activities:                                              |       |                            |       |   |   |
| Net increase in demand, interest-bearing and savings deposits                      |       | 4,935                           |       | 21,576 |   |
| Net increase (decrease) in time deposits                                           |       | 27,443                          |       | (13,855 | ) |
| Proceeds from note payable                                                         |       | 4,000                           |       | — |   |
| Repayment of ESOP note payable                                                     |       | (117                            | )          | (92 | ) |
| Payment of cash dividends                                                          |       | (1,490                          | )          | (1,800 | ) |
| Excess tax benefit from the exercise of stock options                              |       | 163                             |       | 413 |   |
| Proceeds from exercise of stock options                                            |       | 467                             |       | 638 |   |
| Retirement of common stock                                                         |       | (13,118                         | )          | (44 | ) |
| Repayment of junior subordinated debentures                                        |       | (8,248                          | )          | 8,248 |   |
| Net cash provided by financing activities                                          |       | 14,035                          |       | 15,084 |   |
|                                                                               |       |                            |       |   |   |
| (Decrease) in cash and cash equivalents                                            |       | (29,318                         | )          | (10,817 | ) |
|                                                                               |       |                            |       |   |   |
| Cash and cash equivalents at beginning of year                                     |       | 86,004                          |       | 62,628 |   |
|                                                                               |       |                            |       |   |   |
| Cash and cash equivalents at end of period                                         |       | $                               | 56,686     |   | $ | 51,811 |   |

 

SeeNotes to Unaudited Condensed Consolidated Financial Statements

 

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Community Valley Bancorp

 

NOTES TO UNAUDITED CONDENSEDCONSOLIDATED FINANCIAL STATEMENTS

 

**1.  BASIS OF PRESENTATION**

 

Theaccompanying unaudited condensed consolidated financial statements of CommunityValley Bancorp and subsidiaries (the “Company”) have been prepared pursuant tothe rules and regulations of the Securities Exchange Commission (the “SEC”)and the instructions to Form 10-Q and Article 10 of Regulation S-X.Accordingly, certain information and footnote disclosures required byaccounting principles generally accepted in the United States of America forannual financial statements are not included herein, however the Companybelieves that the disclosures made are adequate to make the information notmisleading. In the opinion of management, all adjustments (which consist solelyof normal recurring adjustments) considered necessary for a fair presentationof the results for the interim periods presented have been included. Theseinterim consolidated financial statements should be read in conjunction withthe financial statements and related notes contained in the Company’s 2007Annual Report to Shareholders on Form 10-K.

 

Thecondensed consolidated financial statements include the accounts of the Companyand its wholly owned subsidiaries, Butte Community Bank (the “Bank”) and BCBInsurance Agency, LLC. All significant inter-company balances and transactionshave been eliminated in consolidation. The Company also has a wholly-ownedunconsolidated subsidiary, Community Valley Bancorp Trust II (the “Trust”), aDelaware statutory business trusts, formed for the sole purpose of issuingtrust preferred securities. Community valley Bancorp Trust I, which was alsoformed for the sole purpose of issuing trust preferred securities, wasdissolved in January 2008 in conjunction with the redemption of the TrustI securities.  The results of operationsfor the three-month and nine month periods ended September 30, 2008 may notnecessarily be indicative of the operating results for the full year 2008.

 

Managementhas determined that because all of the commercial banking products and servicesoffered by the Company are available in each branch of the bank, all branchesare located within the same economic environment and management does notallocate resources based on the performance of different lending or transactionactivities, it is appropriate to aggregate the Bank branches and report them asa single operating segment. No single customer accounts for more than 10% ofthe revenues of the Company or the Bank.

 

Thepreparation of consolidated financial statements in conformity with accountingprinciples generally accepted in the United States of America requiresmanagement to make estimates and assumptions.  These estimates andassumptions affect the reported amounts of assets and liabilities at the dateof the financial statements and the reported amounts of revenues and expensesduring the reporting period.  Actual results could differ from theseestimates.

 

**2.  EARNINGS PER SHARECOMPUTATION**

 

Basicearnings per share are computed by dividing net income by the weighted averagecommon shares outstanding for the period (6,605,621 and 7,100,673 shares forthe three and nine month periods ended September 30, 2008 and 7,479,267and 7,394,309 shares for the three month and nine month periods ended September 30,2007). Diluted earnings per share reflect the potential dilution that couldoccur if outstanding stock options were exercised using the treasury stockmethod. Diluted earnings per share is computed by dividing net income by theweighted average common shares outstanding for the period plus the dilutiveeffect of options (41,305 and 86,562 shares for the three and nine month periodsended September 30, 2008 and 152,285 and 212,600 shares for the three andnine month periods ended September 30, 2007).  As of September 30, 2008, 152,293outstanding options were “out of the money”, that is the option price washigher than the market price so these shares were not used in the calculationof earnings per share as they are considered antidilutive.

 

**3.  COMPREHENSIVE INCOME**

 

Comprehensiveincome is reported in addition to net income for all periods presented.Comprehensive income is made up of net income plus other comprehensive incomeor loss. The Company’s only source of comprehensive income or loss, iscomprised of changes in unrealized gains or losses, net of taxes, onavailable-for-sale securities, adjusted for the effect of realized gains orlosses on available-for-sale securities, net of taxes.

 

**4.  STOCK —BASED COMPENSATION**

 

The Company issues stock options under twostock-based compensation plans, the Community Valley Bancorp 1997 and 2000Stock Option Plans. The plans require that the option price may not be lessthan the fair market value of the stock at 

 

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thedate the option is granted, and that the stock must be paid in full at the timethe option is exercised. The options expire on a date determined by the Boardof Directors, but not later than ten years from the date of grant. The vestingperiod is determined by the Board of Directors and is generally over fiveyears; however, nonstatutory options granted during 1997 vested immediately.Under the 1997 plan, 8,254 shares of common stock remain reserved for issuanceto employees, and the related options are exercisable until their expiration.However, no new options will be granted under this plan. Under the Company’s2000 stock option plan, 350,477 shares of common stock remain reserved forissuance to employees and directors, of which 92,916 shares are available forfuture grants.  No options were grantedduring the three and nine month period ending September 30, 2008.

 

Stockoption activity for the interim 2008 period is summarized below:

 
| ** **                                              | ** ** | ** ** | ** ** | **Weighted** | ** ** | **Weighted**    | ** ** | ** **               | ** ** |
|---------------------------------------------------------|------------|------------|------------|--------------|------------|-----------------|------------|--------------------------|------------|
| ** **                                              | ** ** | ** ** | ** ** | **Average**  | ** ** | **Average**     | ** ** | ** **               | ** ** |
| ** **                                              | ** ** | ** ** | ** ** | **Exercise** | ** ** | **Contractual** | ** ** | **Aggregate**            | ** ** |
| **2008**                                                | ** ** | **Shares** | ** ** | **Price**    | ** ** | **Term**        | ** ** | **Intrinsic Value** | ** ** |
| Outstanding at January 1                           |       | 476,921    |       | $            | 7.76       |            | 4.1  years |                     | $          | 1,616,574 |   |
| Exercised                                               |       | (99,151    | )          | $            | 4.71       |            |       |                     |       |   |
| Granted                                                 |       | —     |       | $            | 0.00       |            |       |                     |       |   |
| Cancelled/Expired                                       |       | (19,039    | )          | $            | 12.84      |            |       |                     |       |   |
| Outstanding at September 30                        |       | 358,731    |       | $            | 8.33       |            | 3.7  years |                     | $          | 364,481 |   |
| Options vested or expected to vest at September 30 |       | 351,556    |       | $            | 8.16       |            | 3.6  years |                     | $          | 357,191 |   |
| Exercisable at September 30                        |       | 160,034    |       | $            | 4.72       |            | 3.3  years |                     | $          | 364,481 |   |

 

**5.  COMMITMENTS AND CONTINGENCIES**

 

TheCompany is party to claims and legal proceedings arising in the ordinary courseof business. In the opinion of the Company’s management, the amount of ultimateliability with respect to such proceedings will not have a material adverseeffect on the financial condition or result of operations of the Company takenas a whole.

 

Inthe normal course of business, there are various outstanding commitments toextend credit which are not reflected in the financial statements, includingloan commitments of $149,368,000 and $184,000,000 and stand-by letters ofcredit of $6,504,000 and $6,700,000 at September 30, 2008 and December 31,2007, respectively.

 

Ofthe loan commitments outstanding at September 30, 2008, $73,510,000 arereal estate construction loan commitments that are expected to fund within thenext twelve months. The remaining commitments primarily relate to revolvinglines of credit or other commercial loans, and many of these are expected toexpire without being drawn upon. Therefore, the total commitments do notnecessarily represent future cash requirements. Each loan commitment and theamount and type of collateral obtained, if any, are evaluated on an individualbasis. Collateral held varies, but may include real property, bank deposits,debt or equity securities or business assets.

 

Stand-byletters of credit are conditional commitments written to guarantee theperformance of a customer to a third party. These guarantees are primarilyrelated to the purchases of inventory by commercial customers and are typicallyshort-term in nature. Credit risk is similar to that involved in extending loancommitments to customers and accordingly, evaluation and collateralrequirements similar to those for loan commitments are used. The fair value ofthe liability related to these stand-by letters of credit, which represents thefees received for issuing the guarantees, was not significant at September 30,2008 and December 31, 2007. The Company recognizes these fees as revenuesover the term of the commitment or when the commitment is used.

 

## **6.  INCOME TAXES**

##  

The Company files itsincome taxes on a consolidated basis with its subsidiaries. The allocation ofincome tax expense (benefit) represents each entity’s proportionate share ofthe consolidated provision for income taxes.

 

The Companyaccounts for income taxes using the liability or balance sheet method. Underthis method, deferred tax assets and liabilities are recognized for the taxconsequences of temporary differences between the reported amounts of assetsand liabilities and their tax bases. Deferred tax assets and liabilities areadjusted for the effects of changes in tax laws and rates 

 

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on the date of enactment.On the consolidated balance sheet, net deferred tax assets are included inaccrued interest receivable and other assets.

 

Accounting forUncertainty in Income Taxes

 

The benefit of atax position is recognized in the financial statements in the period duringwhich, based on all available evidence, management believes it is more likelythan not that the position will be sustained upon examination, including theresolution of appeals or litigation processes, if any.  Tax positions thatmeet the more-likely-than-not recognition threshold are measured as the largestamount of tax benefit that is more than 50 percent likely of being realizedupon settlement with the applicable taxing authority.  The portion of thebenefits associated with tax positions taken that exceeds the amount measuredas described above is reflected as a liability for unrecognized tax benefits inthe accompanying balance sheet along with any associated interest and penaltiesthat would be payable to the taxing authorities upon examination.  TheCompany recognizes accrued interest and penalties related to unrecognized taxbenefits, if applicable, as a component of interest expense in the consolidatedstatements of income.  There have been no significant changes tounrecognized tax benefits or accrued interest and penalties for the threemonths ended September 30, 2008.

 

****7.  OTHER BORROWINGS****

 

****The $4million note payable is from a correspondent bank to the holding company whichwas down streamed to Butte Community Bank into the capital accounts.  This note is for a two year period with amaturity date of June 30, 2010 and an interest rate equal to the threemonth LIBOR rate plus 3.25% adjusted quarterly. The rate was adjusted to 7.30% on September 30, 2008.  The $976,000 represents the balance of theESOP note payable due April 10, 2014 with an interest rate of 5.0% at September 30,2008.  During the third quarter of 2008the available amount that could be drawn on the ESOP note and used to purchaseshares was increased by $338,000.****

 

## **8. FAIR VALUE MEASUREMENTS**

##  

On January 1,2008, the Company adopted Financial Accounting Standards Board (FASB) StatementNo. 157 (SFAS 157), *  Fair ValueMeasurements.*  SFAS No. 157 defines fair value,establishes a framework for measuring fair value under GAAP, and expandsdisclosures about fair value measurement. Upon adoption of SFAS No. 157,there was no cumulative effect adjustment to beginning retained earnings and noimpact on the financial statements in the second quarter of 2008.

 

Thefollowing tables present information about the Company’s assets and liabilitiesmeasured at fair value on a recurring and non recurring basis as of September 30,2008.  They indicate the fair value hierarchy of the valuation techniques utilizedby the Company to determine such fair value. In general, fair values determinedby Level 1 inputs utilize quoted prices (unadjusted) in active markets foridentical assets or liabilities that the Company has the ability to access.

 

Fairvalues determined by Level 2 inputs utilize inputs other than quoted pricesincluded in Level 1 that are observable for the asset or liability, eitherdirectly or indirectly. Level 2 inputs include quoted prices for similar assetsand liabilities in active markets, and inputs other than quoted prices that areobservable for the asset or liability, such as interest rates and yield curvesthat are observable at commonly quoted intervals. Level 3 inputs areunobservable inputs for the asset or liability, and include situations wherethere is little, if any, market activity for the asset or liability. In certaincases, the inputs used to measure fair value may fall into different levels ofthe fair value hierarchy. In such cases, the level in the fair value hierarchywithin which the fair value measurement in its entirety falls has beendetermined based on the lowest level input that is significant to the fairvalue measurement in its entirety. The Company’s assessment of the significanceof a particular input to the fair value measurement in its entirety requiresjudgment, and considers factors specific to the asset or liability.

 

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Assets and liabilitiesmeasured at fair value on a recurring basis are summarized below:

 
| ** **                                               | ** ** | ** **          | ** ** | **Fair  Value Measurements****at September 30, 2008, Using** | ** ** |
|----------------------------------------------------------|------------|---------------------|------------|----------------------------------------------------------------------------------|------------|
| ** **                                               | ** ** | ** **          | ** ** | **Quoted Prices in**                                                   | ** ** | **Other** | ** ** | **Significant** | ** ** |
| ** **                                               | ** ** | ** **          | ** ** | **Active Markets**                                                          | ** ** | **Observable** | ** ** | **Unobservable** | ** ** |
| ** **                                               | ** ** | **Fair Value** | ** ** | **Identical Assets**                                                        | ** ** | **Inputs** | ** ** | **Inputs** | ** ** |
| **Description**                                          | ** ** | **30-Sep-08**       | ** ** | **(Level 1)**                                                               | ** ** | **(Level 2)** | ** ** | **(Level 3)** | ** ** |
| Available-for-sale securities                            |       | $                   | 6,479      |                                                                             | $          | 6,479 |   | $ | — |   | $ | — |   |
| Mortgage Servicing Rights                                |       | 55                  |       | —                                                                           |       | 55 |   | — |   |
| Total assets measured at fair value on a recurring basis |       | $                   | 6,534      |                                                                             | $          | 6,479 |   | $ | 55 |   | $ | — |   |

 

The following methods wereused to estimate the fair value of each class of financial instrument above:

 

***Securities***- Fair values for investment securities arebased on quoted market prices.

 

***Mortgage Servicing Rights —***The fair value of mortgageservicing rights is estimated using a discounted cash flow

 

Assets measured at fair valueon a non recurring basis are

 
| ** **                                                   | ** ** | **Fair  Value Measurements****at September 30, 2008, Using** | ** ** |
|--------------------------------------------------------------|------------|----------------------------------------------------------------------------------|------------|
| ** **                                                   | ** ** | ** **                                                                       | ** ** | **Quoted Prices in** | ** ** | **Other** | ** ** | **Significant** | ** ** |
| ** **                                                   | ** ** | ** **                                                                       | ** ** | **Active Markets** | ** ** | **Observable** | ** ** | **Unobservable** | ** ** |
| ** **                                                   | ** ** | **Fair Value**                                                              | ** ** | **Identical Assets** | ** ** | **Inputs** | ** ** | **Inputs** | ** ** |
| **Description**                                              | ** ** | **30-Sep-08**                                                                    | ** ** | **(Level 1)** | ** ** | **(Level 2)** | ** ** | **(Level 3)** | ** ** |
| Impaired loans                                               |       | $                                                                                | 8,191      |   | $ | — |   | $ | 8,191 |   | $ | — |   |
| Total assets measured at fair value on a non recurring basis |       | $                                                                                | 8,191      |   | $ | — |   | $ | 8,191 |   | $ | — |   |

 

***Impaired Loans***—The fair value of impairedloans is based on the fair value of the collateral for all collateral dependentloans and for other impaired loans is estimated using a discounted cash flowmodel.

 

**9.  NEW ACCOUNTING PRONOUNCEMENTS**

 

In May 2008,the FASB issued SFAS No. 162, “TheHierarchy of Generally Accepted Accounting Principles”(SFAS No. 162)*.* This standard identifies the sources ofaccounting principles and the framework for selecting the principles to be usedin the preparation of financial statements of nongovernmental entities that arepresented in conformity with GAAP. The provisions of SFAS No. 162 did nothave a material impact on the Company’s condensed consolidated financialstatements.

 

On October 10,2008, the FASB issued FSP FAS 157-3, Determining the Fair Value of a FinancialAsset When the Market for That Asset Is Not Active. The FSP clarifies theapplication of FASB Statement No. 157, Fair Value Measurements, in amarket that is not active and provides an example to illustrate keyconsiderations in determining the fair value of a financial asset when themarket for that financial asset is not active. The FSP is effectiveimmediately, and includes prior period financial statements that have not yetbeen issued, and therefore the Company is subject to the provision of the FSPeffective September 30, 2008. The implementation of FSP FAS 157-3 did notaffect the Company’s fair value measurement as of September 30, 2008.

 

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**Item 2. MANAGEMENT’S DISCUSSION ANDANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OF COMMUNITYVALLEY BANCORP**

 

Thefollowing is Community Valley Bancorp’s (the “Company”) management’s discussionand analysis of the significant changes in balance sheet accounts for September 30,2008 and December 31, 2007 and income and expense accounts for the threeand nine month periods ended September 30, 2008 and 2007. The discussionis designed to provide a better understanding of significant trends related tothe Company’s financial condition, results of operations, liquidity, capitalresources and interest rate sensitivity.

 

Inaddition to the historical information contained herein, this report on Form 10-Qcontains certain forward-looking statements. The reader of this report shouldunderstand that all such forward-looking statements are subject to variousuncertainties and risks that could affect their outcome. The Company’s actualresults could differ materially from those suggested by such forward-lookingstatements. Factors that could cause or contribute to such differences include,but are not limited to, variances in the actual versus projected growth inassets, return on assets, loan losses, expenses, rates charged on loans andearned on securities investments, rates paid on deposits, competition effects,fee and other noninterest income earned, general economic conditions,nationally, regionally and in the operating market areas of the Company and itssubsidiaries, changes in the regulatory environment, changes in businessconditions and inflation, changes in securities markets, data processingproblems, a decline in real estate values in the Company’s market area, the effects of terrorism, including the events of September 11, 2001 andthereafter, and the conduct of the war on terrorism by the United States andits allies, as well as other factors. This entire report should be read puttingsuch forward-looking statements in context.

 

**General Development of Business**

 

TheCompany is a financial holding company (“FHC”) registered and authorized toengage in the activities permitted under the Bank Holding Company Act of 1956,as amended. The Company was incorporated under the laws of the State ofCalifornia in 2002 and elected to change to a FHC in 2004. As a financialholding company, the Company is subject to the Federal Holding Company Act andto supervision by the board of Governors of the Federal Reserve System (“FRB”).Its principal office is located at 1360 E. Lassen Avenue, Chico, California95973 and its telephone number is (530) 899-2344.

 

TheCompany owns 100% of the issued and outstanding common shares of ButteCommunity Bank (the “Bank”). The Bank was incorporated and commenced businessin Paradise and Oroville, California in 1990. The Bank operates fifteen fullservice offices within its service areas of Butte, Sutter, Yuba, Tehama,Shasta, and Colusa Counties. The Bank also maintains Loan Production Offices inCitrus Heights and Gridley. Butte Community Bank’s primary business is servingthe commercial banking needs of small to mid-sized businesses and consumerswithin those counties. Butte Community Bank accepts checking and savingsdeposits, offers money market deposit accounts and certificates of deposit,makes secured and unsecured commercial, secured real estate, and otherinstallment and term loans and offers other customary banking services.

 

OnDecember 1, 2004, the Company formed a wholly-owned subsidiary, CVBInsurance Agency LLC for the purpose of providing insurance relatedservices.  The name has subsequently beenchanged to Butte Community Insurance Agency LLC in April 2006.

 

OnJuly 10, 2007 the Company formed a wholly-owned unconsolidated subsidiary,Community Valley Bancorp Trust II (the “Trust”), a Delaware statutory businesstrust, for the purpose of issuing trust preferred securities.  Community Valley Bancorp Trust I wasdissolved in January 2008 when the Trust I securities were redeemed.

 

**Critical Accounting Policies**

 

*General*

 

TheCompany’s significant accounting principles are described in Note 1 of theconsolidated financial statements in the Company’s 2007 Annual Report toShareholders on Form 10-K and are essential to understanding Management’sDiscussion and Analysis of Results of Operations and Financial Condition.Community Valley Bancorp’s annual consolidated financial statements areprepared in accordance with accounting principles generally accepted in theUnited States of America (GAAP). The financial information contained within ourstatements is, to a significant extent, financial information that is based onmeasures of the financial effects of transactions and events that have alreadyoccurred. Some of the Company’s accounting principles require significantjudgment to estimate values of assets or liabilities. In addition, certainaccounting principles require significant judgment in applying the complexaccounting principles to transactions to determine the most appropriatetreatment. The following is a summary of the more judgmental and complexaccounting estimates and principles.

 

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*Allowance for Loan Losses (ALL)*

 

Theallowance for loan losses is management’s best estimate of the probable lossesthat may be sustained in our loan portfolio. The allowance is based on twobasic principles of accounting:  (1) SFAS No.5 which requires thatlosses be accrued when they are probable of occurring and estimable and (2) SFASNo. 114, which requires that losses be accrued on impaired loans based onthe differences between the value of collateral, present value of future cashflows or values that are observable in the secondary market and the loanbalance.

 

TheCompany performs periodic and systematic detailed evaluations of its lendingportfolio to identify and estimate the inherent risks and assess the overallcollectibility. These evaluations include general conditions such as theportfolio composition, size and maturities of various segmented portions of theportfolio such as secured, unsecured, construction, and Small BusinessAdministration (“SBA”).

 

Additionalfactors include concentrations of borrowers, industries, geographical sectors,loan product, loan classes and collateral types, volume and trends of loandelinquencies and non-accrual, criticized and classified assets and trends inthe aggregate in significant credits identified as watch list items. There areseveral components to the determination of the adequacy of the ALL. Each ofthese components is determined based upon estimates that can and do change whenthe actual events occur. The Company estimates the SFAS No. 5 portion ofthe ALL based on the segmentation of its portfolio. For those segments thatrequire an ALL, the Company estimates loan losses on a monthly basis based uponits ongoing loan review process and analysis of loan performance. The Companyfollows a systematic and consistently applied approach to select the mostappropriate loss measurement methods and support its conclusions and rationalewith written documentation. One method of estimating loan losses for groups ofloans is through the application of loss rates to the groups’ aggregate loanbalances. Such rates typically reflect historical loss experience for eachgroup of loans, adjusted for relevant economic factors over a defined period oftime. The Company evaluates and modifies its loss estimation model as needed toensure that the resulting loss estimate is consistent with GAAP.

 

Forindividually impaired loans, SFAS No. 114 provides guidance on theacceptable methods to measure impairment. Specifically, SFAS No. 114states that when a loan is impaired, the Company should measure impairmentbased on the present value of expected future principal and interest cash flowsdiscounted at the loan’s effective interest rate, except that as a practicalexpedient, a creditor may measure impairment based on a loan’s observablemarket price or the fair value of collateral, if the loan is collateraldependent. When developing the estimate of future cash flows for a loan, theCompany considers all available information reflecting past events and currentconditions, including the effect of existing environmental factors.

 

*Loan Sales and Servicing*

 

TheCompany originates government guaranteed loans and mortgage loans that may besold in the secondary market.  The amounts of gains recorded on sales ofloans and the initial recording of servicing assets and interest only (I/O)strips is based on the estimated fair values of the respectivecomponents.  In recording the initial value of the servicing assets andthe fair value of the I/O strips receivable, the Company uses estimates whichare based on management’s expectations of future prepayments and discountrates.  Servicing assets are amortized over the estimated life of therelated loan.  I/O strips are not significant at September 30,2008.  These prepayment and discount rates were based on current marketconditions and historical performance of the various pools of servicedloans.  If actual prepayments with respect to sold loans occur morequickly than projected the carrying value of the servicing assets may have tobe adjusted through a charge to earnings.

 

*Stock-BasedCompensation*

 

The Companyrecognizes compensation expense in an amount equal to the fair value of theshare-based payments such as stock options granted to employees.  TheCompany records compensation expense (as previous awards continue to vest) forthe unvested portion of previously granted awards that were outstanding on January 1,2006 and for all awards granted after that date as they vest.  Theestimates of the grant date fair values are based on an option pricing modelthat uses assumptions based on the expected option life, the level of estimatedforfeitures, expected stock volatility and the risk-free interest rate. Thecalculation of the fair value of share based payments is by nature inexact, andrepresents management’s best estimate of the grant date fair value of the sharebased payments. See Note 4 to the Unaudited Condensed Consolidated FinancialStatements for additional information related to stock-based compensation.

 

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*Revenue recognition*

 

TheCompany’s primary source of revenue is interest income, which is the differencebetween the interest income it receives on interest-earning assets and theinterest expense it pays on interest-bearing liabilities, and (ii) feeincome, which includes fees earned on deposit services, income from SBAlending, electronic-based cash management services, mortgage brokerage feeincome and merchant credit card processing services.  Interest income is recorded on an accrualbasis. Note 1 to the Consolidated Financial Statements in the Company’s 2007Annual Report to Shareholders on Form 10-K offers an explanation of theprocess for determining when the accrual of interest income is discontinued onan impaired loan.

 

*Income Taxes*

 

The Company accounts forincome taxes under the asset and liability method. Under the asset andliability method, deferred tax assets and liabilities are recognized for thefuture tax consequences attributable to differences between the financialstatement carrying amounts of existing assets and liabilities and theirrespective tax bases. Deferred tax assets and liabilities are measured usingcurrently enacted tax rates applied to such taxable income in the years inwhich those temporary differences are expected to be recovered or settled. Theeffect on deferred tax assets and liabilities of a change in tax rates isrecognized in income in the period that includes the enactment date. If futureincome should prove non-existent or less than the amount of deferred tax assetswithin the tax years to which they may be applied, the asset may not berealized and our net income will be reduced.

 

The provisions ofFinancial Accounting Standards Board (FASB) Interpretation No. 48, *Accounting for Uncertainty in Income Taxes*(FIN 48)have been applied to all tax positions of the Company as of January 1,2007.  FIN 48 prescribes a recognition threshold and measurement standardfor the financial statement recognition and measurement of an income taxposition taken or expected to be taken in a tax return.  Only taxpositions that met the more-likely-than-not recognition threshold on January 1,2007 were recognized or continue to be recognized upon adoption.

 

The benefit of atax position is recognized in the financial statements in the period duringwhich, based on all available evidence, management believes it is more likelythan not that the position will be sustained upon examination, including theresolution of appeals or litigation processes, if any.  Tax positionstaken are not offset or aggregated with other positions.  Tax positionsthat meet the more-likely-than-not recognition threshold are measured as thelargest amount of tax benefit that is more than 50 percent likely of beingrealized upon settlement with the applicable taxing authority.  Theportion of the benefits associated with tax positions taken that exceeds theamount measured as described above is reflected as a liability for unrecognizedtax benefits in the accompanying balance sheet along with any associatedinterest and penalties that would be payable to the taxing authorities uponexamination.  Interest expense and penalties associated with unrecognizedtax benefits are classified as income tax expense in the consolidated statementof income.

 

*FairValue*

 

Effective January 1,2008, the Company adopted SFAS No. 157, *FairValue Measurements,*which among other things, requires enhanceddisclosures about financial instruments carried at fair value. SFAS No. 157establishes a hierarchical disclosure framework associated with the level ofobservable pricing scenarios utilized in measuring financial instruments atfair value. The degree of judgment utilized in measuring the fair value offinancial instruments generally correlates to the level of the observablepricing scenario. Financial instruments with readily available active quotedprices or for which fair value can be measured from actively quoted pricesgenerally will have a higher degree of observable pricing and a lesser degreeof judgment utilized in measuring fair value. Conversely, financial instrumentsrarely traded or not quoted will generally have little or no observable pricingand a higher degree of judgment utilized in measuring fair value. Observablepricing scenarios are impacted by a number of factors, including the type offinancial instrument, whether the financial instrument is new to the market andnot yet established and the characteristics specific to the transaction.

 

**Overview**

 

The Company recorded net income of $1,301,000 for the quarter ended September 30,2008, which was a 40.3% decrease from the $2,178,000 reported for the sameperiod of 2007. Diluted earnings per share for the third quarter of 2008 were$0.20, compared to the $0.29 recorded in the third quarter of 2007. Theannualized return on average equity (ROAE) and annualized return on averageassets (ROAA) for the third quarter of 2008 were 12.73% and .89%, respectively,as compared to 17.36% and 1.51%, respectively, for the same period in 2007. Theprimary reasons for the declinein earnings for the third quarter ended September 30, 2008 are theincrease in the level of the provision for loan losses, a decline in netinterest income and in non interest income increased non interest expensesoffset by decreases in the level of income taxes.

 

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Weexperienced a compression of the net interest margin of 54 basis points asyields on earning assets decreased 144 basis points while rates paid oninterest bearing liabilities decreased 108 basis points.  This was partially mitigated by the change inthe mix of earning assets as average loans increased and average federal fundssold decreased.  Also contributing to thedecrease in net income was the slowdown in the real estate constructionmarket.   Additionally for the quarter endedSeptember 30, 2008 we increased the provision for loan losses to $750,000compared to $75,000 for the third quarter of 2007.  Noninterest income also declined as theCompany recognized a one-time pretax gain of approximately $730,000 from thesale of mortgage servicing rights during the third quarter of 2007.  This was mitigated in 2008 by other increasesin service charges on deposit accounts and other non-interest income.

 

Netincome for the nine months ended September 30, 2008 was $3,169,000 which wasa decrease of 37.5% from the $5,071,000 reported for the same period of 2007.Diluted earnings per share for the nine months ended September 30, 2008were $0.44, compared to the $0.67 recorded for the same period 2007. Theannualized (ROAE) and annualized return on average assets (ROAA) for the ninemonths ended 2008 were 9.21% and .74%, respectively, as compared to 14.15% and1.19%, respectively, for the same period in 2007. The primary reasons for thedecrease in net income for the nine month period is generally consistent withthe discussion above for the third quarter as the net interest margin decreased61 basis points from September 30, 2007 and increases in non interestexpenses and the sale in 2007 of our mortgage servicing rights partially offsetby increases in service charges on deposit accounts and other non-interestincome.

 

Totalassets of the Company increased by $19,708,000 3.4% from $580,620,000 at December 31,2007 to $600,328,000 at September 30, 2008. Cash and cash equivalentsdecreased to $56,686,000 down $29,318,000, 34.1% as this decrease was used inconjunction with increased deposits as a funding source for the increase inloans.  Net loans increased to$497,647,000, up $56,297,000, 12.8% from December 31, 2007. Depositbalances at September 30, 2008 increased to $533,369,000 up $32,378,000,6.5% from December 31, 2007.  Premises and equipment decreased to $7,277,000 down $10,628,000, 59.4%primarily due to the February 2008 sale leaseback of seven of ourproperties.   Shareholder’s equitydecreased to $40,672,000 down $10,302,000, 20.2% primarily due to the March 2008tender offer to repurchase approximately 1,000,000 shares of common stockoffset by the year to date net income.

 

TableOne below provides a summary of the components of net income for the periodsindicated:

 

**Table One:  Components of Net Income**

 
| ** **                                                      | ** ** | **Three months ended** | ** ** | **Nine months ended** | ** ** |
|-----------------------------------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                                                      | ** ** | **September 30,**           | ** ** | **September 30,**          | ** ** |
| **(In thousands, except percentages)**           | ** ** | **2008**                         | ** ** | **2007**                        | ** ** | **2008** | ** ** | **2007** | ** ** |
| Net interest income                                             |       | $                                | 7,032      |                            | $          | 7,580 |   | $ | 20,419 |   | $ | 22,312 |   |
| Provision for loan losses                                       |       | (750                             | )          | (75                             | )          | (1,425 | ) | (150 | ) |
| Non-interest income                                             |       | 2,539                            |       | 2,653                           |       | 6,708 |   | 6,341 |   |
| Non-interest expense                                            |       | (6,956                           | )          | (6,569                          | )          | (20,669 | ) | (19,933 | ) |
| Provision for income taxes                                      |       | (564                             | )          | (1,411                          | )          | (1,864 | ) | (3,499 | ) |
|                                                            |       |                             |       |                            |       |   |   |   |   |
| Net income                                                      |       | $                                | 1,301      |                            | $          | 2,178 |   | $ | 3,169 |   | $ | 5,070 |   |
|                                                            |       |                             |       |                            |       |   |   |   |   |
| Average total assets (In millions)                              |       | $                                | 577.0      |                            | $          | 573.6 |   | $ | 572.2 |   | $ | 568.8 |   |
| Net income (annualized) as a percentage of average total assets |       | 0.89                             | %          | 1.51                            | %          | 0.74 | % | 1.19 | % |

 

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**Results of Operations**

 

**Net Interest Income and Net Interest Margin**

 

Net interest income represents the excess of interest and fees earnedon interest earning assets (loans, securities, federal funds sold andinvestments in time deposits) over the interest paid on deposits and borrowedfunds.  Net interest margin is net interest income expressed as apercentage of average earning assets.

 

The Company’s net interest margin was 5.26% for thethree months ended September 30, 2008 and 5.21% for the nine month periodending September 30, 2008 compared to 5.80% and 5.82% for the same periodsending September 30, 2007.  Netinterest income decreased $548,000 (7.2%) for the third quarter of 2008compared to the same period in 2007.  Net interest income decreased$1,893,000 (8.5%) for the nine months ended September 30, 2008 over thesame period in 2007. The primary reason for this decrease was the compressionof the net interest margin as a result of 325 basis point decreases by theFederal Reserve Board since September 2007 and because the repricing ofour interest bearing liabilities tends to lag  behind our interest bearingassets.   This was partially offset bythe growth of and change in mix of our interest-earning assets as averagebalances of Federal funds declined and average balances of loans increased.

 

Table Two, Analysis of Net Interest Margin, sets forth the averagedaily balances for the major asset and liability categories, the related incomeor expense where applicable, and the resultant yield or cost attributable tothe average earning assets and interest-bearing liabilities.  Changes in the average balances and the ratesreceived or paid depend on market opportunities, how well the Company hasmanaged interest rate risks, product pricing policy, product mix, and externaltrends and developments.

 

Table Three, Analysis of Volume and Rate changes on Net InterestIncome, analyzes the changes in net interest income for the three and ninemonth periods ended September 30, 2008 compared to September 30, 2007that are reported in Table Two.  Theanalysis shows the impact of volume and rate changes on the major categories ofassets and liabilities between these periods.  The table explains what portion of thedifference or variance in interest income or expense between these periods foreach major category of assets or liabilities is due to changes in the balances(volume) or to changes in rates.

 

For example, Table Two shows that interest income from loans for thethree months ended September 30, 2008 decreased by $1,225,000 from$10,450,000 at September 30, 2007 to $9,225,000.  The average balance of loans increased from$465,502,000 to $502,417,000 and the interest rate earned decreased from 8.91%to 7.30%.  Table Three shows the$1,225,000 decrease in interest income from loans was actually the result of an$826,000 increase in interest income from the higher balance of loans and $2,051,000from the decrease in yields earned in the third quarter of 2008 compared to thesame period in 2007.

 

A shift in the relative size of the major balance sheet categories hasan impact on net interest income and net interest margin.  For example, to the extent that fundsreceived from maturing or sold securities can be repositioned into loansinstead of re-invested in securities, earnings increase because of the higheryields received on loans.  However,changing the asset mix in this way comes at the price of additional risks thatmust be successfully managed.  Additionalcredit risk is incurred with loans compared to the very low risk of defaultloss on securities, and the Company must carefully monitor the underwritingprocess to ensure that the benefit of the additional interest earned is notoffset by additional credit losses.

 

15

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**Table Two:  Analysis of Net InterestMargin**

 
| **Three Months Ended September 30,** | ** ** | **2008**             | ** ** | **2007**     | ** ** |
|----------------------------------------------------------|------------|----------------------|------------|--------------|------------|
| **(In thousands, except percentages)**    | ** ** | **Avg Balance** | ** ** | **Interest** | ** ** | **Avg Yield ****(4)** | ** ** | **Avg Balance** | ** ** | **Interest** | ** ** | **Avg Yield ****(4)** | ** ** |
| Assets:                                                  |       |                 |       |         |       |   |   |   |   |   |   |   |   |
| Earning assets                                           |       |                 |       |         |       |   |   |   |   |   |   |   |   |
| Loans (1)                                                |       | $                    | 502,417    |         | $          | 9,225 |   | 7.30 | % | $ | 465,502 |   | $ | 10,450 |   | 8.91 | % |
| Taxable investment securities                            |       | 7,297                |       | 97           |       | 5.29 | % | 3,912 |   | 53 |   | 5.38 | % |
| Tax-exempt investment securities (2)                     |       | 1,379                |       | 17           |       | 4.90 | % | 1,350 |   | 16 |   | 4.70 | % |
| Federal funds sold & other                      |       | 17,213               |       | 83           |       | 1.92 | % | 40,475 |   | 518 |   | 5.08 | % |
| Interest bearing deposits in banks                       |       | 3,926                |       | 49           |       | 4.97 | % | 7,015 |   | 90 |   | 5.09 | % |
| Total earning assets                                     |       | 532,232              |       | 9,471        |       | 7.08 | % | 518,254 |   | 11,127 |   | 8.52 | % |
| Cash & due from banks                           |       | 15,480               |       |         |       |   |   | 16,860 |   |   |   |   |   |
| Other assets                                             |       | 29,314               |       |         |       |   |   | 38,484 |   |   |   |   |   |
| Average total assets                                     |       | $                    | 577,026    |         |       |   |   |   | $ | 573,598 |   |   |   |   |   |
|                                                     |       |                 |       |         |       |   |   |   |   |   |   |   |   |
| Liabilities & Shareholders’ Equity         |       |                 |       |         |       |   |   |   |   |   |   |   |   |
| Interest bearing liabilities:                            |       |                 |       |         |       |   |   |   |   |   |   |   |   |
| NOW & MMDA                                      |       | $                    | 151,754    |         | $          | 295 |   | 0.77 | % | $ | 143,917 |   | $ | 369 |   | 1.02 | % |
| Savings                                                  |       | 115,397              |       | 504          |       | 1.74 | % | 119,332 |   | 950 |   | 3.16 | % |
| Time deposits                                            |       | 169,692              |       | 1,417        |       | 3.32 | % | 153,988 |   | 1,885 |   | 4.86 | % |
| Other borrowings                                         |       | 13,237               |       | 223          |       | 6.70 | % | 17,633 |   | 343 |   | 7.72 | % |
| Total interest bearing liabilities                       |       | 450,080              |       | 2,439        |       | 2.16 | % | 434,870 |   | 3,547 |   | 3.24 | % |
| Demand deposits                                          |       | 72,224               |       |         |       |   |   | 87,726 |   |   |   |   |   |
| Other liabilities                                        |       | 14,165               |       |         |       |   |   | 1,258 |   |   |   |   |   |
| Total liabilities                                        |       | 536,469              |       |         |       |   |   | 523,854 |   |   |   |   |   |
| Shareholders’ equity                                |       | 40,557               |       |         |       |   |   | 49,744 |   |   |   |   |   |
| Average liabilities and equity                           |       | $                    | 577,026    |         |       |   |   |   | $ | 573,598 |   |   |   |   |   |
|                                                     |       |                 |       |         |       |   |   |   |   |   |   |   |   |
| Net interest income & margin (3)                |       |                 |       | $            | 7,032      |   | 5.26 | % |   |   | $ | 7,580 |   | 5.80 | % |

 

----

| (1)    | Loan interest includes loan fees of $401,000 and $470,000 during the  three months ended September 30, 2008 and September 30, 2007,  respectively.                              |
|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                                                                      |
| (2)    | Does not include taxable-equivalent adjustments that primarily relate  to income on certain securities that is exempt from federal income taxes.                                          |
|   |                                                                                                                                                                                      |
| (3)    | Net interest margin is computed by dividing net interest income by  total average earning assets.                                                                                         |
|   |                                                                                                                                                                                      |
| (4)    | Average yield is calculated based on actual days in quarter (92 for  September 30, 2008 and September 30, 2007) and annualized to actual  days in year (366 for 2008 and 2007). |

 

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| **Nine months ended September 30,** | ** ** | **2008**             | ** ** | **2007**     | ** ** |
|---------------------------------------------------------|------------|----------------------|------------|--------------|------------|
| **(In thousands, except percentages)**   | ** ** | **Avg Balance** | ** ** | **Interest** | ** ** | **Avg Yield**** (4)** | ** ** | **Avg Balance** | ** ** | **Interest** | ** ** | **Avg Yield**** (4)** | ** ** |
| Assets:                                                 |       |                 |       |         |       |   |   |   |   |   |   |   |   |
| Earning assets                                          |       |                 |       |         |       |   |   |   |   |   |   |   |   |
| Loans (1)                                               |       | $                    | 476,660    |         | $          | 27,126 |   | 7.60 | % | $ | 457,251 |   | $ | 30,539 |   | 8.93 | % |
| Taxable investment securities                           |       | 7,022                |       | 315          |       | 5.99 | % | 3,781 |   | 162 |   | 5.74 | % |
| Tax-exempt investment securities                        |       | 1,391                |       | 49           |       | 4.71 | % | 1,376 |   | 49 |   | 4.72 | % |
| Federal funds sold & other                     |       | 28,708               |       | 534          |       | 2.48 | % | 46,909 |   | 1,814 |   | 5.17 | % |
| Interest bearing deposits in banks                      |       | 9,591                |       | 355          |       | 4.94 | % | 3,641 |   | 139 |   | 5.09 | % |
| Total earning assets                                    |       | 523,372              |       | 28,379       |       | 7.24 | % | 512,958 |   | 32,703 |   | 8.52 | % |
| Cash & due from banks                          |       | 16,440               |       |         |       |   |   | 17,223 |   |   |   |   |   |
| Other assets                                            |       | 32,394               |       |         |       |   |   | 38,611 |   |   |   |   |   |
| Average total assets                                    |       | $                    | 572,206    |         |       |   |   |   | $ | 568,792 |   |   |   |   |   |
|                                                    |       |                 |       |         |       |   |   |   |   |   |   |   |   |
| Liabilities & Shareholders’ Equity        |       |                 |       |         |       |   |   |   |   |   |   |   |   |
| Interest bearing liabilities:                           |       |                 |       |         |       |   |   |   |   |   |   |   |   |
| NOW & MMDA                                     |       | $                    | 151,031    |         | $          | 919 |   | 0.81 | % | $ | 148,388 |   | $ | 1,163 |   | 1.05 | % |
| Savings                                                 |       | 116,171              |       | 1,628        |       | 1.87 | % | 113,902 |   | 2,764 |   | 3.24 | % |
| Time deposits                                           |       | 160,168              |       | 4,877        |       | 4.07 | % | 158,941 |   | 5,698 |   | 4.79 | % |
| Other borrowings                                        |       | 10,845               |       | 536          |       | 6.60 | % | 11,914 |   | 766 |   | 8.60 | % |
| Total interest bearing liabilities                      |       | 438,215              |       | 7,960        |       | 2.43 | % | 433,145 |   | 10,391 |   | 3.21 | % |
| Demand deposits                                         |       | 74,077               |       |         |       |   |   | 80,870 |   |   |   |   |   |
| Other liabilities                                       |       | 13,940               |       |         |       |   |   | 10,116 |   |   |   |   |   |
| Total liabilities                                       |       | 526,232              |       |         |       |   |   | 524,131 |   |   |   |   |   |
| Shareholders’ equity                               |       | 45,974               |       |         |       |   |   | 44,661 |   |   |   |   |   |
| Average liabilities and equity                          |       | $                    | 572,206    |         |       |   |   |   | $ | 568,792 |   |   |   |   |   |
|                                                    |       |                 |       |         |       |   |   |   |   |   |   |   |   |
| Net interest income & margin (3)               |       |                 |       | $            | 20,419     |   | 5.21 | % |   |   | $ | 22,312 |   | 5.82 | % |

 

----

| (1)    | Loan interest includes loan fees of $1,113,000 and $1,507,000 during  the nine months ended September 30, 2008 and September 30, 2007,  respectively.                                            |
|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                                                                                       |
| (2)    | Does not include taxable-equivalent adjustments that primarily relate  to income on certain securities that is exempt from federal income taxes.                                                           |
|   |                                                                                                                                                                                                       |
| (3)    | Net interest margin is computed by dividing net interest income by  total average earning assets.                                                                                                          |
|   |                                                                                                                                                                                                       |
| (4)    | Average yield is calculated based on actual days in quarter (274 for  September 30, 2008 and 273 for September 30, 2006) and annualized  to actual days in year (366 for 2008 and 365 for 2006). |

 

Table Three sets forth a summary of the changes in interest income andinterest expense from changes in average asset and liability balances (volume)and changes in average interest rates.  On a quarter over quarter basisfor the period ending September 30, 2008 net interest income has decreased$548,000 from the same time period in 2007.  Interest income from earningassets has decreased by $1,656,000. Changes in the volume of earning assets,primarily loans, have resulted in an increase in interest income of $535,000while interest income from changes in rates has decreased by $2,191,000. Interest expense for the third quarter of 2008 was $1,108,000 less than thesame period in 2007.  Changes in the volumeof interest bearing liabilities, primarily the change in mix with an increasein balances of NOW, MMDA and time deposits and decreases in savings depositsand other borrowings, has resulted in a net increase of interest expense of$96,000.  Decreases in average ratespaid, on all deposit products have resulted in an interest expense decrease of$1,204,000.

 

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On a year-to-date basis through September 30, 2008, net interestincome has decreased $1,893,000 from the total at September 30, 2007.  Interest income from earning assets hasdecreased by $4,323,000.  Changes in thevolume of earning assets, primarily loans and federal funds sold have resultedin an increase in interest income of $960,000 while interest income fromchanges in rates has decreased by $5,283,000.  Interest expense for the nine month period ending September 30,2008 was $2,430,000 less than the total at September 30, 2007.  Changes in the volume of interest bearingliabilities, primarily the increase in balances of NOW, MMDA, savings and timedeposits, have resulted in a net increase of interest expense of $50,000.  Decreases in average rates paid, on alldeposit products have resulted in an interest expense decrease of $2,480,000.

 

The average balances of interest bearing liabilities of $450,080,000were $15,210,000 (3.5%) higher in the third quarter of 2008 versus the samequarter in 2007.  As interest bearing liability balances increased, ratespaid on these liabilities decreased by 108 basis points on a quarter overquarter basis.  As a result of both the decrease in  interest rates and the volume and mix ofinterest bearing liabilities, interest expense was $1,108,000 (31.2%) lower inthe third quarter versus the same period in 2007.  The average balances of interest bearingliabilities were $5,045,000 (1.2%) higher in the nine-month period ended September 30,2008 versus the same period in 2007. Rates paid on interest bearing liabilities decreased 78 basis pointscompared to the nine month period ended September 30, 2007.

 

As a result of the above, the Company’s net interestmargin declined 54 basis points to 5.26% for the three months ended September 30,2008 from 5.80% for the same period in the prior year.  For the nine months ended September 30,2008 the net interest margin declined 61 basis points to 5.21% compared to5.82% for the same period in the prior year.

 

**Table Three:  Analysis of Volume andRate Changes on Net Interest Income and Expenses**

 
| **Three Months Ended September 30, 2008 over  2007  (In thousands)** | ** ** | **Volume** | ** ** | **Rate ****(3)** | ** ** | **Net Change** | ** ** |
|---------------------------------------------------------------------------|------------|------------|------------|-----------------------|------------|---------------------|------------|
| Increase (decrease) due to change in:            |       |       |       |                  |       |                |       |
| Interest-earning assets:                                             |       |       |       |                  |       |                |       |
| Net loans (1)                                                             |       | 826        |       | (2,051                | )          | (1,225              | )          |
| Taxable investment securities                                             |       | 46         |       | (2                    | )          | 44                  |       |
| Tax exempt investment securities (2)                                      |       | —     |       | 1                     |       | 1                   |       |
| Federal funds sold                                                        |       | (297       | )          | (138                  | )          | (435                | )          |
| Interest bearing deposits in banks                                        |       | (40        | )          | (1                    | )          | (41                 | )          |
| Total                                                                     |       | 535        |       | (2,191                | )          | (1,656              | )          |
|                                                                      |       |       |       |                  |       |                |       |
| Interest-bearing liabilities:                                             |       |       |       |                  |       |                |       |
| NOW and MMDA deposits                                                     |       | 20         |       | (94                   | )          | (74                 | )          |
| Savings deposits                                                          |       | (31        | )          | (415                  | )          | (446                | )          |
| Time deposits                                                             |       | 192        |       | (660                  | )          | (468                | )          |
| Other borrowings                                                          |       | (85        | )          | (35                   | )          | (120                | )          |
| Total                                                                     |       | 96         |       | (1,204                | )          | (1,108              | )          |
| Interest differential                                                     |       | 439        |       | (987                  | )          | (548                | )          |

 
| **Nine Months Ended September 30, 2008 over  2007  (In thousands)** | ** ** | **Volume** | ** ** | **Rate (3)** | ** ** | **Net  Change** | ** ** |
|--------------------------------------------------------------------------|------------|------------|------------|--------------|------------|-----------------|------------|
| Increase (decrease) due to change in:                                    |       |       |       |         |       |            |       |
| Interest-earning assets:                                                 |       |       |       |         |       |            |       |
| Net loans (1)                                                            |       | $          | 1,297      |         | $          | (4,710          | )          | $ | (3,413 | ) |
| Taxable investment securities                                            |       | 139        |       | 14           |       | 153             |       |
| Tax exempt investment securities (2)                                     |       | 1          |       | (1           | )          | —          |       |
| Federal funds sold                                                       |       | (706       | )          | (574         | )          | (1,280          | )          |
| Interest bearing deposits in banks                                       |       | 227        |       | (11          | )          | 216             |       |
| Total                                                                    |       | 958        |       | (5,282       | )          | (4,324          | )          |
|                                                                     |       |       |       |         |       |            |       |
| Interest-bearing liabilities:                                            |       |       |       |         |       |            |       |
| NOW and MMDA deposits                                                    |       | 21         |       | (265         | )          | (244            | )          |
| Savings deposits                                                         |       | 55         |       | (1,191       | )          | (1,136          | )          |
| Time deposits                                                            |       | 44         |       | (865         | )          | (821            | )          |
| Other borrowings                                                         |       | (70        | )          | (160         | )          | (230            | )          |
| Total                                                                    |       | 50         |       | (2,481       | )          | (2,431          | )          |
| Interest differential                                                    |       | $          | 908        |         | $          | (2,801          | )          | $ | (1,893 | ) |

 

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----

| (1)    | The average balance of non-accruing loans is not significant as a  percentage of total loans and, as such, has been included in net loans.       |
|--------|--------------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                             |
| (2)    | Does not include taxable-equivalent adjustments that primarily relate  to income on certain securities that is exempt from federal income taxes. |
|   |                                                                                                                                             |
| (3)    | The rate/volume variance has been included in the rate variance.                                                                                 |

 

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**Non-interest Income**

 

Table Four below provides a summary of the components of non-interestincome for the periods indicated (dollars in thousands):

 
| ** **                                               | ** ** | ** ** | ** ** | **% of Avg.** | ** ** | ** ** | ** ** | **% of Avg.** | ** ** |
|----------------------------------------------------------|------------|------------|------------|-------------------------|------------|------------|------------|-------------------------|------------|
| **Three months ended September 30,** | ** ** | **2008**   | ** ** | **Assets**              | ** ** | **2007**   | ** ** | **Assets**              | ** ** |
| Service charges on deposit accounts                      |       | $          | 1,033      |                    | 0.71       | %          | $          | 928                     |       | 0.63 | % |
| Loan servicing fees                                      |       | 124        |       | 0.09                    | %          | 125        |       | 0.09                    | %          |
| Fees - alternative investment sales                      |       | 96         |       | 0.07                    | %          | 108        |       | 0.07                    | %          |
| Merchant fee income                                      |       | 105        |       | 0.07                    | %          | 106        |       | 0.07                    | %          |
| Gain on the sale of loans                                |       | 546        |       | 0.38                    | %          | 206        |       | 0.14                    | %          |
| Other                                                    |       | 635        |       | 0.44                    | %          | 1,180      |       | 0.80                    | %          |
| Total non-interest income                                |       | $          | 2,539      |                    | 1.75       | %          | $          | 2,653                   |       | 1.80 | % |

 
| ** **                                | ** ** | ** ** | ** ** | **% of  Avg.** | ** ** | ** ** | ** ** | **% of  Avg.** | ** ** |
|-------------------------------------------|------------|------------|------------|----------------|------------|------------|------------|----------------|------------|
| **Nine  months ended September 30,** | ** ** | **2008**   | ** ** | **Assets**     | ** ** | **2007**   | ** ** | **Assets**     | ** ** |
| Service charges on deposit accounts       |       | $          | 2,883      |           | 0.67       | %          | $          | 2,526          |       | 0.59 | % |
| Loan servicing fees                       |       | 385        |       | 0.09           | %          | 334        |       | 0.08           | %          |
| Fees - alternative investment sales       |       | 395        |       | 0.09           | %          | 262        |       | 0.06           | %          |
| Merchant fee income                       |       | 314        |       | 0.07           | %          | 306        |       | 0.07           | %          |
| Gain on the sale of loans                 |       | 1,009      |       | 0.24           | %          | 936        |       | 0.22           | %          |
| Other                                     |       | 1,722      |       | 0.40           | %          | 1,977      |       | 0.46           | %          |
| Total non-interest income                 |       | $          | 6,708      |           | 1.57       | %          | $          | 6,341          |       | 1.48 | % |

 

**Table Four:  Components of Non-interestIncome**

 

Non-interest income decreased by $114,000 (4.3%) to $2,539,000 for thethree months ended September 30, 2008 as compared to $2,653,000 for thethree months ended September 30, 2007.  Increases in non-interestincome were realized in fees from service charges (up 11.3%), and gains on thesale of loans (up 175%).  Decreases wererealized in loan servicing fees (down 16.8%), fees from alternative investmentsales (down 11.1%), merchant fee income (down .10%), and other income (down46.2%).    The increase in servicecharge income was the result of additional deposit accounts opened during thethird quarter throughout our system of branches.  The gain on the sale of loans increased dueto two large USDA (B&I) loans sold in the secondary market during the thirdquarter of 2008.  Loan servicing fees decreased slightly as the volume ofloans sold in the secondary market for which the Company retains servicingrights decreased. The Alternative Investment Department, which sellsthird-party mutual funds and annuities, experienced a decrease in fees of $12,000due to fewer sales of investments during the third quarter as customers begandepositing funds into insured accounts. Merchant fee income was lower in thethird quarter due to a decrease in the volume of credit card sales.  The decrease in the “Other” category was theresult of the $730,000 pre-tax gain realized on the sale of mortgage servicingrights in the third quarter of 2007 discussed earlier.  This was partially offset by commissionsearned on sales of insurance policies and fees paid for payroll processingthrough our Business Services Division.

 

Non-interest income increased by $367,000 (5.8%) to $6,708,000 for thenine months ended September 30, 2008 as compared to $6,341,000 for thenine months ended September 30, 2007.  Increases in non-interestincome were realized in fees from service charges (up 14.1%), fees fromalternative investment sales (up 50.8%), merchant fee income (up 2.6%), andgains on the sale of loans (up 14.0%). Decreases were realized in loanservicing fees (down 2.1%), and other income (down 12.9%).  The increase in service charge income was theresult of additional deposit accounts opened during the first nine months ofthe year throughout our system of branches.   Fees from the sales of alternativeinvestments and merchant fee income increased due to a higher volume of salesduring the first nine months of 2008 as compared to the same time frame in2007.  The decrease in the “Other”category was the result of the sale of the mortgage servicing rights discussedabove but partially offset by increases in commissions earned on sales ofinsurance policies and fees paid for payroll processing through our BusinessServices Division.  Loan servicing feesdecreased slightly as the volume of Government guaranteed loans sold in the secondarymarket for which the Company retains servicing rights decreased.

 

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** **

**Non-interest Expense**

 

Non-interest expense increased $387,000 (5.9%) from $6,569,000 in thethird quarter of 2007 to $6,956,000 in the third quarter of 2008.  Salaryand employee benefits decreased by $98,000 (2.6%), largely due to slightlylower FTE (full time equivalent) employees and lower than budgeted bonusaccruals. On a quarter over quarter basis, occupancy expenses were higher by$251,000 (52.7%) which is related to the rents now being paid on sevenbuildings the Company sold in the first quarter of 2008 and is now leasing back. This expense is partially offset by thereduction of the depreciation on those seven buildings.  Other increases were realized in utilities,landscape maintenance, janitorial services and property taxes.  Furnitureand equipment expense was $668,000 in the third quarter of 2008 compared to$586,000 in the same period of 2007, representing a 14% increase.  Thisincrease relates to the depreciation recorded on new equipment as well as newtechnology software and hardware.  Otherexpenses increased $152,000 (9.1%) from $1,680,000 to $1,832,000 in the thirdquarter of 2008 versus the third quarter of 2007.  This increase was attributed to highertelephone, postage and insurance costs as well as increased advertising and promotioncosts.

 

Non-interest expense increased $737,000 (3.70%) from $19,933,000 in thefirst nine months of 2007 to $20,669,000 in the first nine months of 2008.Salaries and benefits decreased by $699,000 (6.3%) due to lower FTE as staffinglevels have been reduced through attrition and lower than budgeted bonusaccruals. On a year over year basis, full time equivalent employees decreasedby 5 to 259. Occupancy expense was up $698,000 (49.2%) from the first ninemonths of 2007 to the first nine months of 2008 due to increases in utilities,landscape maintenance, janitorial services and property taxes as well asincreased rents related to the sale and lease back of the seven buildings theCompany sold in the first quarter of 2008. This expense is partially offset bythe reduction of the depreciation on those seven buildings.  Other increases were realized in furnitureand equipment expense which was up $295,000 (17.7%) from the first nine monthsof 2007 to the first nine months of 2008 due to the depreciation recorded onnew equipment as well as new technology software and hardware. Other expensesincreased by $442,000 (8.7%). This increase was attributable to highertelephone, postage and insurance costs as well as increased advertising andpromotion costs.

 

**Provision for Loan Losses**

 

The Company provided $750,000 for loan losses in the third quarter of2008.   In the third quarter of 2007 theCompany provided $75,000 for loan losses.  Net loan charge-offs for thethird quarter of 2008 and 2007 were $418,000 and $11,000 respectively.  For the first nine months of 2008, theCompany recorded provisions for loan losses of $1,425,000 which compared to$150,000 for the first nine months of 2007. Net loan charge-offs for the nine months ended September 30, 2008and September 30, 2007 were $638,000 and $19,000 respectively.   Management assesses its loan quality on amonthly basis to maintain an adequate allowance for loan losses.  TheCompany’s loan portfolio composition, non-performing assets and allowance forloan losses are further discussed under the Balance Sheet Analysis sectionbelow.

 

**Provision for Income Taxes**

 

The effective tax rate for the third quarter and first nine months of2008 was 30.2% and 37.1%, versus 39.3% and 40.8% for the same periods in2007.  During the third quarter of2008 we recorded a tax provision adjustment related to our method ofcalculation as it related to a California Affordable Housing Fund (“CAHF”)investment which resulted in reduction in our income tax provision.

 

**Balance Sheet Analysis**

 

The Company’s total assets were $600,328,000 at September 30, 2008up $19,708,000 (3.4%) from $580,620,000 at December 31, 2007.  On ayear over year basis, the average balance of total assets for the nine monthsended September 30, 2008 was $572,206,000, which represents an increase of$3,414,000 (.60%) over the $568,792,000 during the nine-month period ended September 30,2007.

 

**Loans**

 

The Company concentrates its lending activities in the followingprincipal areas: 1) commercial; 2) real estate mortgage; 3) residential realestate and real estate construction (both commercial and residential); 4)agriculture; and 5) consumer loans.  Commercial and residential realestate loans are generally secured by improved property, with originalmaturities of 3-10 years.  At September 30, 2008, these principalareas accounted for approximately 17%, 47%, 15%, 8% and 13%, respectively, ofthe Company’s loan portfolio.  The mix at December 31, 2007 was 17%,47%, 18%, 6% and 12%.

 

Growth in the real estate loan category has slowed during the current economicdownturn as we are experiencing more requests by borrowers to extend the termsof their loans thereby reducing the amount of loan payoffs we would normallyexpect. New loan growth occurred in the commercial, agricultural and consumerloan types.  Increases in loan balancesfrom December 31, 2007 were achieved for commercial loans of $7,774,000 or(10.0%), commercial and residential mortgage real estate loans

 

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of $28,576,000 or (13.7%), agricultural loans of $16,519,000 or(65.1%), consumer loans of $10,029,000 or (18.6%).  Real estate construction loans decreased$5,936,000 or (7.2%) over the same period.  Table Five below summarizesthe composition of the loan portfolio as of September 30, 2008 and December 31,2007.

 

**Table Five: Loan Portfolio Composition**

** **
| **(In thousands)**   | ** ** | **September 30, 2008** | ** ** | **December 31, 2007** | ** ** |
|---------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| Commercial                |       | $                                | 85,454     |                            | $          | 77,680 |   |
| Real estate:              |       |                             |       |                            |       |
| Mortgage                  |       | 237,107                          |       | 208,531                         |       |
| Construction              |       | 75,955                           |       | 81,891                          |       |
| Agriculture               |       | 41,886                           |       | 25,367                          |       |
| Consumer                  |       | 63,830                           |       | 53,801                          |       |
| Total loans               |       | 504,232                          |       | 447,270                         |       |
| Allowance for loan losses |       | (6,524                           | )          | (5,232                          | )          |
| Deferred loan fees, net   |       | (539                             | )          | (688                            | )          |
| Total net loans           |       | $                                | 497,169    |                            | $          | 441,350 |   |

 

The majority of the Company’s loans are direct loans made toindividuals and local businesses.  The Company relies substantially onlocal promotional activity and personal contacts by bank officers, directorsand employees to compete with other financial institutions.  The Companymakes loans to borrowers whose applications include a sound purpose and aviable primary repayment source, generally supported by a secondary source ofrepayment.

 

Commercial loans consist of credit lines for operating needs, loans forequipment purchases, working capital, and various other business loanproducts.  Consumer loans include a range of traditional consumer loanproducts such as personal lines of credit and loans to finance purchases ofautos, boats, recreational vehicles, mobile homes and various other consumeritems.

 

Real estate construction loans are generally composed of commitments tocustomers within the Company’s service area for construction of both commercialproperties and custom and semi-custom single-family residences.  Otherreal estate loans consist primarily of loans secured by first trust deeds oncommercial and residential properties typically with maturities from 3 to 10years and original loan to value ratios generally from 65% to 80%. Agriculture loans consist primarily of crop loans to farmers of peaches,prunes, walnuts, and almonds.  In general, except in the case of loanswith SBA or FMHA guarantees, the Company does not make long-term mortgageloans; however, Butte Community Bank has a residential lending division toassist customers in securing most forms of longer term single-family mortgagefinancing.

 

**Risk Elements**

 

The Company assesses and manages credit risk on an ongoing basisthrough a total credit culture that emphasizes excellent credit quality,extensive internal monitoring and established formal lending policies. Additionally, the Company contracts with an outside loan review consultant toperiodically review the existing loan portfolio.  Management believes itsability to identify and assess risk and return characteristics of the Company’sloan portfolio is critical for profitability and growth.  Managementstrives to continue its emphasis on credit quality in the loan approvalprocess, active credit administration and regular monitoring.  With thisin mind, management has designed and implemented a comprehensive loan reviewand grading system that functions to continually assess the credit riskinherent in the loan portfolio.

 

Ultimately, underlying trends in economic and business cycles mayinfluence credit quality.  The Company’s business is concentrated in theButte, Sutter and Shasta County areas. The economy of these three counties isdiversified with professional services, manufacturing, agriculture and realestate investment and construction.

 

Special emphasis is placed within the communities in which the Companyhas offices (Chico, Paradise, Magalia, Oroville, Yuba City, Red Bluff,Marysville, Colusa, Corning, Redding and Anderson).  The Company alsomaintains loan production offices in the cities of Citrus Heights andGridley.  Single-family residential construction is the primary lendingproduct from the Citrus Heights location serving the greater Sacramentoarea.  The primary focus of the loan production office in Gridley iscommercial and agricultural loans.

 

The Company has significant extensions of credit and commitments toextend credit that are secured by real estate.  The ultimate repayment ofthese loans is generally dependent on personal or business cash flows or thesale or refinancing of the real estate.  The Company monitors the effectsof current and expected market conditions and other factors on thecollectability of real estate loans.  The more significant factorsmanagement considers involve the following:  lease, absorption and salerates;

 

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real estate values and rates of return; operating expenses; inflation;and sufficiency of collateral independent of the real estate including, inlimited instances, personal guarantees.

 

In extending credit and commitments to borrowers, the Company generallyrequires collateral and/or guarantees as security.  The repayment of suchloans is expected to come from cash flow or from proceeds from the sale ofselected assets of the borrowers.  The Company’s requirement forcollateral and/or guarantees is determined on a case-by-case basis in connectionwith management’s evaluation of the creditworthiness of the borrower. Collateral held varies but may include accounts receivable, inventory,property, plant and equipment, income-producing properties, residences andother real property.  The Company secures its collateral by perfecting itssecurity interest in business assets, obtaining deeds of trust, or outrightpossession among other means.

 

In management’s judgment, a concentration exists in real estate loans,which represented approximately 62.1% of the Company’s loan portfolio at September 30,2008, which is slightly less, on a percentage basis, than the 64.9%concentration level at December 31, 2007.  Management believes theconcentration to have no more than the normal risk of collectability; however,a substantial decline in the economy in general, or a decline in real estatevalues in the Company’s primary market areas in particular, could have anadverse impact on the collectability of these loans and require an increase inthe provision for loan losses which could adversely affect the Company’s futureprospects, results of operations, profitability and stock price. Management believes that its lending policies and underwriting standards willtend to minimize losses in an economic downturn; however, there is no assurancethat losses will not occur under such circumstances.  The Company’s loanpolicies and underwriting standards include, but are not limited to, thefollowing: (1) maintaining a thorough understanding of the Company’sservice area and originating a significant majority of its loans within thatarea, (2) maintaining a thorough understanding of borrowers’ knowledge,capacity, and market position in their field of expertise, (3) basing realestate loan approvals not only on market demand for the project, but also onthe borrowers’ capacity to support the project financially in the event it doesnot perform to expectations (whether sale or income performance), and (4) maintainingconforming and prudent loan to value and loan to cost ratios based onindependent outside appraisals and ongoing inspection and analysis by theCompany’s lending officers.  The Companydoes not participate in any sub-prime lending activities.

 

**Nonaccrual, Past Due and Restructured Loans**

 

Management generally places loans on nonaccrual status when they become90 days past due, unless the loan is well secured and in the process ofcollection.  Loans are charged off when, in the opinion of management,collection appears unlikely.

 

Table Six below sets forth nonaccrual loans as of September 30,2008 and December 31, 2007.  There were no loans past due 90 days or more and still accruing interestat September 30, 2008 or December 31, 2007.

 

**Table Six:  Non-Performing Loans**

** **
| **(In thousands)**    | ** ** | **September 30, 2008** | ** ** | **December 31, 2007** | ** ** |
|----------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| Nonaccrual:                |       |                             |       |                            |       |
| Commercial                 |       | $                                | 170        |                            | $          | — |   |
| Real estate                |       | 7,940                            |       | 253                             |       |
| Consumer and other         |       | 81                               |       | —                          |       |
| Total non-performing loans |       | $                                | 8,191      |                            | $          | 253 |   |

 

At September 30, 2008, there were fourteen non-performing loanswhich were considered to be impaired.  There was one consumer loan that issecured by a motor home that has been repossessed and is currently forsale.  Management has allocated an $8,000specific valuation allowance on this impaired loan.  There were three non-performing commercial loans,for a total amount of $170,000 two of which have 80% SBA guarantees.  The unguaranteed portion of these two loanshas been charged off and the balances have been submitted to the SBA forpayment.  The remaining commercial loanwas for a dump truck that has been repossessed and is for sale.  There are no specific reserves for thesethree loans.  There were tennon-performing real estate loans for a total amount of $7,940,000.  One of these loans in the amount of$5,000,000 has an 80% government guarantee and is collateralized by aresidential care facility.  Five of theother nine non-performing real estate loans are land loans for a total of$1,111,000 that the Company is working with the borrowers in attempts to sellthe underlying properties collateralizing the loans.  The remaining four non-performing real estateloans for a total amount of $1,829,000 are for residential properties theCompany is working with the borrowers to sell these properties.  The Company received current appraisals onall of these properties collateralizing these loans and as a result has chargedoff a total of $245,000.  There is anadditional $86,000 in specific reserves for these real estate loans.

 

There were no loan concentrations in excess of 10% of total loans nototherwise disclosed as a category of loans as of September 30, 2008 or December 31,2007.  Management is not aware of any potential problem loans, which wereaccruing and

 

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current at September 30, 2008, where serious doubt exists as tothe ability of the borrower to comply with the present repayment terms.

 

**Allowance for Loan Losses Activity**

 

We employ a systematic methodology for determining the allowance forloan losses that includes a monthly review process and monthly adjustment ofthe allowance.  Our process includes a periodic review of individual loansthat have been specifically identified as problem loans or have characteristicswhich could lead to impairment, as well as detailed reviews of other loans(either individually or in pools).  While this methodology utilizeshistorical and other objective information, the establishment of the allowancefor loan losses and the classification of loans are, to some extent, based onmanagement’s judgment and experience.

 

Our methodology incorporates a variety of risk considerations, bothquantitative and qualitative, in establishing an allowance for loan losses thatmanagement believes is appropriate at each reporting date.  Quantitativefactors include our historical loss experience, delinquency and charge-offtrends, collateral values, changes in non-performing loans, and otherfactors.  Quantitative factors also incorporate known information aboutindividual loans, including borrowers’ sensitivity to interest rate movementsand borrowers’ sensitivity to quantifiable external factors including commodityprices as well as acts of nature (freezes, earthquakes, fires, etc.) that occurin a particular period.

 

Qualitative factors include the general economic environment in ourmarkets and, in particular, the state of the agriculture industry and other keyindustries in the Northern Sacramento Valley.  The way a particular loanmight be structured, the extent and nature of waivers of existing loanpolicies, loan concentrations and the rate of portfolio growth are otherqualitative factors that are considered.

 

Our methodology is, and has been, consistently followed.  However,as we add new products, increase in complexity, and expand our geographiccoverage, we expect to enhance our methodology to keep pace with the size andcomplexity of the loan portfolio.  On an ongoing basis we engage outsidefirms to independently assess our methodology, and to perform independentcredit reviews of our loan portfolio.  The FDIC and the CaliforniaDepartment of Financial Institutions review the allowance for loan losses as anintegral part of the examination processes.  Management believes that ourcurrent methodology is appropriate given our size and level ofcomplexity.  Further, management believes that the allowance for loanlosses is adequate as of September 30, 2008 to cover known and inherentrisks in the loan portfolio.  However, fluctuations in credit quality, orchanges in economic conditions or other factors could cause management toincrease or decrease the allowance for loan losses as necessary.

 

The Board of Directors of the Bank reviews the adequacy of theallowance for loan losses at least quarterly to include consideration of therelative risks in the portfolio and current economic conditions.  Theallowance is adjusted based on that review if, in the judgment of the loancommittee and management, changes are warranted.  The allowance for loanlosses totaled $6,524,000 or 1.29% of total loans at September 30, 2008and $5,232,000 or 1.17% at December 31, 2007.  Net charge-offs forthe quarter and nine month period ended September 30, 2008 were $418,000and $638,000 respectively.

 

Table Seven below summarizes, for the periods indicated, the activityin the allowance for loan losses.

 

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**Table Seven: Allowance for Loan Losses**

** **
| ** **                                                                | ** ** | **Three Months**  | ** ** | **Nine Months**   | ** ** |
|---------------------------------------------------------------------------|------------|------------------------|------------|------------------------|------------|
| ** **                                                                | ** ** | **Ended**              | ** ** | **Ended**              | ** ** |
| ** **                                                                | ** ** | **September 30,** | ** ** | **September 30,** | ** ** |
| **(In thousands, except for percentages)**            | ** ** | **2008**               | ** ** | **2007**               | ** ** | **2008** | ** ** | **2007** | ** ** |
| Average loans outstanding                                                 |       | $                      | 502,417    |                   | $          | 465,502 |   | $ | 476,660 |   | $ | 457,251 |   |
| Allowance for possible loan losses at  beginning of period                |       | $                      | 6,241      |                   | $          | 5,305 |   | $ | 6,092 |   | $ | 5,274 |   |
|                                                                      |       |                   |       |                   |       |   |   |   |   |
| Loans charged off:                                                        |       |                   |       |                   |       |   |   |   |   |
| Commercial                                                                |       | (3                     | )          | (8                     | )          | (46 | ) | (8 | ) |
| Real estate                                                               |       | (341                   | )          |                   |       | (514 | ) | (8 | ) |
| Consumer                                                                  |       | (80                    | )          | (3                     | )          | (85 | ) | (3 | ) |
| Total                                                                     |       | (424                   | )          | (11                    | )          | (645 | ) | (19 | ) |
| Recoveries of loans previously charged off:                               |       |                   |       |                   |       |   |   |   |   |
| Commercial                                                                |       | 1                      |       | —                 |       | 1 |   |   |   |
| Real estate                                                               |       | 4                      |       | —                 |       | 4 |   |   |   |
| Consumer                                                                  |       | 1                      |       | —                 |       | 2 |   | — |   |
| Total                                                                     |       | 6                      |       | —                 |       | 7 |   | — |   |
| Net loan charge offs                                                      |       | (418                   | )          | (11                    | )          | (638 | ) | (19 | ) |
|                                                                      |       |                   |       |                   |       |   |   |   |   |
| Additions to allowance charged to operating  expenses                     |       | 750                    |       | 75                     |       | 1,425 |   | 150 |   |
| Allowance for unfunded loan commitments                                   |       | (49                    | )          | 3                      |       | (355 | ) | (33 | ) |
| Allowance for loan losses at end of period                                |       | $                      | 6,524      |                   | $          | 5,372 |   | $ | 6,524 |   | $ | 5,372 |   |
|                                                                      |       |                   |       |                   |       |   |   |   |   |
| Ratio of net charge-offs to average loans  outstanding                    |       | 0.08                   | %          | 0.00                   | %          | 0.13 | % | 0.00 | % |
| Provision for possible loan losses to  average loans outstanding          |       | 0.15                   | %          | 0.02                   | %          | 0.30 | % | 0.03 | % |
| Allowance for loan losses to loans net of  deferred fees at end of period |       | 1.29                   |  %    | 1.15                   |  %    | 1.29 |  % | 1.17 | % |

 

It is the policy of management to maintain the allowance for loanlosses at a level adequate for known and inherent risks in the portfolio. Basedon information currently available to analyze inherent credit risk, includingeconomic factors, overall credit quality, historical delinquencies and ahistory of actual charge-offs, management believes that the provision for loanlosses and the allowance are adequate. The Company generally makes monthlyallocations to the allowance for loan losses. The budgeted allocation is basedon estimates of loss risk and loan growth. Adjustments may be made based ondifferences from estimated loan growth, the types of loans constituting thisgrowth, changes in risk ratings within the portfolio, and general economicconditions. However, no prediction of the ultimate level of loans charged offin future years can be made with any certainty.

 

**Other Real Estate**

 

As of September 30, 2008 the Company had a total carrying value of$1,521,000 in assets classified as other real estate (“ORE”) which are includedin accrued interest receivable and other assets on the Company’s balance sheet.These assets consist of nine single family residential lots, two single familyresidences and one multifamily residence. One of the lots is located inParadise where a recent wildfire burned the property. Subsequent to the fire,the Company charged-off $44,500 of the outstanding balance. The second lot islocated in El Dorado Hills and is listed with a local realtor. This propertywas written down by $45,000 due to the lack of buyer activity. Four lots arelocated in Mt. Shasta City and are listed with a local realtor. The listingprice has been reduced by $60,000 to $530,000 as the realtor has stated therehave been very few sales in the area. The carrying value of the properties is$450,000 with the most recent appraisal value of $640,000. There are two singlefamily residential lots in Red Bluff with an appraised value of $100,000 forwhich we have potential buyers. The final lot is in Lake Commanche, Californiaand we are looking for a broker to list this property. The property has beenwritten down by $55,000 to reflect its value based on a recent appraisal. Thefirst of the two single family residences is located in Paradise and has arecent appraisal that supports the current carrying value of the property. Minorrepairs have been completed and the Company is marketing this property. Thesecond single family residence is in Yuba City. Repairs are almost complete onthis residence and it will be marketed for sale in the near future. Thisproperty has been written down by $54,000. The final multifamily property is aduplex in Sacramento which was under construction at the time the Company tookit into ORE. We are currently evaluating the completion costs to determinewhether to complete the project or sell as is. At December 31, 2007, theCompany did not have any ORE properties.

 

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**Property and Equipment**

 

At September 30, 2008, total premises and equipment were$7,277,000 representing a decrease of $10,628,000 (59.4%) over the December 31,2007 balance of $17,905,000.  Thisdecrease is primarily due to the Company selling and simultaneouslyentered into long-term operating lease agreements on seven of its properties inFebruary 2008.  The book value ofthe properties was approximately $9,700,000 and proceeds from the sale wereapproximately $15,300,000 resulting in a net gain of approximately $5,600,000which is being deferred and recognized over the 15 year term of theleases.  At September 30, 2008, amortization of the deferred revenuetotaled $233,000, with the remaining deferred revenue of approximately$5,370,000 is included in accrued interest and other liabilities.

 

**Deposits**

 

At September 30, 2008, total deposits were $533,369,000representing an increase of $32,378,000 (6.5%) over the December 31, 2007balance of $500,991,000.  We have experienced a decrease in the level ofour non-interest bearing demand deposits in the first nine months of 2008 (down$4.1 million).  We have seen an increasein the interest bearing checking, money market, and savings accounts (up $8.9million), and an increase in certificates of deposit (up $27.6 million) whichincludes $22.9 million in brokered deposits.

 

The Emergency Economic Stabilization Act of 2008 included aprovision for an increase in the amount of deposits insured by the FDIC to$250,000. If not renewed, the additional FDIC insurance provision expires December 31,2009.  On October 14, 2008, the FDICannounced a new program — the Temporary Liquidity Guarantee Program thatprovides unlimited deposit insurance on funds in noninterest-bearingtransaction deposit accounts not otherwise covered by the existing depositinsurance limit of $250,000.  Alleligible institutions will be covered under the program for the first 30 dayswithout incurring any costs.  After theinitial period, participating institutions will be assessed a 10 basis pointsurcharge on the additional insured deposits.

 

**Capital Resources**

 

The current and projected capital position of the Company and theimpact of capital plans and long-term strategies are reviewed regularly bymanagement. The Company’s capital position represents the level of capitalavailable to support continued operations and expansion.

 

At September 30, 2008 shareholder’s equity was $40,672,000representing a decrease of $10,302,000 (20.2%) over the December 31, 2007balance of $50,974,000.  The decrease isprimarily due to the March 2008 tender offer, and the payment of cashdividends offset by the proceeds from the loan from a correspondent bank,exercise of stock options and the year to date net income.

 

InMarch 2008, Community Valley Bancorp announced an offer to purchase up to1,000,000 shares of its common stock at a purchase price of $13.00.  Basedon the final count by the depositary for the tender offer, shareholdersproperly tendered 1,572,907 shares of its common stock.  The Board ofDirectors of Community Valley Bancorp elected to not exercise itsoversubscription privileges in the tender offer to purchase more than 1,000,000properly tendered shares and purchased a total of 999,939 shares at $13.00 pershare, representing a pro-rata share of the tendered shares of 63.38%, on May 5,2008.

 

OnJune 30, 2008 the Company borrowed $4 million from one of itscorrespondent banks which was down streamed to Butte Community Bank into thecapital accounts.  This note is for a two year period with a maturity dateof June 30, 2010 and an interest rate equal to the three month LIBOR rateplus 3.25% adjusted quarterly, 7.30% at September 30, 2008.

 

The Board of Directors of the Company authorized the payment ofquarterly cash dividends totaling $0.32 per share for 2007 and $0.08, $0.04 and$0.04 per share for the first, second, and third quarters respectively in2008.  The payment of dividends in the future is subject to the discretionof the Board of Directors of the Company and will depend on earnings, thefinancial condition of the Company and other relevant factors.

 

The Company and its subsidiary Bank are subject to certain regulationsissued by the Board of Governors of the Federal Reserve System and the FDICwhich require maintenance of certain levels of capital.  The Bank’s ratioof total risk-based capital to risk adjusted assets was 10.4% at June 30,2008 and 11.4% at December 31, 2007.  Tier 1 risk-based capital torisk-adjusted assets was 9.1% at September 30, 2008 and 10.4 at December 31,2007.

 

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Table Eight below lists the Company’s and the Bank’s capital ratios at September 30,2008 and December 31, 2007, as well as the minimum ratios required underregulatory definitions of capital adequacy.

 

**Table Eight: Capital Ratios**

** **
| ** **                                         | ** ** | **At September 30,** | ** ** | **At December 31,** | ** ** | **Minimum Regulatory** | ** ** |
|----------------------------------------------------|------------|--------------------------------|------------|-------------------------------|------------|-----------------------------|------------|
| **Capital to Risk-Adjusted Assets** | ** ** | **2008**                       | ** ** | **2007**                      | ** ** | **Requirement**             | ** ** |
|                                               |       |                           |       |                          |       |                        |       |
| Company                                            |       |                           |       |                          |       |                        |       |
| Leverage ratio                                     |       | 8.1                            | %          | 11.6                          | %          | 4.0                         | %          |
|                                               |       |                           |       |                          |       |                        |       |
| Tier 1 Risk-Based Capital                          |       | 8.9                            | %          | 13.1                          | %          | 4.0                         | %          |
|                                               |       |                           |       |                          |       |                        |       |
| Total Risk-Based Capital                           |       | 10.2                           | %          | 14.1                          | %          | 8.0                         | %          |
|                                               |       |                           |       |                          |       |                        |       |
| Bank                                               |       |                           |       |                          |       |                        |       |
| Leverage ratio                                     |       | 8.3                            | %          | 9.3                           | %          | 4.0                         | %          |
|                                               |       |                           |       |                          |       |                        |       |
| Tier 1 Risk-Based Capital                          |       | 9.1                            | %          | 10.4                          | %          | 4.0                         | %          |
|                                               |       |                           |       |                          |       |                        |       |
| Total Risk-Based Capital                           |       | 10.4                           | %          | 11.4                          | %          | 8.0                         | %          |

 

Capital ratios are reviewed on a regular basis to ensure that capital exceedsthe prescribed regulatory minimums and is adequate to meet future needs. All ratios are in excess of the regulatory definition of “Minimum” at September 30,2008 and December 31, 2007.  The Bank was considered “well-capitalized”by regulatory standards, at September 30, 2008 and December 31, 2007.

 

On October 3, 2008, President Bush signed into law the EmergencyEconomic Stabilization Act of 2008 (the “EESA”).  Pursuant to the EESA, the Secretary of theTreasury was authorized to establish the Troubled Asset Relief Program (“TARP”)and to invest in financial institutions and purchase mortgages, mortgage-backedsecurities and certain other financial instruments from financial institutions,in an aggregate amount up to $700 billion, for the purpose of stabilizing andproviding liquidity to the U.S. financial markets.  On October 14, 2008, the United StatesDepartment of the Treasury (the “UST”) announced a Capital Purchase Program (“CPP”)to invest up to $250 billion of this $700 billion amount in certain eligibleU.S. banks, thrifts and their holding companies in the form of non-voting,senior preferred stock.  Bank holdingcompanies and banks eligible to participate as a Qualifying FinancialInstitution (“QFI”) in the CPP will be expected to comply with certainstandardized terms and conditions specified by the UST, including thefollowing:

 
| · | Submission  of an application prior to November 14, 2008 to the QFI’s Federal  banking regulator to obtain preliminary approval to participate in the CPP;                                                                                                                     |
|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| · | If  the QFI receives preliminary approval, it will have 30 days within which to  submit final documentation and fulfill any outstanding requirements;                                                                                                                                    |
| · | The  minimum amount of capital eligible for purchase by the UST under the CPP is 1  percent of the Total Risk-Weighted Assets of the QFI and the maximum is the  lesser of (i) an amount equal to 3 percent of the Total Risk-Weighted  Assets of the QFI or (ii) $25 billion; |
| · | Capital  acquired by a QFI under the CPP will be accorded Tier 1 capital treatment;                                                                                                                                                                                                      |
| · | The  preferred stock issued to the UST will be non-voting (except in the case of  class votes), senior perpetual preferred stock that ranks senior to common  stock and pari passu with existing preferred stock (except junior preferred  stock);                                       |
| · | In  addition to the preferred stock, the UST will be issued warrants to acquire  shares of the QFI’s common stock equal in value to 15 percent of the amount  of capital purchased by the UST;                                                                                      |
| · | Dividends  on the preferred stock are payable to the UST at the rate of 5% per annum for  the first 5 years and 9% per annum thereafter;                                                                                                                                                 |
| · | Subject  to certain exceptions and other requirements, no redemption of the preferred  stock is permitted during the first 3 years;                                                                                                                                                      |
| · | Certain  restrictions on the payment of dividends to shareholders of the QFI shall  remain in effect while the preferred stock purchased by the UST is  outstanding;                                                                                                                     |
| · | Any  repurchase of QFI shares will require the consent of the UST, subject to  certain exceptions;                                                                                                                                                                                       |
| · | The  preferred shares are not subject to any contractual restrictions on transfer;  and                                                                                                                                                                                                  |

 

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| · | The  QFI must agree to be bound by certain executive compensation and corporate  governance requirements and senior executive officers must agree to certain  compensation restrictions. |
|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

TheCompany and the Bank meet all of their capital requirements and the Bank isconsidered well capitalized. The Company’s capital position and other liquiditysources provide deposit customers with an important level of safety andconfidence in the Company that is essential in these uncertain economic times.While management is currently evaluating the TARP Capital Purchase Program, theCompany’s Board of Directors has authorized management to submit an applicationto participate in the program. The Company will continue to evaluate itsposition.

 

**Item 3. Quantitative and Qualitative Disclosures about Market Risk**

 

**Market Risk Management**

 

*Overview*. Market risk is the risk of loss from adverse changes in market prices andrates.  The Company’s market risk arises primarily from interest rate riskinherent in its loan, investment and deposit portfolios.  The goal formanaging the assets and liabilities of the Company is to maximize shareholdervalue and earnings while maintaining a high quality balance sheet withoutexposing the Company to undue interest rate risk.

 

The Board of Directors has overall responsibility for the interest raterisk management policies.  The Bank has an Asset and Liability ManagementCommittee (ALCO) that establishes and monitors guidelines to control thesensitivity of earnings to changes in interest rates.

 

*Asset/Liability Management*. Activities involved in asset/liability management include, but are not limitedto, lending, accepting and placing deposits, investing in securities, usingtrust preferred securities and borrowings.  Interest rate risk is theprimary market risk associated with asset/liability management.  Sensitivityof earnings to interest rate changes arises when yields on assets change in adifferent time period or in a different amount from that of interest costs onliabilities.  To mitigate interest rate risk, the structure of the balancesheet is managed with the goal that movements of interest rates on assets andliabilities are correlated and contributes to earnings even in periods ofvolatile interest rates.  The asset/liability management policy setslimits on the acceptable amount of variance in net interest margin and marketvalue of equity under changing interest environments.  The Company usessimulation models to forecast earnings, net interest margin and market value ofequity.

 

Simulation of earnings is the primary tool used to measure thesensitivity of earnings to interest rate changes.  Using computer-modelingtechniques, the Company is able to estimate the potential impact of changinginterest rates on earnings.  A balance sheet forecast is prepared monthlyusing inputs of actual loans, securities and interest bearing liability (i.e.deposits/borrowings) positions as the beginning base.  The forecastbalance sheet is processed against seven interest rate scenarios.  Thesescenarios include a 100, 200 and 300 basis point rising rate forecast, a flatrate forecast and a 100, 200 and 300 basis point falling rate forecast whichtake place within a one year time frame.

 

 The net interest income ismeasured during the year assuming a gradual change in rates over thetwelve-month horizon.  The Company’s net interest income, as forecastbelow, was modeled utilizing a forecast balance sheet projected from balancesas of the date indicated.

 

Table Nine below summarizes the effect on net interest income (NII) ofa ±200 basis point change in interest rates as measured against a constant rate(no change) scenario.  The results shown in Table nine for the twoperiods, fall within the parameters of the Bank’s policy for interest raterisk.

 

**Table Nine:  Interest Rate RiskSimulation of Net Interest as of September 30, 2007 and December 31,2006**

** **
| ** **                              | ** ** | **$ Change in NII** | ** ** | **$ Change in NII** | ** ** |
|-----------------------------------------|------------|------------------------------------|------------|------------------------------------|------------|
| ** **                              | ** ** | **from Current**              | ** ** | **from Current**              | ** ** |
| ** **                              | ** ** | **12 Month Horizon**     | ** ** | **12 Month Horizon**     | ** ** |
| **(In thousands)**                 | ** ** | **September 30, 2008**   | ** ** | **December 31, 2007**    | ** ** |
| Variation from a constant rate scenario |       |                               |       |                               |       |
| +200bp                                  |       | $                                  | 3,794      |                               | $          | 3,510 |   |
| - 200bp                                 |       | $                                  | (3,610     | )                                  | $          | (3,847 | ) |

 

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Assumptions are inherently uncertain, and, consequently, the modelcannot precisely measure net interest income or precisely predict the impact ofchanges in interest rates on net interest income. Actual results will differfrom simulated results due to timing, magnitude and frequency of interest ratechanges, as well as changes in market conditions and management strategieswhich might moderate the negative consequences of interest rate deviations. Inthe model above, the simulation shows that the Company is asset sensitive overthe one-year horizon as increasing rates have a positive impact on net interestincome and declining rates have a negative impact.

 

**Inflation**

 

The impact of inflation on a financial institution differssignificantly from that exerted on manufacturing, or other commercial concerns,primarily because its assets and liabilities are largely monetary.  Ingeneral, inflation primarily affects the Company and it subsidiaries throughits effect on market rates of interest, which affects the Company’s ability toattract loan customers.  Inflation affects the growth of total assets byincreasing the level of loan demand, and potentially adversely affects capitaladequacy because loan growth in inflationary periods can increase at rateshigher than the rate capital grows through retention of earnings, which may begenerated in the future.  In addition to its effects on interest rates,inflation increases overall operating expenses.

 

Inan inflationary environment, people tend to reduce overall spending andbegin to save more. But as individuals andbusinesses curtail expenditures in an effort to trim costs; thiscauses the gross domestic product (GDP) to decline.Unemployment rates rise becausecompanies lay off workers to cut costs.  It is these combined factors thatcause the economy to fall into a recession.  The current economic slow down evidencednegative growth in GDP for the third quarter.

 

**Liquidity**

 

Liquidity management refers to the Company’s ability to provide fundson an ongoing basis to meet fluctuations in deposit levels as well as thecredit needs and requirements of its clients.  Both assets and liabilitiescontribute to the Company’s liquidity position.  Federal funds lines,short-term investments and securities, and loan repayments contribute toliquidity, along with deposit increases, while loan funding and depositwithdrawals decrease liquidity.  The Company assesses the likelihood ofprojected funding requirements by reviewing historical funding patterns,current and forecasted economic conditions and individual client funding needs.

 

The Company’s sources of liquidity consist of cash and due fromcorrespondent banks, overnight funds sold to correspondent banks, unpledgedmarketable investments and loans held for sale.  On September 30,2008, consolidated liquid assets totaled $59.3 million or 9.9% of total assetscompared to $86 million or 14.8% of total assets on December 31,2007.  In addition to liquid assets, the Company maintains short-termlines of credit in the amount of $15,000,000 with correspondent banks. There were no borrowings outstanding under these arrangements at September 30,2008.

 

The Bank also has informal agreements with various other banks to sellparticipations in loans, if necessary.  The Company serves primarily abusiness and professional customer base and, as such, its deposit base issusceptible to economic fluctuations.  Accordingly, management strives tomaintain a balanced position of liquid assets to volatile and cyclicaldeposits.

 

Liquidity is also affected by portfolio maturities and the effect ofinterest rate fluctuations on the marketability of both assets andliabilities.  The Company can sell any of its unpledged securities held inthe available-for-sale category to meet liquidity needs.

 

**Off-Balance Sheet Items**

 

The Company has certain ongoing commitments under operatingleases.  These commitments do not significantly impact operating results.As of September 30, 2008 and December 31, 2007, commitments to extendcredit and letters of credit were the only financial instruments withoff-balance sheet risk.  The Company has not entered into any contractsfor financial derivative instruments such as futures, swaps, options or similarinstruments.   Commitments to fundloans and stand-by letters of credit at September 30, 2008 and December 31,2007 were approximately $155,872,000 and $190,700,000, respectively.  Suchloans relate primarily to revolving lines of credit and other commercial loans,and to real estate construction loans. As a percentage of net loans, these off-balance sheet items represent31.3% and 43.1%, respectively.

 

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**Other Matters**

 

**Item 4. Controls and Procedures**

 

(a) Disclosure Controls and Procedures: An evaluation of theCompany’s disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and15d-15(e)) was carried out under the supervision and with the participation ofthe Company’s Chief Executive Officer, Chief Financial Officer and othermembers of the Company’s senior management as of the end of the Company’sfiscal quarter ended September 30, 2008. The Company’s Chief ExecutiveOfficer and Chief Financial Officer concluded that the Company’s disclosurecontrols and procedures as currently in effect are effective in ensuring thatthe information required to be disclosed by the Company in the reports it filesor submits under the Exchange Act is (i) accumulated and communicated tothe Company’s management (including the Chief Executive Officer and ChiefFinancial Officer) to allow timely decisions regarding required disclosure, and(ii) recorded, processed, summarized and reported within the time periodsspecified in the Commission’s rules and forms.

 

(b) Internal Control Over Financial Reporting: An evaluation ofany changes in the Company’s internal control over financial reporting (asdefined in Exchange Act Rules 13a-15(f) and 15d-15(f)), that occurredduring the Company’s fiscal quarter ended September 30, 2008, was carriedout under the supervision and with the participation of the Company’s ChiefExecutive Officer, Chief Financial Officer and other members of the Company’ssenior management. The Company’s Chief Executive Officer and Chief FinancialOfficer concluded that no change identified in connection with such evaluationhas materially affected, or is reasonably likely to materially affect, theCompany’s internal control over financial reporting.

 

**Item 5.  Subsequent Events**

 

None.

 

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**PART II— OTHER INFORMATION**

 

Item 1.  Legal Proceedings.

 

None.

 

Item 1A. Risk Factors

 

In addition to the other information set forth in this report, youshould carefully consider the factors discussed in Part I, “Item 1A. RiskFactors” in our Annual Report on Form 10-K for the year ended December 31,2007, which could materially affect our business, financial condition or futureresults. The risks described in our Annual Report on Form 10-K are not theonly risks facing our Company. Additional risks and uncertainties not currentlyknown to us or that we currently deem to be immaterial also may materiallyadversely affect our business, financial condition and/or operating results.

 

Item 2.  Changes in Securities and Useof Proceeds.

 

The Board of Directors approved a plan at their March 2007 meetingto repurchase up to $6,000,000 of the outstanding common stock of theCompany.  The plan states that stockrepurchases may be made from time to time on the open market or throughprivately negotiated transactions.   Thetiming of purchases and the exact number of shares to be purchased depends onmarket conditions.  The share repurchaseplan does not include specific price targets or timetables and may be suspendedat any time.

 

During the nine months ended September 30, 2008, 12,067 shares ofcommon stock were repurchased under the share repurchase program.

 

Shares repurchased during the third quarter ending September 30,2008

 
| ** **           | ** ** | ** **                             | ** ** | ** **                      | ** ** | ** **                                                   | ** ** | **(d) Maximum Number (or**                     | ** **   |
|----------------------|------------|----------------------------------------|------------|---------------------------------|------------|--------------------------------------------------------------|------------|---------------------------------------------------------------|--------------|
| ** **           | ** ** | ** **                             | ** ** | ** **                      | ** ** | **(c) Total Number of Shares**           | ** ** | **approximate dollar value)**                       | ** **   |
| ** **           | ** ** | **(a) Total number of** | ** ** | **(b) Average Price** | ** ** | **(or Units) Purchased as Part of** | ** ** | **of shares (or Units) that may**    | ** **   |
| ** **           | ** ** | **Shares (or Units)**        | ** ** | **Paid per Share**    | ** ** | **Publicly Announced Plans or**               | ** ** | **yet be purchased under the Plans** | ** **   |
| **Period**           | ** ** | **Purchased**                          | ** ** | **(or Unit)**              | ** ** | **Programs**                                                 | ** ** | **or Programs**                                          | ** **   |
| Month #1             |       |                                   |       |                            |       |                                                         |       |                                                          |         |
| 07-01-08 to 07-31-08 |       | 0                                      |       | 0.0000                          |       | 0                                                            |       | $                                                             | 5,671,796.00 |   |
| Month #2             |       |                                   |       |                            |       |                                                         |       |                                                          |         |
| 08-01-08 to 08-31-08 |       | 0                                      |       | 0.0000                          |       | 0                                                            |       | $                                                             | 5,671,796.00 |   |
| Month #3             |       |                                   |       |                            |       |                                                         |       |                                                          |         |
| 09-01-08 to 09-30-08 |       | 0                                      |       | 0.0000                          |       | 0                                                            |       | $                                                             | 5,671,796.00 |   |

 

In March 2008, Community Valley Bancorp announced an offer topurchase up to 1,000,000 shares of its common stock at a purchase price of$13.00.  Based on the final count by thedepositary for the tender offer, shareholders properly tendered 1,572,907shares of its common stock.  The Board ofDirectors of Community Valley Bancorp elected to not exercise itsoversubscription privileges in the tender offer to purchase more than 1,000,000properly tendered shares and purchased a total of 999,939 shares at $13.00 pershare representing a pro-rata share of the tendered shares of 63.38%, on May 5,2008.

 

Item 3.  Defaults Upon Senior Securities.

 

None.

 

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

 

None.

 

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Item 5.  Other Information.

 

None

 

Item 6.  Exhibits

 

(a)  Exhibits

 
| **Exhibit** | ** ** | ** **                                                                            |
|-------------|------------|---------------------------------------------------------------------------------------|
| **Number**  | ** ** | **Document Description**                                                         |
|        |       |                                                                                  |
| (31.1)      |       | Certification of CEO pursuant to Section 302 of the  Sarbanes-Oxley Act of 2002. |
|        |       |                                                                                  |
| (31.2)      |       | Certification of CFO pursuant to Section 302 of the  Sarbanes-Oxley Act of 2002. |
|        |       |                                                                                  |
| (32.1)      |       | Certification of CEO pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002. |
|        |       |                                                                                  |
| (32.2)      |       | Certification of CFO pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002. |

 

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**SIGNATURES**

 

Pursuant to the requirements of the Securities and Exchange Act of1934, the registrant has duly caused this report to be signed on its behalf bythe undersigned, thereunto duly authorized.

 

 
|                  |   | COMMUNITY VALLEY BANCORP           |
|-----------------------|--------|------------------------------------|
|                  |   |                               |   |   |
| November 6, 2008 |   |                               | *By:* | */s/ Keith C. Robbins* |
|                  |   |                               |   |   |
|                  |   |                               |   | Keith C. Robbins |
|                  |   |                               |   |   |
|                  |   |                               | President, Chief Executive Officer |
|                  |   |                               |   |   |
| November 6, 2008 |   |                               | *By:* | */s/ John F. Coger* |
|                  |   |                               |   |   |
|                  |   |                               |   | John F. Coger |
|                  |   |                               |   |   |
|                  |   | Executive Vice President, CFO, COO |

 

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