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U.S. Securities and Exchange Commission

Washington, D.C. 20549


Form 10-K

[X] Annual Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934

For the fiscal year ended December 31, 2002

[   ] Transition Report Under Section 13 or 15(d) of the Securities Exchange
Act of 1934

For the transition period from __________ to ___________

Commission file number 000-33227

Southern Community Financial Corporation

(Exact name of registrant as specified in its charter)


|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|North Carolina                                                 |  | 56-2270620                          
|                                                               |  |                                     
|(State or other jurisdiction of
incorporation or organization) |  | (I.R.S. Employer Identification No.)
|                                                              
|4701 Country Club Road
Winston-Salem, North Carolina           |  | 27104                               
|                                                               |  |                                     
|(Address of principal executive offices)                       |  | (Zip Code)                          

Registrants telephone number, including area code (336) 768-8500

Securities Registered Pursuant to Section 12(b) of the Exchange Act:
None

Securities Registered Pursuant to Section 12(g) of the Exchange Act:
Common Stock, No Par Value

7.25% Cumulative Convertible Trust Preferred Securities

7.25% Convertible Junior Subordinated Debentures

Guarantee with respect to 7.25% Cumulative Convertible Trust Preferred Securities

Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [ X ] No [   ]

Indicate by check mark if disclosure of delinquent filers in response to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of registrants knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ X ]

Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes [   ] No [ X ]

State the aggregate market value of the voting and non-voting common equity
held by non-affiliates computed by reference to the price at which the common
equity was last sold, or the average bid and asked price of such common equity,
as of the last business day of the registrants most recently completed second
fiscal quarter. $55.3 million.

As of March 11, 2003, (the most recent practicable date), the registrant had
outstanding 8,791,683 shares of Common Stock, no par value.

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Documents Incorporated By Reference

|   |  |                                                         |  |                    |  |  |  | 
|-- |  | ------------------------------------------------------- |  | ------------------ |  |  |  | 
|   |  | Document                                                |  | Where Incorporated
|   |  |                                                         |  |                    |  | 
|1. |  | Proxy Statement for the Annual Meeting of Shareholders  |  | Part III          
|   |  | to be held April 24, 2003 to be mailed  to shareholders |  |                    |  | 
|   |  | within 120 days of December 31, 2002.                   |  |                    |  | 

Form 10-K Table of Contents

|         |  |  |  |          |  |                                                                                       |  |      |    |  |  | 
|-------- |  |  |  | -------- |  | ------------------------------------------------------------------------------------- |  | ---- | -- |  |  | 
|Index    |  |  |  |          |  |                                                                                       |  | PAGE
|         |  |  |  |          |  |                                                                                       |  |     
|PART I  
|         |  |  |  | Item 1.  |  | Business                                                                              |  |      | 3  | 
|         |  |  |  | Item 2.  |  | Properties                                                                            |  |      | 13 | 
|         |  |  |  | Item 3.  |  | Legal                                                                                 |  |      | 14 | 
|         |  |  |  | Item 4.  |  | Submission of Matters to a Vote of Security Holders                                   |  |      | 14 | 
|PART II 
|         |  |  |  | Item 5.  |  | Market for Common Stock and Related Stockholder Matters                               |  |      | 14 | 
|         |  |  |  | Item 6.  |  | Selected Financial Data                                                               |  |      | 15 | 
|         |  |  |  | Item 7.  |  | Managements Discussion and Analysis of Financial Condition and Results of Operations |  |      | 16 | 
|         |  |  |  | Item 7A. |  | Quantitative and Qualitative Disclosures About Market Risk                            |  |      | 41 | 
|         |  |  |  | Item 8.  |  | Financial Statements                                                                  |  |      | 41 | 
|         |  |  |  | Item 9.  |  | Changes in and Disagreements with Accountants on Accounting and Financial Disclosure  |  |      | 70 | 
|PART III
|         |  |  |  | Item 10. |  | Directors and Executive Officers of the Registrant                                    |  |      | 70 | 
|         |  |  |  | Item 11. |  | Executive Compensation                                                                |  |      | 70 | 
|         |  |  |  | Item 12. |  | Security Ownership of Certain Beneficial Owners and Management                        |  |      | 70 | 
|         |  |  |  | Item 13. |  | Certain Relationships and Related Transactions                                        |  |      | 70 | 
|         |  |  |  | Item 14. |  | Controls and Procedures                                                               |  |      | 70 | 
|PART IV 
|         |  |  |  | Item 15. |  | Exhibits, Financial Statement Schedules, and Reports on Form 8-K                      |  |      | 71 | 

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PART I

Item 1. Business

Who We Are

Southern Community Financial Corporation (company) is the holding
company for Southern Community Bank and Trust (bank). The bank commenced
operations on November 18, 1996 and effective October 1, 2001 became a
wholly-owned subsidiary of the newly formed holding company. We are based in
Winston-Salem, North Carolina which is located in the north central region of
the state, an area also known as the Piedmont Triad. The Piedmont Triad area
includes the cities of Winston-Salem, Greensboro and High Point.

At December 31, 2002, we had total assets of $612.2 million, net loans of
$415.6 million, deposits of $449.2 million, and shareholders equity of $47.5
million. We had net income of $3.2 million and $2.1 million and diluted
earnings per share of $.35 and $.23 for the years ended December 31, 2002 and
2001, respectively. We had net income of $2.4 million and diluted earnings per
share of $.29 for the year ended December 31, 2000.

We have been, and intend to remain, a community-focused financial
institution offering a full range of financial services to individuals,
businesses and nonprofit organizations in the communities we serve. Our
banking services include checking and savings accounts; commercial,
installment, mortgage, and personal loans; trust services; safe deposit boxes;
and other associated services to satisfy the needs of our customers.

In our six years of existence we have accomplished the following:



| |  |  | Assembled a management team with knowledge of our local
markets and over 100 years of banking experience;                             
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Registered 18 consecutive quarters of profitability after
becoming profitable in our seventh quarter of operation;                    
|
| |  |  | Established eight banking offices including four in
Winston-Salem and one each in Clemmons, Kernersville, High Point,
and Yadkinville;
|
| |  |  | Focused on growing internally reaching total assets of $612.2
million as of December 31, 2002 without any acquisitions;               
|
| |  |  | Have two subsidiaries of the bank, each managed by
professionals with substantial previous experience in their
discipline:            



| |  |  | Southeastern Acceptance Corporation, a consumer
finance agency with offices in Winston-Salem, Greensboro, and
Mt. Airy, North Carolina; and                                                                                    
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | VCS Management, LLC, the managing general partner
of Venture Capital Solutions, L.P., a small business
investment company in which the bank is an investor, with
offices in Winston-Salem, North Carolina and Atlanta, Georgia.



| |  |  | Received regulatory approval during August, 2001 for trust
powers and began offering trust services in 2002 including
investment management, administration and advisory services
primarily for individuals, partnerships and corporations;                     
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Increased our equity to $47.5 million as a result of our
initial public offering which raised $12 million, two secondary
stock offerings in February 1998 and January 2001, raising $18.7
million and $4.9 million, respectively, and the retention of
earnings;
|
| |  |  | Listed our common stock on the Nasdaq National Market System
on January 2, 2002;                                                                                                                                                                                
|
| |  |  | Created a capital trust, Southern Community Capital Trust I,
that issued 1,725,000 cumulative convertible trust preferred
securities in February 2002 generating gross proceeds of $17.3
million; and                                                           
|
| |  |  | Maintained a strong credit culture. As of December 31, 2002,
our non-performing assets totaled $2.2 million or .36% of total
assets and our allowance for loan losses was $6.3 million or 1.50%
of total loans and 348% of non-performing loans.                

The website for the bank is www.smallenoughtocare.com. The company is
registered as a financial holding company with the Federal Reserve System. The
bank is a member of the Federal Reserve System and the Federal Deposit
Insurance Corporation insures its deposits up to applicable limits. The
address of our principal executive office is 4701 Country Club Road,
Winston-Salem, North Carolina 27104 and our telephone number is (336) 768-8500.
Both our common stock and our trust preferred securities are traded on the
Nasdaq National Market System under the symbols SCMF and SCMFP,
respectively.

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Our Market Area

We consider our primary market area to be the Piedmont Triad area of North
Carolina, including Winston-Salem, Clemmons, Kernersville (all in Forsyth
County), Yadkinville (Yadkin County) and High Point (Guilford County), North
Carolina, and to a lesser extent, adjoining counties. We opened the High Point
branch during 2002.

The Piedmont Triad is a 12 county region located in the north central
Piedmont of North Carolina and is named for the three largest cities in the
region, Winston-Salem, Greensboro and High Point. The region has one fifth of
the states population and one fifth of its labor force. The regions
population grew an estimated 12.3% between 1990 and 2000. Its estimated
population in 2001 was 1.179 million.

The Piedmont Triad is the largest Metropolitan Statistical Area located
entirely in North Carolina. The MSA is also one of the top 50 in the country
in both total population and number of households. Winston-Salem is the largest
city in Forsyth County and the fourth largest city in North Carolina. Forsyth
County had an estimated population of 310,187 in 2001, Yadkin County was
estimated at 36,859, and Guilford County had an estimated population of
425,097. The Piedmont Triad is the economic hub of northwest North Carolina. In
2001, the median family income in both Forsyth and Guilford Counties was over
$42,000. In Yadkin County, it was over $36,600. The Piedmont Triad has a very
balanced and diversified economy. Approximately 99% of the work force is
employed in nonagricultural wage and salary positions. The major employment
sectors in 2002 were services (29%), manufacturing (23%), trade (22%), finance,
communications and utilities (11%), government (11%) and construction (5%).
Unemployment has increased in the Piedmont Triad over the last two years and
averaged 6.3% in Guilford County, 5.5% in Yadkin County and 5.4% in Forsyth
County in 2002.

The bank serves our market area through eight full service banking
offices, including four offices located in Winston-Salem. Our television and
radio advertising has extended into this market area for several years,
providing the bank name recognition in the Piedmont Triad area. The banks
customers may access various banking services through nine ATMs owned by the
bank and ATMs owned by others, through debit cards, and through the banks
automated telephone and Internet electronic banking products. These products
allow the banks customers to apply for loans, access account information and
conduct various transactions from their telephones and computers.

Business Strategy

We established our bank with the objective of becoming a vital, long-term
player in our markets with a reputation for quality customer service provided
by a financially sound organization. Our business strategy is to operate as an
institution that is well capitalized, strong in asset quality, profitable,
independent, customer-oriented and connected to our community.

A commitment to customer service is at the foundation of our approach.
Our commitment is to put our customers first and we believe it differentiates
us from our competitors. Making good quality, profitable loans, which result
in a long-standing relationship with our borrowers, will continue to be a
cornerstone of our strategy. We intend to leverage the core relationships we
build by providing a variety of services to our customers. With that focus, we
target:



| |  |  | Small and medium sized businesses, and the owners and managers of these entities;
| | - |  | ---------------------------------------------------------------------------------
|
| |  |  | Professional and middle managers of locally based companies;                     
|
| |  |  | Residential real estate developers; and                                          
|
| |  |  | Individual consumers.                                                            

We intend to grow our franchise through new and existing relationships
developed by our associates, by taking advantage of the opportunity to acquire
new relationships resulting from recent significant consolidation among banks
in our markets, including Wachovia Corporations merger with First Union
Corporation, and by expanding to contiguous areas through de novo entry and
potentially through acquisitions which make strategic and economic sense.

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We also intend to continue to diversify our revenue in order to generate
non-interest income. These efforts have included offering investment brokerage
services, our mortgage loan department, our small business investment company
manager (which generates management fees in addition to interest income on its
investments) and the creation of our trust department. For the year ended
December 31, 2002 our non-interest income represented 18.4% of our total
revenue. We believe that the profitability of these added businesses and
services, not just the revenue generated, is critical to our success.

Key aspects of our strategy and mission include:



| |  |  | To provide community-oriented banking services by
delivering a broad range of financial services to our
customers through responsive service and communication;               
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | To form a partnership with our customers whereby
our decision making and product offerings are geared toward
their best long-term interests;                                  
|
| |  |  | To be recognized in our community as a long- term
player with employees, stockholders and board members
committed to that effort; and                                         
|
| |  |  | To be progressive in our adoption of new
technology so that we can provide our customers access to
products and services that meet their needs for convenience
and efficiency.

Our belief is that our way of doing business will build a profitable
corporation and shareholder value. We want to consistently reward our
shareholders for their investment and trust in us.

Subsidiaries

The bank operates two subsidiaries that provide financial services in
addition to those offered directly by the bank. The company formed another
subsidiary to issue trust preferred securities. Each subsidiary is described
below.

Southeastern Acceptance Corporation was established in December 1999 as a
consumer finance agency. Southeastern Acceptance offers a full line of
automobile and personal loans through its three offices in Winston-Salem,
Greensboro, and Mt. Airy as well as through relationships with automobile
dealers in its markets. Southeastern Acceptance has 12 employees and $13.0
million of loans outstanding as of December 31, 2002 and for year ended
December 31, 2002, its revenues were $2.0 million, which represented 9.2% of
total consolidated revenue.

VCS Management, LLC was formed in March 2000 as the managing general
partner of Venture Capital Solutions, L.P., a small business investment company
licensed by the Small Business Administration. Southern Community Bank and
Trust has committed $1.7 million for investment in the partnership, which has a
total of $9.2 million of committed capital from various private investors
including the bank. The partnership can also borrow funds on a non-recourse
basis from the Small Business Administration to increase its capital available
for investment. The partnership makes investments in the form of subordinated
debt and earns revenue through interest received on its investments and
potentially through gains realized from warrants that it receives in
conjunction with its debt investments. The bank shares in any earnings of the
partnership through its investment in the partnership. VCS Management earns
management fees for managing the investment activities of the partnership. For
year ended December 31, 2002 VCS Management earned $542,000 of fee income,
representing 2.5% of total consolidated revenue.

In February of 2002, Southern Community Capital Trust I (the Trust), a
newly formed subsidiary of the company, issued 1,725,000 Cumulative Convertible
Trust Preferred Securities (the Securities), generating total proceeds of
$17.3 million. The Securities pay distributions at an annual rate of 7.25% and
mature on March 31, 2032. The Securities began paying quarterly distributions
on March 31, 2002. The company has fully and unconditionally guaranteed the
obligations of the Trust. The Securities can be converted at any time into
common stock at a price of $8.26 (the Conversion Price) or approximately
1.211 shares of the companys common stock for each convertible preferred
security. The Securities issued by the Trust are redeemable in whole or in
part at any time after April 1, 2007. The Securities are also redeemable in
whole at any time prior to March 31, 2007 as long as the trading price of our
common stock has been at least 125% of the Conversion Price for a period of
twenty consecutive trading days ending within five days of the notice of
redemption. The proceeds from the Securities were utilized to purchase
convertible junior subordinated debentures from us under the same terms and
conditions as the Securities. We have the right to defer payment of interest
on the debentures at any time and from time to time

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for a period not exceeding five years, provided that no deferral period
extend beyond the stated maturities of the debentures. Such deferral of
interest payments by the company will result in a deferral of distribution
payments on the related Securities. Should we defer the payment of interest on
the debentures, the company will be precluded from the payment of cash
dividends to shareholders. Subject to certain limitations, the Securities
qualify as Tier 1 capital of the company for regulatory capital purposes. The
principal use of the net proceeds from the sale of the convertible debentures
was to infuse capital into our bank subsidiary, Southern Community Bank and
Trust, to fund its operations and continued expansion, and to maintain the
companys and the banks status as well capitalized under regulatory
guidelines.

Competition

The activities in which the bank, as our operating subsidiaries, engage
are highly competitive. Commercial banking in North Carolina is extremely
competitive due to state laws which permit state-wide branching. Consequently,
many commercial banks have branches located in several communities. One of the
largest regional commercial banks in North Carolina, with assets in excess of
over $50 billion dollars, and one savings institution have their headquarters
in Winston-Salem. As of June 2002, there were 100 branches in Forsyth County
operated by eleven commercial banks and one savings institution. Approximately
$9.0 billion in deposits are located in Forsyth County. Yadkin County had eight
banks with ten branches and approximately $375.9 million in deposits. Twenty
banks and two savings institutions were operating in Guilford County with 137
branches and approximately $6.0 billion in deposits. Deposits of the bank in
June 2002 were $369.3 million in Forsyth County, $66.9 million in Yadkin
County, and $1.0 million in Guilford County. Therefore, in its market area,
the bank has significant competition for deposits and loans from other
depository institutions.

Other financial institutions such as savings and loan associations, credit
unions, consumer finance companies, insurance companies, brokerage companies
and other financial institutions with varying degrees of regulatory
restrictions compete vigorously for a share of the financial services market.
Brokerage companies continue to become more competitive in the financial
services arena and pose an ever increasing challenge to banks. Legislative
changes also greatly affect the level of competition we face. During 1998
federal legislation allowed credit unions to expand their membership criteria
and compete more intensely for traditional bank business. Additionally, the
Gramm-Leach-Bliley Financial Services Modernization Act of 1999 expanded the
types of activities in which a bank holding company can engage. Currently, we
must compete against some institutions located in the Piedmont Triad area that
have capital resources and legal loan limits substantially in excess of those
available to us and the bank. We expect competition to continue to be
significant.

Employees

At December 31, 2002, the company employed 141 full-time equivalent
persons (including our executive officers). None of the employees are
represented by any unions or similar groups, and we have not experienced any
type of strike or labor dispute. We consider our relationship with our
employees to be extremely important to our long-term success. The Board and
management continually seek ways to enhance their benefits and well being.
Southern Community Financial Corporation has no employees of its own.

SUPERVISION AND REGULATION

Southern Community Financial Corporation is registered as a financial
holding company with the Federal Reserve. The bank is a North Carolina
chartered banking corporation and a member bank of the Federal Reserve System.
Banking is a complex, highly regulated industry. The primary goals of bank
regulations are to maintain a safe and sound banking system and to facilitate
the conduct of sound monetary policy. In furtherance of these goals, Congress
has created several largely autonomous regulatory agencies and enacted numerous
laws that govern banks, bank holding companies and the banking industry. The
descriptions of and references to the statutes and regulations below are brief
summaries and do not purport to be complete. The descriptions are qualified in
their entirety by reference to the specific statutes and regulations discussed.

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Southern Community Financial Corporation

Southern Community Financial Corporation is a bank holding company that
has elected to be treated as a financial holding company. As a bank holding
company under the Bank Holding Company Act of 1956, as amended, we are
registered with and subject to regulation by the Federal Reserve. We are
required to file annual and other reports with, and furnish information to, the
Federal Reserve. The Federal Reserve conducts periodic examinations of us and
may examine any of our subsidiaries, including the bank.

The Bank Holding Company Act provides that a bank holding company must
obtain the prior approval of the Federal Reserve for the acquisition of more
than five percent of the voting stock or substantially all the assets of any
bank or bank holding company. In addition, the Bank Holding Company Act
restricts the extension of credit to any bank holding company by its subsidiary
bank. The Bank Holding Company Act also provides that, with certain
exceptions, a bank holding company may not engage in any activities other than
those of banking or managing or controlling banks and other authorized
subsidiaries or own or control more than five percent of the voting shares of
any company that is not a bank. The Federal Reserve has deemed limited
activities to be closely related to banking and therefore permissible for a
bank holding company.

However, with the passage of the Gramm-Leach-Bliley Financial Services
Modernization Act of 1999, which became effective on March 11, 2000, the types
of activities in which a bank holding company may engage were significantly
expanded. Subject to various limitations, the Modernization Act generally
permits a bank holding company to elect to become a financial holding
company. A financial holding company may affiliate with securities firms and
insurance companies and engage in other activities that are financial in
nature. Among the activities that are deemed financial in nature are, in
addition to traditional lending activities, securities underwriting, dealing in
or making a market in securities, sponsoring mutual funds and investment
companies, insurance underwriting and agency activities, certain merchant
banking activities as well as activities that the Federal Reserve considers to
be closely related to banking.

A bank holding company may become a financial holding company under the
Modernization Act if each of its subsidiary banks is well capitalized under
the Federal Deposit Insurance Corporation Improvement Act prompt corrective
action provisions, is well managed and has at least a satisfactory rating under
the Community Reinvestment Act. In addition, the bank holding company must
file a declaration with the Federal Reserve that the bank holding company
wishes to become a financial holding company. A bank holding company that falls
out of compliance with these requirements may be required to cease engaging in
some of its activities. Southern Community Financial Corporation elected, and
was authorized by the Federal Reserve, to be a financial holding company.

Under the Modernization Act, the Federal Reserve serves as the primary
umbrella regulator of financial holding companies, with supervisory authority
over each parent company and limited authority over its subsidiaries. Expanded
financial activities of financial holding companies generally will be regulated
according to the type of such financial activity: banking activities by banking
regulators, securities activities by securities regulators and insurance
activities by insurance regulators. The Modernization Act also imposes
additional restrictions and heightened disclosure requirements regarding
private information collected by financial institutions.

Enforcement Authority. We will be required to obtain the approval of the
Federal Reserve prior to engaging in or, with certain exceptions, acquiring
control of more than 5% of the voting shares of a company engaged in, any new
activity. Prior to granting such approval, the Federal Reserve must weigh the
expected benefits of any such new activity to the public (such as greater
convenience, increased competition, or gains in efficiency) against the risk of
possible adverse effects of such activity (such as undue concentration of
resources, decreased or unfair competition, conflicts of interest, or unsound
banking practices). The Federal Reserve has cease-and-desist powers over bank
holding companies and their nonbanking subsidiaries where their actions would
constitute a serious threat to the safety, soundness or stability of a
subsidiary bank. The Federal Reserve also has authority to regulate debt
obligations (other than commercial paper) issued by bank holding companies.
This authority includes the power to impose interest ceilings and reserve
requirements on such debt obligations. A bank holding company and its
subsidiaries are also prohibited from engaging in certain tie-in arrangements
in connection with any extension of credit, lease or sale of property or
furnishing of services.

Interstate Acquisitions. Federal banking law generally provides that a
bank holding company may acquire or establish banks in any state of the United
States, subject to certain aging and deposit concentration limits. In
addition, North Carolina banking laws permit a bank holding company which owns
stock of a bank located outside

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North Carolina to acquire a bank or bank holding company located in North
Carolina. In any event, federal banking law will not permit a bank holding
company to own or control banks in North Carolina if the acquisition would
exceed 20% of the total deposits of all federally-insured deposits in North
Carolina.

Capital Adequacy. The Federal Reserve has promulgated capital adequacy
regulations for all bank holding companies with assets in excess of $150
million. The Federal Reserves capital adequacy regulations are based upon a
risk based capital determination, whereby a bank holding companys capital
adequacy is determined in light of the risk, both on- and off-balance sheet,
contained in the companys assets. Different categories of assets are assigned
risk weightings and are counted at a percentage of their book value.

The regulations divide capital between Tier 1 capital (core capital) and
Tier 2 capital. For a bank holding company, Tier 1 capital consists primarily
of common stock, related surplus, noncumulative perpetual preferred stock,
minority interests in consolidated subsidiaries and a limited amount of
qualifying cumulative preferred securities. Goodwill and certain other
intangibles are excluded from Tier 1 capital. Tier 2 capital consists of an
amount equal to the allowance for loan and lease losses up to a maximum of
1.25% of risk weighted assets, limited other types of preferred stock not
included in Tier 1 capital, hybrid capital instruments and term subordinated
debt. Investments in and loans to unconsolidated banking and finance
subsidiaries that constitute capital of those subsidiaries are excluded from
capital. The sum of Tier 1 and Tier 2 capital constitutes qualifying total
capital. The Tier 1 component must comprise at least 50% of qualifying total
capital.

Every bank holding company has to achieve and maintain a minimum Tier 1
capital ratio of at least 4.0% and a minimum total capital ratio of at least
8.0%. In addition, banks and bank holding companies are required to maintain a
minimum leverage ratio of Tier 1 capital to average total consolidated assets
(leverage capital ratio) of at least 3.0% for the most highly-rated,
financially sound banks and bank holding companies and a minimum leverage ratio
of at least 4.0% for all other banks. The Federal Deposit Insurance
Corporation and the Federal Reserve define Tier 1 capital for banks in the same
manner for both the leverage ratio and the risk-based capital ratio. However,
the Federal Reserve defines Tier 1 capital for bank holding companies in a
slightly different manner. As of December 31, 2002, our Tier 1 leverage
capital ratio and total capital were 9.84% and 13.78%, respectively.

The guidelines also provide that banking organizations experiencing
internal growth or making acquisitions will be expected to maintain strong
capital positions substantially above the minimum supervisory level, without
significant reliance on intangible assets. The guidelines also indicate that
the Federal Reserve will continue to consider a Tangible Tier 1 Leverage
Ratio in evaluating proposals for expansion or new activities. The Tangible
Tier 1 Leverage Ratio is the ratio of Tier 1 capital, less intangibles not
deducted from Tier 1 capital, to quarterly average total assets. As of
December 31, 2002, the Federal Reserve had not advised us of any specific
minimum Tangible Tier 1 Leverage Ratio applicable to us.

Source of Strength for Subsidiaries.Bank holding companies are required
to serve as a source of financial strength for their depository institution
subsidiaries, and, if their depository institution subsidiaries become
undercapitalized, bank holding companies may be required to guarantee the
subsidiaries compliance with capital restoration plans filed with their bank
regulators, subject to certain limits.

Dividends. As a bank holding company that does not, as an entity,
currently engage in separate business activities of a material nature, our
ability to pay cash dividends depends upon the cash dividends we receive from
our subsidiary bank. Our only source of income is dividends paid by the bank.
We must pay all of our operating expenses from funds we receive from the bank.
Therefore, shareholders may receive dividends from us only to the extent that
funds are available. In addition, the Federal Reserve generally prohibits bank
holding companies from paying dividends except out of operating earnings, and
the prospective rate of earnings retention appears consistent with the bank
holding companys capital needs, asset quality and overall financial condition.
We expect that, for the foreseeable future, any dividends paid by the bank to
us will likely be limited to amounts needed to pay any separate expenses of
Southern Community Financial Corporation and/or to make required payments on
our debt obligations, including the convertible debentures which fund the
interest payments on the convertible preferred securities, issued by our trust
subsidiary.

Change of Control.State and federal banking law restrict the amount of
voting stock of the company that a person may acquire without the prior
approval of banking regulators. The Bank Holding Company Act requires that a
bank holding company obtain the approval of the Federal Reserve before it may
merge with a bank holding company, acquire a subsidiary bank, acquire
substantially all of the assets of any bank, or before it may acquire ownership
or control of any voting shares of any bank or bank holding company if, after
such acquisition, it would

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own or control, directly or indirectly, more than 5% of the voting shares
of that bank or bank holding company. The overall effect of such laws is to
make it more difficult to acquire us by tender offer or similar means than it
might be to acquire control of another type of corporation. Consequently, our
shareholders may be less likely to benefit from rapid increases in stock prices
that often result from tender offers or similar efforts to acquire control of
other types of companies.

The Bank

The bank is subject to various requirements and restrictions under the
laws of the United States and the State of North Carolina. As a North Carolina
bank, our subsidiary bank is subject to regulation, supervision and regular
examination by the North Carolina Banking Commission. As a member of the
Federal Reserve, the bank is subject to regulation, supervision and regular
examination by the Federal Reserve. The North Carolina Banking Commission and
the Federal Reserve have the power to enforce compliance with applicable
banking statutes and regulations. These requirements and restrictions include
requirements to maintain reserves against deposits, restrictions on the nature
and amount of loans that may be made and the interest that may be charged
thereon and restrictions relating to investments and other activities of the
bank.

Transactions with Affiliates. The bank may not engage in specified
transactions (including, for example, loans) with its affiliates unless the
terms and conditions of those transactions are substantially the same or at
least as favorable to the bank as those prevailing at the time for comparable
transactions with or involving other nonaffiliated entities. In the absence of
comparable transactions, any transaction between the bank and its affiliates
must be on terms and under circumstances, including credit standards, that in
good faith would be offered or would apply to nonaffiliated companies. In
addition, transactions referred to as covered transactions between the bank
and its affiliates may not exceed 10% of the banks capital and surplus per
affiliate and an aggregate of 20% of its capital and surplus for covered
transactions with all affiliates. Certain transactions with affiliates, such
as loans, also must be secured by collateral of specific types and amounts.
The bank also is prohibited from purchasing low quality assets from an
affiliate. Every company under common control with the bank, including us and
Southern Community Capital Trust I, is deemed to be an affiliate of the bank.

Loans to Insiders. Federal law also constrains the types and amounts of
loans that the bank may make to its executive officers, directors and principal
shareholders. Among other things, these loans are limited in amount, must be
approved by the banks board of directors in advance, and must be on terms and
conditions as favorable to the bank as those available to an unrelated person.

Regulation of Lending Activities. Loans made by the bank are also subject
to numerous federal and state laws and regulations, including the
Truth-In-Lending Act, Federal Consumer Credit Protection Act, the Equal Credit
Opportunity Act, the Real Estate Settlement Procedures Act and adjustable rate
mortgage disclosure requirements. Remedies to the borrower or consumer and
penalties to the bank are provided if the bank fails to comply with these laws
and regulations. The scope and requirements of these laws and regulations have
expanded significantly in recent years.

Branch Banking. All banks located in North Carolina are authorized to
branch statewide. Accordingly, a bank located anywhere in North Carolina has
the ability, subject to regulatory approval, to establish branch facilities
near any of our facilities and within our market area. If other banks were to
establish branch facilities near our facilities, it is uncertain whether these
branch facilities would have a material adverse effect on our business.

Federal law provides for nationwide interstate banking and branching,
subject to certain aging and deposit concentration limits that may be imposed
under applicable state laws. Applicable North Carolina statutes permit
regulatory authorities to approve de novo branching in North Carolina by
institutions located in states that would permit North Carolina institutions to
branch on a de novo basis into those states. Federal regulations prohibit an
out-of-state bank from using interstate branching authority primarily for the
purpose of deposit production. These regulations include guidelines to insure
that interstate branches operated by an out-of-state bank in a host state are
reasonably helping to meet the credit needs of the host state communities
served by the out-of-state bank.

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Reserve Requirements.Pursuant to regulations of the Federal Reserve,
the bank must maintain average daily reserves against its transaction accounts.
No reserves are required to be maintained on the first $5.7 million of
transaction accounts, but reserves equal to 3.0% must be maintained on the
aggregate balances of those accounts between $5.7 million and $41.8 million,
and reserves equal to 10.0% plus $1.2 million must be maintained on aggregate
balances in excess of $41.8 million. These percentages are subject to
adjustment by the Federal Reserve. Because required reserves must be
maintained in the form of vault cash or in a non-interest-bearing account at a
Federal Reserve Bank, the effect of the reserve requirement is to reduce the
amount of the institutions interest-earning assets. As of December 31, 2002,
the bank met its reserve requirements.

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

Governmental Monetary Policies. The commercial banking business is
affected not only by general economic conditions but also by the monetary
policies of the Federal Reserve. Changes in the discount rate on member bank
borrowings, control of borrowings, open market transactions in United States
government securities, the imposition of and changes in reserve requirements
against member banks and deposits and assets of foreign bank branches, and the
imposition of and changes in reserve requirements against certain borrowings by
banks and their affiliates are some of the monetary policies available to the
Federal Reserve. Those monetary policies influence to a significant extent the
overall growth of all bank loans, investments and deposits and the interest
rates charged on loans or paid on time and savings deposits in order to
mitigate recessionary and inflationary pressures. These techniques are used in
varying combinations to influence overall growth and distribution of bank
loans, investments, and deposits, and their use may also affect interest rates
charged on loans or paid for deposits.

The monetary policies of the Federal Reserve Board have had a significant
effect on the operating results of commercial banks in the past and are
expected to continue to do so in the future. In view of changing conditions in
the national economy and money markets, as well as the effect of actions by
monetary and fiscal authorities, no prediction can be made as to possible
future changes in interest rates, deposit levels, loan demand or the business
and earnings of the bank.

Dividends. All dividends paid by the bank are paid to us, the sole
shareholder of the bank. The general dividend policy of the bank is to pay
dividends at levels consistent with maintaining liquidity and preserving our
applicable capital ratios and servicing obligations. The dividend policy of the
bank is subject to the discretion of the board of directors of the bank and
will depend upon such factors as future earnings, growth, financial condition,
cash needs, capital adequacy, compliance with applicable statutory and
regulatory requirements and general business conditions.

The ability of the bank to pay dividends is restricted under applicable
law and regulations. Under North Carolina banking law, dividends must be paid
out of retained earnings and no cash dividends may be paid if the banks
surplus is less than 50% of its paid-in capital. Also, under federal banking
law, no cash dividend may be paid if the bank is undercapitalized or insolvent
or if payment of the cash dividend would render the bank undercapitalized or
insolvent, and no cash dividend may be paid by the bank if it is in default of
any deposit insurance assessment due to the Federal Deposit Insurance
Corporation.

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The exact amount of future dividends on the stock of the bank will be a
function of the profitability of the bank in general and applicable tax rates
in effect from year to year. The banks ability to pay dividends in the future
will directly depend on the its future profitability, which cannot be
accurately estimated or assured. We expect that, for the foreseeable future,
profits resulting from the banks operations will be retained by the bank as
additional capital to support its operations and growth other than dividends
paid by the bank to us as needed to pay any separate expenses of Southern
Community Financial Corporation and/or to make required payments on our debt
obligations, including the convertible debentures which fund the interest
payments on the convertible preferred securities issued by our trust
subsidiary.

Capital Adequacy. The capital adequacy regulations which apply to state
banks, such as the bank, are similar to the Federal Reserve requirements
promulgated with respect to bank holding companies discussed above.

Changes in Management. Any depository institution that has been chartered
less than two years, is not in compliance with the minimum capital requirements
of its primary federal banking regulator, or is otherwise in a troubled
condition must notify its primary federal banking regulator of the proposed
addition of any person to the board of directors or the employment of any
person as a senior executive officer of the institution at least 30 days before
such addition or employment becomes effective. During this 30-day period, the
applicable federal banking regulatory agency may disapprove of the addition of
such director or employment of such officer. The bank is not subject to any
such requirements.

Enforcement Authority. The federal banking laws also contain civil and
criminal penalties available for use by the appropriate regulatory agency
against certain institution-affiliated parties primarily including
management, employees and agents of a financial institution, as well as
independent contractors such as attorneys and accountants and others who
participate in the conduct of the financial institutions affairs and who
caused or are likely to cause more than minimum financial loss to or a
significant adverse affect on the institution, who knowingly or recklessly
violate a law or regulation, breach a fiduciary duty or engage in unsafe or
unsound practices. These practices can include the failure of an institution
to timely file required reports or the submission of inaccurate reports. These
laws authorize the appropriate banking agency to issue cease and desist orders
that may, among other things, require affirmative action to correct any harm
resulting from a violation or practice, including restitution, reimbursement,
indemnification or guarantees against loss. A financial institution may also
be ordered to restrict its growth, dispose of certain assets or take other
action as determined by the primary federal banking agency to be appropriate.

Prompt Corrective Action. Banks are subject to restrictions on their
activities depending on their level of capital. Federal prompt corrective
action regulations divide banks into five different categories, depending on
their level of capital. Under these regulations, a bank is deemed to be well
capitalized if it has a total risk-based capital ratio of 10% or more, a core
capital ratio of six percent or more and a leverage ratio of five percent or
more, and if the bank is not subject to an order or capital directive to meet
and maintain a certain capital level. Under these regulations, a bank is
deemed to be adequately capitalized if it has a total risk-based capital
ratio of eight percent or more, a core capital ratio of four percent or more
and a leverage ratio of four percent or more (unless it receives the highest
composite rating at its most recent examination and is not experiencing or
anticipating significant growth, in which instance it must maintain a leverage
ratio of three percent or more). Under these regulations, a bank is deemed to
be undercapitalized if it has a total risk-based capital ratio of less than
eight percent, a core capital ratio of less than four percent or a leverage
ratio of less than three percent. Under these regulations, a bank is deemed to
be significantly undercapitalized if it has a risk-based capital ratio of
less than six percent, a core capital ratio of less than three percent and a
leverage ratio of less than three percent. Under such regulations, a bank is
deemed to be critically undercapitalized if it has a leverage ratio of less
than or equal to two percent. In addition, the applicable federal banking
agency has the ability to downgrade a banks classification (but not to
critically undercapitalized) based on other considerations even if the bank
meets the capital guidelines.

If a state member bank, such as the bank, is classified as
undercapitalized, the bank is required to submit a capital restoration plan to
the Federal Reserve. An undercapitalized bank is prohibited from increasing
its assets, engaging in a new line of business, acquiring any interest in any
company or insured depository institution, or opening or acquiring a new branch
office, except under certain circumstances, including the acceptance by the
Federal Reserve of a capital restoration plan for the bank.

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If a state member bank is classified as undercapitalized, the Federal
Reserve may take certain actions to correct the capital position of the bank.
If a state member bank is classified as significantly undercapitalized, the
Federal Reserve would be required to take one or more prompt corrective
actions. These actions would include, among other things, requiring sales of
new securities to bolster capital, changes in management, limits on interest
rates paid, prohibitions on transactions with affiliates, termination of
certain risky activities and restrictions on compensation paid to executive
officers. If a bank is classified as critically undercapitalized, the bank
must be placed into conservatorship or receivership within 90 days, unless the
Federal Deposit Insurance Corporation determines otherwise.

The capital classification of a bank affects the frequency of examinations
of the bank and impacts the ability of the bank to engage in certain activities
and affects the deposit insurance premiums paid by the bank. The Federal
Reserve is required to conduct a full-scope, on-site examination of every
member bank on a periodic basis.

Banks also may be restricted in their ability to accept brokered deposits,
depending on their capital classification. Well capitalized banks are
permitted to accept brokered deposits, but all banks that are not well
capitalized are not permitted to accept such deposits. The Federal Reserve
may, on a case-by-case basis, permit member banks that are adequately
capitalized to accept brokered deposits if the Federal Reserve determines that
acceptance of such deposits would not constitute an unsafe or unsound banking
practice with respect to the bank.

Deposit Insurance.The banks deposits are insured up to $100,000 per
insured account by the Bank Insurance Fund of the Federal Deposit Insurance
Corporation. The banks deposit insurance assessments may increase depending
upon the risk category and subcategory to which the bank is assigned. The
Federal Deposit Insurance Corporation assesses insurance premiums on a banks
deposits at a variable rate depending on the probability that the deposit
insurance fund will incur a loss with respect to the bank. The Federal Deposit
Insurance Corporation determines the deposit insurance assessment rates on the
basis of the banks capital classification and supervisory evaluations. Each
of these categories has three subcategories, resulting in nine assessment risk
classifications. The three subcategories with respect to capital are well
capitalized, adequately capitalized and less than adequately capitalized
(that would include undercapitalized, significantly undercapitalized and
critically undercapitalized banks). The three subcategories with respect to
supervisory concerns are healthy, supervisory concern and substantial
supervisory concern. A bank is deemed healthy if it is financially sound
with only a few minor weaknesses. A bank is deemed subject to supervisory
concern if it has weaknesses that, if not corrected, could result in
significant deterioration of the bank and increased risk to the Bank Insurance
Fund of the Federal Deposit Insurance Corporation. A bank is deemed subject to
substantial supervisory concern if it poses a substantial probability of loss
to the Bank Insurance Fund. Any increase in insurance assessments could have
an adverse effect on the banks earnings.

Our management cannot predict what other legislation might be enacted or
what other regulations might be adopted or the effects thereof.

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Item 2. Properties

We currently operate out of seven banking offices, three consumer finance
offices, and three operations/administrative offices. All banking offices have
ATMs. A summary of our offices is as follows:

|                                       |                                      |  |             |        |             |  |          |      |  |  |        |  | 
|-------------------------------------- | ------------------------------------ |  | ----------- | ------ | ----------- |  | -------- | ---- |  |  | ------ |  | 
|                                       |                                      |  | Approximate |        | Year        |  |          |      | 
|                                       |                                      |  | Square      |        | Established |  | Owned or
|                                       |                                      |  | Footage     |        | or Acquired |  | Leased  
|                                       |                                      |  |             |        |             |  |         
|Banking Offices:                       |                                      |  |             |        |             |  |          |      |  |  |        | 
|Winston Salem, North Carolina          |                                      |  |             |        |             |  |          |      |  |  |        | 
|                                       | 4701 Country Club Rd.  Headquarters |  |             | 5,500  |             |  |          | 1996 |  |  | Leased
|                                       | 3151 Peters Creek Parkway            |  |             | 2,400  |             |  |          | 1998 |  |  | Leased
|                                       | 225 Hanes Mill Rd                    |  |             | 2,800  |             |  |          | 2001 |  |  | Owned 
|                                       | 536 South Stratford Rd               |  |             | 1,600  |             |  |          | 1998 |  |  | Leased
|Yadkinville, North Carolina            |                                      |  |             |        |             |  |          |      |  |  |        | 
|                                       | 532 East Main Street                 |  |             | 7,100  |             |  |          | 1998 |  |  | Owned 
|Clemmons, North Carolina               |                                      |  |             |        |             |  |          |      |  |  |        | 
|                                       | 2755 Lewisville Clemmons Rd          |  |             | 2,000  |             |  |          | 2000 |  |  | Leased
|Kernersville, North Carolina           |                                      |  |             |        |             |  |          |      |  |  |        | 
|                                       | 1207 South Main Street               |  |             | 7,700  |             |  |          | 2002 |  |  | Owned 
|High Point, North Carolina             |                                      |  |             |        |             |  |          |      |  |  |        | 
|                                       | 205 Neal Place Suite 105             |  |             | 1,500  |             |  |          | 2002 |  |  | Leased
|Consumer Finance Offices:              |                                      |  |             |        |             |  |          |      |  |  |        | 
|Winston Salem, North Carolina          |                                      |  |             |        |             |  |          |      |  |  |        | 
|                                       | 1209 Silas Creek Parkway             |  |             | 2,400  |             |  |          | 2000 |  |  | Leased
|Mt. Airy, North Carolina               |                                      |  |             |        |             |  |          |      |  |  |        | 
|                                       | 1201 West Lebanon Street             |  |             | 1,300  |             |  |          | 2000 |  |  | Leased
|Greensboro, North Carolina             |                                      |  |             |        |             |  |          |      |  |  |        | 
|                                       | 4612-C West Market Street            |  |             | 1,500  |             |  |          | 2002 |  |  | Leased
|Operations and Administrative Offices: |                                      |  |             |        |             |  |          |      |  |  |        | 
|Winston Salem, North Carolina          |                                      |  |             |        |             |  |          |      |  |  |        | 
|                                       | 4625 Country Club Rd                 |  |             | 3,200  |             |  |          | 1998 |  |  | Owned 
|                                       | 1600 Hanes Mall Blvd                 |  |             | 10,500 |             |  |          | 2000 |  |  | Owned 
|                                       | 112 Cambridge Plaza                  |  |             | 7,500  |             |  |          | 2002 |  |  | Leased

In addition to the above locations, we have two off site ATMs located at
3484 Robinhood Road, Winston-Salem and at 4575 Yadkinville Road, Pfafftown,
North Carolina. We are also well along with the construction of a new
corporate office. The new headquarters will be a 27,000 square foot facility
and is expected to be completed in the first half of 2003 at an expected total
capitalized cost of approximately $4.2 million (including $400,000 of land
cost) of which $3.6 million had been expended as of December 31, 2002. This
facility will be located at 4605 Country Club Road, Winston-Salem, North
Carolina.

All of our properties, including land, buildings and improvements,
furniture, equipment and vehicles, had a net book value at December 31, 2002 of
$15.9 million.

Additional banking offices may be opened at later dates if deemed
appropriate by the Board of Directors and if regulatory approval can then be
obtained. The Board of Directors may acquire property in which a director,
directly or indirectly, has an interest. In such event, the acquisition of
such facilities shall be approved by a majority of the Board of Directors,
excluding any individual who may have such an interest in the property.

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Item 3. Legal

We are party to legal proceedings arising in the normal conduct of
business. Our management believes that this litigation is not material to our
financial position or results of our operations or the operations of the bank.

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

There were no matters submitted to a vote of our security holders during
the fourth quarter of our fiscal year ended December 31, 2002.

PART II

Item 5. Market for Common Stock and Related Stockholder Matters

Price Range of Common Stock and Dividends

Our common stock was quoted on the OTC Bulletin Board under the symbol
SCMT until January 2, 2002 when it was accepted for listing on the Nasdaq
National Market System under the symbol SCMF. The following table sets forth
the high and low sales prices per share of our common stock and our convertible
preferred securities (SCMFP), based on published financial sources, for the
last two years. The convertible preferred securities did not begin trading
until the first quarter of 2002. All information has been adjusted for stock
splits and stock dividends effected during the periods presented.

|     |  |                  |  |      |      |             |  |       |      |     |  |   |       |  |  |   |       |  |  | 
|---- |  | ---------------- |  | ---- | ---- | ----------- |  | ----- | ---- | --- |  | - | ----- |  |  | - | ----- |  |  | 
|     |  |                  |  |      |      | Price      
|     |  |                  |  |      |      |            
|     |  |                  |  |      |      | SCMT / SCMF |  | SCMFP
|     |  |                  |  |      |      |             |  |      
|Year |  | Quarterly Period |  | High |      | Low         |  | High  |      | Low
|     |  |                  |  |      |      |             |  |       |      |    
|2001 |  | First Quarter    |  | $    | 8.16 |             |  | $     | 6.69 |     |  | $ |       |  |  | $ |       | 
|     |  | Second Quarter   |  |      | 7.49 |             |  |       | 6.58 |     |  |   |       |  |  |   |       | 
|     |  | Third Quarter    |  |      | 7.26 |             |  |       | 6.17 |     |  |   |       |  |  |   |       | 
|     |  | Fourth Quarter   |  |      | 8.24 |             |  |       | 4.76 |     |  |   |       |  |  |   |       | 
|2002 |  | First Quarter    |  |      | 9.76 |             |  |       | 5.82 |     |  |   | 11.01 |  |  |   | 9.90  | 
|     |  | Second Quarter   |  |      | 7.62 |             |  |       | 6.24 |     |  |   | 11.20 |  |  |   | 10.22 | 
|     |  | Third Quarter    |  |      | 7.10 |             |  |       | 5.48 |     |  |   | 10.65 |  |  |   | 9.76  | 
|     |  | Fourth Quarter   |  |      | 7.36 |             |  |       | 6.10 |     |  |   | 11.15 |  |  |   | 9.90  | 

At December 31, 2002, there were approximately 5,200 holders of record of
our common stock.

Holders of our common stock will be entitled to receive any cash dividends
the Board of Directors may declare. The declaration and payment of future
dividends to holders of our common stock will be at the discretion of our Board
of Directors and will depend upon our earnings and financial condition,
regulatory conditions and considerations and such other factors as our Board of
Directors may deem relevant. We expect that, for the foreseeable future,
profits resulting from the banks operations will be retained by the bank as
additional capital to support its operations and growth other than dividends
paid by the bank to us as needed to pay any separate expenses of Southern
Community Financial Corporation and/or to make required payments on our debt
obligations, including the convertible debentures which will fund the interest
payments on the convertible preferred securities, issued by our trust
subsidiary.

As a holding company, Southern Community Financial Corporation is
ultimately dependent upon its bank subsidiary to provide funding for its
operating expenses, debt service and dividends. Various banking laws
applicable to our bank subsidiary limit the payment of dividends, management
fees and other distributions by the bank to us and may therefore limit our
ability to make dividend payments. Under North Carolina banking law, dividends
must be paid out of retained earnings and no cash dividends may be paid if the
banks surplus is less than 50% of its paid-in capital. Under federal banking
law, no cash dividend may be paid if the bank is undercapitalized
Page 14

or insolvent or if payment of the cash dividend would render the bank
undercapitalized or insolvent, or if it is in default of any deposit insurance
assessment due to the Federal Deposit Insurance Corporation.

Item 6. Selected Financial Data

SELECTED CONSOLIDATED FINANCIAL INFORMATION AND OTHER DATA

Effective October 1, 2001, the Southern Community Bank and Trust became a
wholly owned subsidiary of Southern Community Financial Corporation. Southern
Community Financial Corporation has no material assets other than those of the
bank. Therefore, the financial statements of the bank prior to October 1, 2001
are the historical consolidated financial statements of Southern Community
Financial Corporation. The information set forth below does not purport to be
complete and should be read in conjunction with the companys consolidated
financial statements appearing elsewhere in this annual report.

|                    |                            |                                                     |         |         |                                  |           |      |         |                                               |           |      |         |        |           |   |         |       |           |   |         |       |           | 
|------------------- | -------------------------- | --------------------------------------------------- | ------- | ------- | -------------------------------- | --------- | ---- | ------- | --------------------------------------------- | --------- | ---- | ------- | ------ | --------- | - | ------- | ----- | --------- | - | ------- | ----- | --------- | 
|                    |                            |                                                     |         |         | For the Years Ended December 31,
|                    |                            |                                                     |         |         |                                 
|                    |                            |                                                     |         |         | 2002                             |           | 2001 |         | 2000                                          |           | 1999 |         | 1998  
|                    |                            |                                                     |         |         |                                  |           |      |         |                                               |           |      |         |       
|                    |                            |                                                     |         |         |                                  |           |      |         | (Dollars in thousands, except per share data) |           |      |         |       
|Operating Data:     |                            |                                                     |         |         |                                  |           |      |         |                                               |           |      |         |        |           |   |         |       |           |   |        
|                    | Interest income            |                                                     | $       | 33,281  |                                  |           | $    | 31,366  |                                               |           | $    | 26,831  |        |           | $ | 16,562  |       |           | $ | 10,103  |      
|                    | Interest expense           |                                                     |         | 15,803  |                                  |           |      | 18,034  |                                               |           |      | 14,944  |        |           |   | 8,481   |       |           |   | 4,907   |      
|                    |                            |                                                     |         |         |                                  |           |      |         |                                               |           |      |         |        |           |   |         |       |           |   |         |      
|                    |                            | Net interest income                                 |         |         | 17,478                           |           |      |         | 13,332                                        |           |      |         | 11,887 |           |   |         | 8,081 |           |   |         | 5,196 |          
|                    | Provision for loan losses  |                                                     |         | 1,655   |                                  |           |      | 2,320   |                                               |           |      | 1,480   |        |           |   | 1,135   |       |           |   | 1,200   |      
|                    |                            |                                                     |         |         |                                  |           |      |         |                                               |           |      |         |        |           |   |         |       |           |   |         |      
|                    |                            | Net interest income after
provision for loan losses |         |         | 15,823                           |           |      |         | 11,012                                        |           |      |         | 10,407 |           |   |         | 6,946 |           |   |         | 3,996 |          
|                    | Non-interest income        |                                                     |         | 3,927   |                                  |           |      | 3,402   |                                               |           |      | 2,198   |        |           |   | 775     |       |           |   | 339     |      
|                    | Non-interest expense       |                                                     |         | 14,781  |                                  |           |      | 11,162  |                                               |           |      | 8,723   |        |           |   | 5,892   |       |           |   | 3,810   |      
|                    |                            |                                                     |         |         |                                  |           |      |         |                                               |           |      |         |        |           |   |         |       |           |   |         |      
|                    |                            | Income before
income taxes                          |         |         | 4,969                            |           |      |         | 3,252                                         |           |      |         | 3,882  |           |   |         | 1,829 |           |   |         | 525   |          
|                    | Provision for income taxes |                                                     |         | 1,755   |                                  |           |      | 1,147   |                                               |           |      | 1,466   |        |           |   | 293     |       |           |   |        |      
|                    |                            |                                                     |         |         |                                  |           |      |         |                                               |           |      |         |        |           |   |         |       |           |   |         |      
|                    |                            | Net income                                          |         | $       | 3,214                            |           |      | $       | 2,105                                         |           |      | $       | 2,416  |           |   | $       | 1,536 |           |   | $       | 525   |          
|                    |                            |                                                     |         |         |                                  |           |      |         |                                               |           |      |         |        |           |   |         |       |           |   |         |      
|Per Share Data:(7)  |                            |                                                     |         |         |                                  |           |      |         |                                               |           |      |         |        |           |   |         |       |           |   |        
|                    | Net income                 |                                                     |         |         |                                  |           |      |         |                                               |           |      |         |        |           |   |         |       |           |   |         |      
|                    |                            |                                                     | Basic   |         | $                                | .37       |      |         | $                                             | .24       |      |         | $      | .30       |   |         | $     | .19       |   |         | $     | .07       | 
|                    |                            |                                                     | Diluted |         |                                  | .35       |      |         |                                               | .23       |      |         |        | .29       |   |         |       | .18       |   |         |       | .07       | 
|                    | Cash dividends             |                                                     |         | .00     |                                  |           |      | .00     |                                               |           |      | .00     |        |           |   | .00     |       |           |   | .00     |      
|                    | Book value                 |                                                     |         | 5.41    |                                  |           |      | 4.84    |                                               |           |      | 4.41    |        |           |   | 3.93    |       |           |   | 3.75    |      
|                    | Weighted average shares    |                                                     |         |         |                                  |           |      |         |                                               |           |      |         |        |           |   |         |       |           |   |         |      
|                    |                            |                                                     | Basic   |         |                                  | 8,788,295 |      |         |                                               | 8,707,678 |      |         |        | 8,097,552 |   |         |       | 8,037,904 |   |         |       | 7,196,881 | 
|                    |                            |                                                     | Diluted |         |                                  | 9,085,853 |      |         |                                               | 9,043,611 |      |         |        | 8,450,245 |   |         |       | 8,540,293 |   |         |       | 7,371,170 | 
|Balance Sheet Data: |                            |                                                     |         |         |                                  |           |      |         |                                               |           |      |         |        |           |   |         |       |           |   |        
|                    | Total assets               |                                                     | $       | 612,239 |                                  |           | $    | 481,220 |                                               |           | $    | 384,027 |        |           | $ | 254,172 |       |           | $ | 174,474 |      
|                    | Loans                      |                                                     |         | 421,938 |                                  |           |      | 360,288 |                                               |           |      | 282,161 |        |           |   | 200,312 |       |           |   | 127,095 |      
|                    | Allowance for loan losses  |                                                     |         | 6,342   |                                  |           |      | 5,400   |                                               |           |      | 4,283   |        |           |   | 3,013   |       |           |   | 1,905   |      
|                    | Deposits                   |                                                     |         | 449,216 |                                  |           |      | 392,851 |                                               |           |      | 338,753 |        |           |   | 218,953 |       |           |   | 143,850 |      
|                    | Short-term borrowings      |                                                     |         | 40,706  |                                  |           |      | 19,980  |                                               |           |      | 6,000   |        |           |   | 2,500   |       |           |   |        |      
|                    | Long-term debt             |                                                     |         | 72,250  |                                  |           |      | 25,000  |                                               |           |      |        |        |           |   |        |       |           |   |        |      
|                    | Stockholders equity       |                                                     |         | 47,539  |                                  |           |      | 42,451  |                                               |           |      | 36,950  |        |           |   | 31,766  |       |           |   | 29,926  |      
|Capital Ratios:(5)  |                            |                                                     |         |         |                                  |           |      |         |                                               |           |      |         |        |           |   |         |       |           |   |        
|                    | Total risk-based capital   |                                                     |         | 12.23   | %                                |           |      | 11.53   | %                                             |           |      | 13.03   | %      |           |   | 16.40   | %     |           |   | 23.22   | %    
|                    | Tier 1 risk-based capital  |                                                     |         | 10.98   | %                                |           |      | 10.28   | %                                             |           |      | 11.78   | %      |           |   | 15.15   | %     |           |   | 21.97   | %    
|                    | Leverage ratio             |                                                     |         | 8.95    | %                                |           |      | 9.21    | %                                             |           |      | 11.16   | %      |           |   | 14.26   | %     |           |   | 21.57   | %    
|                    | Equity to assets ratio     |                                                     |         | 7.76    | %                                |           |      | 8.82    | %                                             |           |      | 9.62    | %      |           |   | 12.50   | %     |           |   | 17.15   | %    

Page 15



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##### 



|                             |  |                                                         |  |                                               |       |      |  |      |       |      |  |      |       |   |  |    |       |   |        |   |       |  
|---------------------------- |  | ------------------------------------------------------- |  | --------------------------------------------- | ----- | ---- |  | ---- | ----- | ---- |  | ---- | ----- | - |  | -- | ----- | - | ------ | - | ----- | -
|                             |  |                                                         |  | For the Years Ended December 31,             
|                             |  |                                                         |  |                                              
|                             |  |                                                         |  | 2002                                          |       | 2001 |  | 2000 |       | 1999 |  | 1998
|                             |  |                                                         |  |                                               |       |      |  |      |       |      |  |     
|                             |  |                                                         |  | (Dollars in thousands, except per share data)
|Selected Performance Ratios: |  |                                                         |  |                                               |       |      |  |      |       |      |  |      |       |   |  |    |       |   |        |  
|                             |  | Return on average assets                                |  |                                               | .58   | %    |  |      | .50   | %    |  |      | .77   | % |  |    | .71   | % |        |   | .41   | %
|                             |  | Return on average equity                                |  |                                               | 7.24  | %    |  |      | 5.13  | %    |  |      | 7.27  | % |  |    | 5.00  | % |        |   | 2.03  | %
|                             |  | Net interest spread(2)                                  |  |                                               | 3.02  | %    |  |      | 2.82  | %    |  |      | 3.22  | % |  |    | 3.02  | % |        |   | 2.93  | %
|                             |  | Net interest margin(1)                                  |  |                                               | 3.34  | %    |  |      | 3.36  | %    |  |      | 4.01  | % |  |    | 3.90  | % |        |   | 4.20  | %
|                             |  | Non-interest income as a
percentage of total
revenue(6) |  |                                               | 18.35 | %    |  |      | 20.33 | %    |  |      | 15.61 | % |  |    | 8.75  | % |        |   | 6.12  | %
|                             |  | Non-interest income as a
percentage of average
assets   |  |                                               | .71   | %    |  |      | .80   | %    |  |      | .70   | % |  |    | .36   | % |        |   | .26   | %
|                             |  | Non-interest expense to
average assets                  |  |                                               | 2.66  | %    |  |      | 2.63  | %    |  |      | 2.79  | % |  |    | 2.71  | % |        |   | 2.97  | %
|                             |  | Efficiency ratio(3)                                     |  |                                               | 69.05 | %    |  |      | 66.70 | %    |  |      | 61.93 | % |  |    | 66.53 | % |        |   | 68.83 | %
|                             |  | Dividend payout ratio                                   |  |                                               | .00   | %    |  |      | .00   | %    |  |      | .00   | % |  |    | .00   | % |        |   | .00   | %
|Asset Quality Ratios:        |  |                                                         |  |                                               |       |      |  |      |       |      |  |      |       |   |  |    |       |   |        |  
|                             |  | Nonperforming loans to
period-end loans                 |  |                                               | .43   | %    |  |      | .25   | %    |  |      | .10   | % |  |    | .00   | % |        |   | .01   | %
|                             |  | Allowance for loan losses
to period-end loans           |  |                                               | 1.50  | %    |  |      | 1.50  | %    |  |      | 1.52  | % |  |    | 1.50  | % |        |   | 1.50  | %
|                             |  | Allowance for loan losses
to nonperforming loans        |  |                                               | 348   | %    |  |      | 604   | %    |  |      | 1,552 | % |  | NM |       |   | 12,700 | %
|                             |  | Nonperforming assets
to total assets(4)                 |  |                                               | .36   | %    |  |      | .26   | %    |  |      | .08   | % |  |    | .00   | % |        |   | .01   | %
|                             |  | Net loan charge-offs
to average loans outstanding       |  |                                               | .18   | %    |  |      | .38   | %    |  |      | .09   | % |  |    | .02   | % |        |   | .02   | %
|Other Data:                  |  |                                                         |  |                                               |       |      |  |      |       |      |  |      |       |   |  |    |       |   |        |  
|                             |  | Number of banking offices                               |  |                                               | 8     |      |  |      | 7     |      |  |      | 7     |   |  |    | 5     |   |        |   | 4     |  
|                             |  | Number of full-time
equivalent employees                |  |                                               | 141   |      |  |      | 121   |      |  |      | 104   |   |  |    | 70    |   |        |   | 46    |  



|(1) |  | Net interest margin is net interest income divided by average
interest-earning assets.                                                                                                                                                                                                    
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|(2) |  | Net interest spread is the difference between the average yield on
interest-earning assets and the average cost of interest-bearing
liabilities.                                                                                                                                          
|   
|(3) |  | Efficiency ratio is non-interest expense divided by the sum of net
interest income and non-interest income.                                                                                                                                                                               
|   
|(4) |  | Nonperforming assets consist of non-accrual loans, restructured loans,
and real estate owned, where applicable.                                                                                                                                                                           
|   
|(5) |  | Capital ratios are for the bank.                                                                                                                                                                                                                                                          
|   
|(6) |  | Total revenue consists of net interest income and non-interest income.                                                                                                                                                                                                                    
|   
|(7) |  | All per share data has been restated to reflect the dilutive effect of a
stock split effected in the form of a 10% stock dividend in 1998, a
two-for-one stock split in 1999, a stock split effected in the form of a
10% stock dividend in 2000, and 5% stock dividends in 2001 and 2002.

Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operations

The following presents managements discussion and analysis of our
financial condition and results of operations and should be read in conjunction
with the financial statements and related notes included elsewhere in this
annual report. This discussion contains forward-looking statements that
involve risks and uncertainties. Our actual results could differ significantly
from those anticipated in these forward-looking statements as a result of
various factors. All share data have been adjusted to give retroactive effect
to stock splits and stock dividends. The following discussion is intended to
assist in understanding the financial condition and results of operations of
the company.

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##### 



CRITICAL ACCOUNTING POLICY

The companys most significant critical accounting policy is the
determination of its allowance for loan losses. A critical accounting policy is
one that is both very important to the portrayal of the companys financial
condition and results of operations, and requires managements most difficult,
subjective or complex judgments. What makes these judgments difficult,
subjective and/or complex is the need to make estimates about the effects of
matters that are inherently uncertain. For further discussion, see
Nonperforming Assets and Analysis of Allowance for Loan Losses under ASSET
QUALITY.

OVERVIEW

Our founders recognized an opportunity to fulfill the financial service
needs of individuals and organizations left underserved by consolidation within
the financial services industry. To fill a part of this void, we began in 1995
the process by which Southern Community Financial Corporation was created,
finally beginning operations on November 18, 1996 in the banking office that
still serves as our headquarters. From inception, we have strived to serve the
financial needs of small to medium-sized businesses, individuals, residential
homebuilders and others in and around Winston-Salem and the Piedmont Triad area
of North Carolina. We offer a broad array of banking and other financial
products  products similar to those offered by our larger competitors, but
with an emphasis on superior customer service. We believe that our emphasis on
quality customer service is the single most important factor among many that
have fueled our growth to $612 million in total assets in just over six years
of operations.

We began operations in November 1996 with $11 million in capital, a single
branch facility and thirteen employees. Through December 31, 2002, Southern
Community Financial Corporation has grown to a total of eight full-service
banking offices with $449 million in customer deposit accounts. In support of
this growth, we have generated $24 million of additional capital through sales
of common stock in 1998, 2000 and 2001. We also have two subsidiaries offering
financial services that augment our traditional banking products and services.
These subsidiaries are Southeastern Acceptance Corporation (Consumer Finance),
and VCS Management, LLC (Manager of a Small Business Investment Company). More
recently we have created a Trust Department that began operating in the first
quarter of 2002. In October of 2001, we formed Southern Community Financial
Corporation, a financial holding company, to become the parent company of
Southern Community Bank and Trust. During the first half of 2003 we expect to
complete the construction of a new headquarters facility on property adjacent
to our current headquarters in Winston-Salem.

Real estate secured loans, including construction loans and loans secured
by existing commercial and residential properties, comprise the majority of our
loan portfolio, with the balance of our loans consisting of commercial and
industrial loans and loans to individuals. Through associations with various
mortgage lending companies, we originate residential mortgages, at both fixed
and variable rates, earning fees for loans originated and additional income for
loans sold to others. It has been our strategy to recruit skilled banking
professionals who are well trained and highly knowledgeable about our market
area, enabling us to develop and maintain a loan portfolio of sound credit
quality.

We recognize that our growth may expose us to increased operational and
market risk, primarily with respect to managing overhead, funding costs and
credit quality. We have developed critical functions such as Training, Audit,
and Credit Administration to assist in managing and monitoring these and other
risks. We are committed to creating a solid and diversified financial services
organization with a focus on customer service. It is our firm belief that this
foundation will continue building our loyal customer base while attracting new
clients and providing opportunities for future growth. As bank consolidations
continue to take place in our marketplace, Southern Community Financial
Corporation is positioned to continue to benefit from their effects.

Financial Condition at December 31, 2002 and 2001

During the year ended December 31, 2002, our total assets increased by
$131 million, or 27.2%, to $612.2 million. Of this increase in total assets,
$125.3 represented growth in interest-earning assets. Continued strong loan
demand drove an increase of $60.7, or 17.1%, in net loans receivable, while
investment securities available for sale and held to maturity increased by
$66.3 million and $10.2 million, respectively. The only category of
interest-earning assets that decreased was federal funds sold, which ended 2002
at $11.1 million as compared with $22.9 million at the end of 2001. Federal
funds sold provided the lowest yield among all interest-earning assets,
declining from 1.70% at the beginning to 1.16% at year-end. Premises and
equipment increased by $3.9 million, principally as a result of the investment
of $422,000 in a new branch facility located in Kernersville, NC, and the
investment of $3.1 million in a new corporate headquarters that is scheduled
for occupancy in the first half of 2003. Other assets increased by $4.1
million, including additional investments in bank-owned life insurance of
$557,000. Our total investment in
Page 17

bank-owned life insurance at December 31, 2002 was $2.8 million. This
investment is included in other assets in our balance sheet and yielded a tax
exempt return of 5.20% during the year 2002.

Loan growth in 2002 was concentrated in commercial and real estate
lending. Our loan growth of $60.7 million in 2002 was spread among our
residential and commercial mortgage loans, which increased by $13.2 million and
$48.5 million, respectively. Construction loans and loans to individuals
increased by $2.9 million and $2.9 million, respectively, while commercial and
industrial loans decreased by $5.9 million. During 2002 we continued our active
program of originations of residential mortgage loans for sale in the secondary
market. At the end of the year loans held for sale totaled $4.9 million.

Our total liquid assets, defined as cash and due from banks, federal funds
sold and investment securities, increased by $62.4 million during the year, to
$169.4 million at December 31, 2002 versus $107 million at the beginning of the
year. Liquid assets represented 27.7% of total assets at December 31, 2002 as
compared to 22.2% at the beginning of the year. We have been able to generate
significant funds for investment both through deposit growth and through
borrowings. These available funds have exceeded our lending needs, so we have
invested at a positive interest rate spread in securities. In order to
optimize our ability to manage interest rate risk, substantially all of our
increased investment in liquid assets in 2002 has been in investments available
for sale.

Customer deposits continue to be our primary funding source. While our
deposits are primarily generated through our growing branch network, we do
utilize some out-of-market and brokered deposits to support our funding base.
Brokered and out-of-market deposits totaled $115.7 million and $61.0 million at
year-end 2002 and 2001, respectively. At December 31, 2002, deposits totaled
$449.2 million, an increase of $56.4 million or 14.4% from year-end 2001. As
explained above, we have also utilized borrowings to fund growth in 2002.
Total borrowings, including $17.3 million in convertible preferred securities
issued during 2002, aggregated $113 million at December 31, 2002. Borrowings
also included $75.5 million from the Federal Home Loan Bank of Atlanta (FHLB)
and securities sold under agreements to repurchase of $20.2 million. We will
use FHLB advances and other funding sources as necessary to support balance
sheet management and growth. However, we believe that as our branch network
grows and matures, the volume of core deposits will become a relatively larger
portion of our funding mix, which should contribute to a reduction in our
overall funding cost.

Our capital position remains strong, with all of our regulatory capital
ratios at levels that make us well capitalized under federal bank regulatory
capital guidelines. At December 31, 2002, our stockholders equity totaled
$47.5 million, an increase of $5 million from the December 31, 2001 balance.
This increase includes net income of $3.2 million earned during the year and
other comprehensive income of $1.8 million.

Financial Condition at December 31, 2001 and 2000

During the year ended December 31, 2001, our total assets increased by
$97.2 million, or 25.3%, to $481.2 million. Consistent with prior years,
strong loan demand provided the primary impetus for this overall asset growth.
At December 31, 2001, loans totaled $360.3 million, an increase of $78.1
million or 27.7% during the year. This growth was spread among our mortgage,
construction and commercial loans. Our commercial mortgage loans and
non-mortgage commercial loans increased by $29.9 million and $17.5 million,
respectively, and collectively provided 60.8% of our overall loan growth. We
also generated growth of $21.1 million and $8.8 million, respectively, in
residential mortgage loans and construction loans.

Our total liquid assets, defined as cash and due from banks, federal funds
sold and investment securities, increased by $15.5 million during the year, to
$107 million at December 31, 2001 versus $91.5 million at the beginning of the
year. Liquid assets represented 22.2% of total assets at December 31, 2001 as
compared to 23.8% at the beginning of the year. Because of the significant
rate cuts enacted by the Federal Reserve Board, we chose to invest more heavily
in investments held to maturity, which we increased by $14.3 million to $34.5
million at December 31, 2001. The higher yields on these investments helped to
somewhat mitigate the effect of the overall declining trend in interest rates
during the year.

Customer deposits continue to be our primary funding source in 2001. At
December 31, 2001, deposits totaled $392.9 million, an increase of $54.1
million or 16.0% from year-end 2000. During the fourth quarter of 2000 we
opened two branches, which contributed to our deposit growth. However, loan
growth in 2001 outpaced our growth in deposits. We therefore utilized
borrowings from the Federal Home Loan Bank of Atlanta (FHLB) to fill this
funding gap.

At December 31, 2001, our stockholders equity totaled $42.5 million, an
increase of $5.5 million from the
December 31, 2000 balance. This increase includes net income of $2.1
million earned during 2001, proceeds of $2.8 million received in February 2001
from the sale of 344,000 shares of our common stock and $493,000 of other
comprehensive income.

Page 18



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##### 



NET INTEREST INCOME

Like most financial institutions, the primary component of our earnings is
net interest income. Net interest income is the difference between interest
income, principally from loans and investments, and interest expense,
principally on customer deposits and borrowings. Changes in net interest
income result from changes in volume and changes in interest rates earned and
paid. By volume, we mean the average dollar level of interest-earning assets
and interest-bearing liabilities. Spread refers to the difference between the
average yield on interest-earning assets and the average cost of
interest-bearing liabilities, and margin refers to net interest income divided
by average interest-earning assets. Spread and margin are influenced by the
levels and relative mix of interest-earning assets and interest-bearing
liabilities, as well as by levels of noninterest-bearing liabilities. During
the years ended December 31, 2002, 2001 and 2000, our average interest-earning
assets were $523.3 million, $397.0 million, and $296.6 million, respectively.
During these same years, our net interest margins were 3.34%, 3.36% and 4.01%,
respectively.

Average Balances and Average Rates Earned and Paid.The following table
sets forth, for the years 2000 through 2002, information with regard to average
balances of assets and liabilities, as well as the total dollar amounts of
interest income from interest-earning assets and interest expense on
interest-bearing liabilities, resultant yields or costs, net interest income,
net interest spread, net interest margin and ratio of average interest-earning
assets to average interest-bearing liabilities. Average loans include
nonaccruing loans, the effect of which is to lower the average yield.

|                                                                                 |                                          |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |            |        |      |   |      |        |         |   |          |         |        |  |       |        |      |   |      |      |  
|-------------------------------------------------------------------------------- | ---------------------------------------- |  | ----------------------------------- | ------------------------------------------ | - | -------------------------------- | ------- | ------- |  | ---------- | ------ | ------- | - | ------- | ------ | ---------- | - | ------- | ------- | -------- |  | ---------- | ------ | ---- | - | ---- | ------ | ------- | - | -------- | ------- | ------ |  | ----- | ------ | ---- | - | ---- | ---- | -
|                                                                                 |                                          |  |                                     |                                            |   | For the Years Ended December 31,
|                                                                                 |                                          |  |                                     |                                            |   |                                 
|                                                                                 |                                          |  |                                     |                                            |   | 2002                             |         | 2001    |  | 2000      
|                                                                                 |                                          |  |                                     |                                            |   |                                  |         |         |  |           
|                                                                                 |                                          |  |                                     |                                            |   |                                  |         |         |  | Interest   |        |         |   |         |        |            |   |         |         | Interest |  |            |        |      |   |      |        |         |   | Interest |         |        |  |      
|                                                                                 |                                          |  |                                     |                                            |   | Average                          |         | earned/ |  | Average    |        | Average |   | earned/ |        | Average    |   | Average |         | earned/  |  | Average   
|                                                                                 |                                          |  |                                     |                                            |   | balance                          |         | paid    |  | yield/cost |        | balance |   | paid    |        | yield/cost |   | balance |         | paid     |  | yield/cost
|                                                                                 |                                          |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |           
|                                                                                 |                                          |  |                                     |                                            |   | (Dollars in thousands)          
|Interest-earning assets:                                                         |                                          |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |            |        |      |   |      |        |         |   |          |         |        |  |       |        |     
|                                                                                 | Loans                                    |  | $                                   | 395,745                                    |   |                                  | $       | 25,689  |  |            |        | 6.49    | % |         | $      | 318,696    |   |         | $       | 26,292   |  |            |        | 8.25 | % |      | $      | 240,888 |   |          | $       | 23,351 |  |       |        | 9.69 | %
|                                                                                 | Investment securities
available for sale |  |                                     | 82,296                                     |   |                                  |         | 4,901   |  |            |        | 5.96    | % |         |        | 36,439     |   |         |         | 2,320    |  |            |        | 6.37 | % |      |        | 26,821  |   |          |         | 1,733  |  |       |        | 6.46 | %
|                                                                                 | Investment securities
held to maturity   |  |                                     | 38,831                                     |   |                                  |         | 2,576   |  |            |        | 6.63    | % |         |        | 32,261     |   |         |         | 2,201    |  |            |        | 6.82 | % |      |        | 14,897  |   |          |         | 849    |  |       |        | 5.70 | %
|                                                                                 | Other                                    |  |                                     | 6,414                                      |   |                                  |         | 115     |  |            |        | 1.79    | % |         |        | 9,620      |   |         |         | 553      |  |            |        | 5.75 | % |      |        | 14,012  |   |          |         | 898    |  |       |        | 6.41 | %
|                                                                                 |                                          |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |            |        |      |   |      |        |         |   |          |         |        |  |       |        |      |  
|                                                                                 |                                          |  |                                     | Total interest-earning assets              |   |                                  | 523,286 |         |  |            | 33,281 |         |   |         | 6.36   | %          |   |         | 397,016 |          |  |            | 31,366 |      |   |      | 7.90   | %       |   |          | 296,618 |        |  |       | 26,831 |      |   |      | 9.05 | %
|                                                                                 |                                          |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |            |        |      |   |      |        |         |   |          |         |        |  |       |        |      |  
|Other assets                                                                     |                                          |  | 32,113                              |                                            |   |                                  |         |         |  |            |        |         |   |         | 27,158 |            |   |         |         |          |  |            |        |      |   |      | 16,119 |         |   |          |         |        |  |       |        |     
|                                                                                 |                                          |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |            |        |      |   |      |        |         |   |          |         |        |  |       |        |      |  
|                                                                                 |                                          |  |                                     | Total assets                               |   | $                                | 555,399 |         |  |            |        |         |   |         |        |            |   | $       | 424,174 |          |  |            |        |      |   |      |        |         |   | $        | 312,737 |        |  |       |        |      |   |      |      |  
|                                                                                 |                                          |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |            |        |      |   |      |        |         |   |          |         |        |  |       |        |      |  
|Interest-bearing liabilities:                                                    |                                          |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |            |        |      |   |      |        |         |   |          |         |        |  |       |        |     
|                                                                                 | Deposits:                                |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |            |        |      |   |      |        |         |   |          |         |        |  |       |        |      |  
|                                                                                 |                                          |  | NOW and money market                |                                            | $ | 102,427                          |         |         |  | 1,342      |        |         |   | 1.31    | %      |            | $ | 80,695  |         |          |  | 2,135      |        |      |   | 2.65 | %      |         | $ | 52,144   |         |        |  | 2,079 |        |      |   | 3.99 | %   
|                                                                                 |                                          |  | Time deposits greater
than $100,000 |                                            |   | 114,971                          |         |         |  | 4,549      |        |         |   | 3.96    | %      |            |   | 96,542  |         |          |  | 5,795      |        |      |   | 6.00 | %      |         |   | 68,553   |         |        |  | 4,282 |        |      |   | 6.25 | %   
|                                                                                 |                                          |  | Other time deposits                 |                                            |   | 172,456                          |         |         |  | 6,251      |        |         |   | 3.62    | %      |            |   | 155,979 |         |          |  | 9,063      |        |      |   | 5.81 | %      |         |   | 130,752  |         |        |  | 8,229 |        |      |   | 6.29 | %   
|                                                                                 | Borrowings                               |  |                                     | 83,933                                     |   |                                  |         | 3,661   |  |            |        | 4.36    | % |         |        | 21,810     |   |         |         | 1,041    |  |            |        | 4.77 | % |      |        | 5,086   |   |          |         | 354    |  |       |        | 6.96 | %
|                                                                                 |                                          |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |            |        |      |   |      |        |         |   |          |         |        |  |       |        |      |  
|                                                                                 |                                          |  |                                     | Total interest-bearing
liabilities         |   |                                  | 473,787 |         |  |            | 15,803 |         |   |         | 3.34   | %          |   |         | 355,026 |          |  |            | 18,034 |      |   |      | 5.08   | %       |   |          | 256,535 |        |  |       | 14,944 |      |   |      | 5.83 | %
|                                                                                 |                                          |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |            |        |      |   |      |        |         |   |          |         |        |  |       |        |      |  
|                                                                                 | Demand deposits                          |  |                                     | 34,766                                     |   |                                  |         |         |  |            |        |         |   |         |        | 25,749     |   |         |         |          |  |            |        |      |   |      |        | 20,932  |   |          |         |        |  |       |        |      |  
|                                                                                 | Other liabilities                        |  |                                     | 2,425                                      |   |                                  |         |         |  |            |        |         |   |         |        | 2,351      |   |         |         |          |  |            |        |      |   |      |        | 2,042   |   |          |         |        |  |       |        |      |  
|                                                                                 | Stockholders equity                     |  |                                     | 44,421                                     |   |                                  |         |         |  |            |        |         |   |         |        | 41,048     |   |         |         |          |  |            |        |      |   |      |        | 33,228  |   |          |         |        |  |       |        |      |  
|                                                                                 |                                          |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |            |        |      |   |      |        |         |   |          |         |        |  |       |        |      |  
|                                                                                 |                                          |  |                                     | Total liabilities and
stockholders equity |   | $                                | 555,399 |         |  |            |        |         |   |         |        |            |   | $       | 424,174 |          |  |            |        |      |   |      |        |         |   | $        | 312,737 |        |  |       |        |      |   |      |      |  
|                                                                                 |                                          |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |            |        |      |   |      |        |         |   |          |         |        |  |       |        |      |  
|Net interest income and
net interest spread                                      |                                          |  |                                     |                                            |   | $                                | 17,478  |         |  |            | 3.02   | %       |   |         |        |            |   | $       | 13,332  |          |  |            | 2.82   | %    |   |      |        |         |   | $        | 11,887  |        |  |       | 3.22   | %   
|                                                                                 |                                          |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |            |        |      |   |      |        |         |   |          |         |        |  |       |        |      |  
|Net interest margin                                                              |                                          |  |                                     |                                            |   |                                  |         |         |  |            | 3.34   | %       |   |         |        |            |   |         |         |          |  |            | 3.36   | %    |   |      |        |         |   |          |         |        |  |       | 4.01   | %   
|                                                                                 |                                          |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |            |        |      |   |      |        |         |   |          |         |        |  |       |        |      |  
|Ratio of average interest-earning
assets to average interest-bearing
liabilities |                                          |  | 110.45                              | %                                          |   |                                  |         |         |  |            |        |         |   |         | 111.83 | %          |   |         |         |          |  |            |        |      |   |      | 115.62 | %       |   |          |         |        |  |       |        |     
|                                                                                 |                                          |  |                                     |                                            |   |                                  |         |         |  |            |        |         |   |         |        |            |   |         |         |          |  |            |        |      |   |      |        |         |   |          |        

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RATE/VOLUME ANALYSIS

The following table analyzes the dollar amount of changes in interest
income and interest expense for major components of interest-earning assets and
interest-bearing liabilities. The table distinguishes between (i) changes
attributable to volume (changes in volume multiplied by the prior periods
rate), (ii) changes attributable to rate (changes in rate multiplied by the
prior periods volume), and (iii) net change (the sum of the previous columns).
The change attributable to both rate and volume (changes in rate multiplied by
changes in volume) has been allocated equally to both the changes attributable
to volume and the changes attributable to rate.

|                  |                                          |                                     |                                         |                        |                            |       |                            |        |        |        |        |       |        |        |       |       |       |       |   |        |      |        |   |       |       |       | 
|----------------- | ---------------------------------------- | ----------------------------------- | --------------------------------------- | ---------------------- | -------------------------- | ----- | -------------------------- | ------ | ------ | ------ | ------ | ----- | ------ | ------ | ----- | ----- | ----- | ----- | - | ------ | ---- | ------ | - | ----- | ----- | ----- | 
|                  |                                          |                                     |                                         |                        | Year Ended                 |       | Year Ended                
|                  |                                          |                                     |                                         |                        | December 31, 2002 vs. 2001 |       | December 31, 2001 vs. 2000
|                  |                                          |                                     |                                         |                        |                            |       |                           
|                  |                                          |                                     |                                         |                        | Increase (Decrease) Due to |       | Increase (Decrease) Due to
|                  |                                          |                                     |                                         |                        |                            |       |                           
|                  |                                          |                                     |                                         |                        | Volume                     |       | Rate                       |        | Total  |        | Volume |       | Rate   |        | Total
|                  |                                          |                                     |                                         |                        |                            |       |                            |        |        |        |        |       |        |        |      
|                  |                                          |                                     |                                         | (Dollars in thousands)
|Interest income:  |                                          |                                     |                                         |                        |                            |       |                            |        |        |        |        |       |        |        |       |       |       |       |   |        |      |        |   |      
|                  | Loans                                    |                                     | $                                       | 5,679                  |                            |       | $                          | (6,282 | )      |        | $      | (603  | )      |        | $     | 6,981 |       |       | $ | (4,040 | )    |        | $ | 2,941 |      
|                  | Investment securities available
for sale |                                     |                                         | 2,825                  |                            |       |                            | (244   | )      |        |        | 2,581 |        |        |       | 617   |       |       |   | (30    | )    |        |   | 587   |      
|                  | Investment securities held
to maturity   |                                     |                                         | 442                    |                            |       |                            | (67    | )      |        |        | 375   |        |        |       | 1,087 |       |       |   | 265    |      |        |   | 1,352 |      
|                  | Other                                    |                                     |                                         | (121                   | )                          |       |                            | (317   | )      |        |        | (438  | )      |        |       | (267  | )     |       |   | (78    | )    |        |   | (345  | )    
|                  |                                          |                                     |                                         |                        |                            |       |                            |        |        |        |        |       |        |        |       |       |       |       |   |        |      |        |   |       |      
|                  |                                          |                                     | Total interest income                   |                        |                            | 8,825 |                            |        |        | (6,910 | )      |       |        | 1,915  |       |       |       | 8,418 |   |        |      | (3,883 | ) |       |       | 4,535 | 
|                  |                                          |                                     |                                         |                        |                            |       |                            |        |        |        |        |       |        |        |       |       |       |       |   |        |      |        |   |       |      
|Interest expense: |                                          |                                     |                                         |                        |                            |       |                            |        |        |        |        |       |        |        |       |       |       |       |   |        |      |        |   |      
|                  | Deposits:                                |                                     |                                         |                        |                            |       |                            |        |        |        |        |       |        |        |       |       |       |       |   |        |      |        |   |       |      
|                  |                                          | NOW and money market                |                                         |                        | 430                        |       |                            |        | (1,223 | )      |        |       | (793   | )      |       |       | 947   |       |   |        | (891 | )      |   |       | 56    |      
|                  |                                          | Time deposits greater
than $100,000 |                                         |                        | 918                        |       |                            |        | (2,164 | )      |        |       | (1,246 | )      |       |       | 1,714 |       |   |        | (201 | )      |   |       | 1,513 |      
|                  |                                          | Other time deposits                 |                                         |                        | 777                        |       |                            |        | (3,589 | )      |        |       | (2,812 | )      |       |       | 1,527 |       |   |        | (693 | )      |   |       | 834   |      
|                  | Borrowings                               |                                     |                                         | 2,837                  |                            |       |                            | (217   | )      |        |        | 2,620 |        |        |       | 981   |       |       |   | (294   | )    |        |   | 687   |      
|                  |                                          |                                     |                                         |                        |                            |       |                            |        |        |        |        |       |        |        |       |       |       |       |   |        |      |        |   |       |      
|                  |                                          |                                     | Total interest expense                  |                        |                            | 4,962 |                            |        |        | (7,193 | )      |       |        | (2,231 | )     |       |       | 5,169 |   |        |      | (2,079 | ) |       |       | 3,090 | 
|                  |                                          |                                     |                                         |                        |                            |       |                            |        |        |        |        |       |        |        |       |       |       |       |   |        |      |        |   |       |      
|                  |                                          |                                     | Net interest income increase
(decrease) |                        | $                          | 3,863 |                            |        | $      | 283    |        |       | $      | 4,146  |       |       | $     | 3,249 |   |        | $    | (1,804 | ) |       | $     | 1,445 | 
|                  |                                          |                                     |                                         |                        |                            |       |                            |        |        |        |        |       |        |        |       |       |       |       |   |        |      |        |   |       |      

RESULTS OF OPERATIONS
Years Ended December 31, 2002 and 2001

Net Income.Our net income for 2002 was $3.2 million, an increase of $1.1
million from net income of $2.1 million earned in 2001. Net income per share
was $.37 basic and $.35 diluted for the year ended December 31, 2002, up from
$.24 basic and $.23 diluted for 2001. We have continued to experience strong
growth, with total assets averaging $555.4 million during the current year as
compared to $424.2 million in 2001, an increase of 30.9%. Our percentage
growth in net interest income after provision for loan losses of 43.7% exceeded
our rate of asset growth, outpacing our 32.4% increase in non-interest
expenses, which approximated our rate of asset growth. In absolute terms, our
net interest income after provision for loan losses increased by $4.8 million
and our non-interest income grew by $525,000, well exceeding the increase of
$3.6 million in non-interest expenses. Largely as a result of a lower level of
net loan charge-offs in 2002, our provision for loan losses for the year of
$1.7 million was $665,000 lower than the provision of $2.3 million made for
2001. Interest rates, which declined dramatically during 2001, were more
stable at lower levels during 2002. This interest rate environment, combined
with our growth in interest-earning assets, yielded an increase of $4.2 million
in net interest income. Our expense growth included a full year of costs for
the two new branches opened in 2001 and a partial years costs for the new
branch opened in 2002, as well as personnel costs associated with expansion of
our business. These expenses represent investments in building our franchise,
but their initial effect is to dampen earnings.

Net Interest Income.During 2002, our net interest income increased by
$4.2 million or 31.1% to $17.5 million. Our growth in interest income was the
result of growth in our overall level of average earning assets. The rates
earned on a significant

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portion of our loans adjust immediately when index rates such as our prime rate
change. Conversely, most of our interest-bearing liabilities, including
certificates of deposit and borrowings, have rates fixed until maturity. As a
result, interest rate reductions will generally result in an immediate drop in
our interest income on loans, with a more delayed impact on interest expense
because reductions in interest costs will only occur upon renewals of
certificates of deposit or borrowings. This affected our net interest income
dramatically in 2001. In 2002, however, interest rates were relatively stable
at lower levels throughout the year. As a result, the sustained lower rates
affected our funding costs more than it did our asset yields, resulting in a 20
basis point increase in our interest rate spread with a decline of only 2 basis
points in our net interest margin. Average total interest-earning assets
increased $126.3 million, or 31.8%, during 2002 as compared to 2001, while our
average yield dropped by 154 basis points from 7.90% to 6.36%. Our average
total interest-bearing liabilities increased by $118.8 million, or 33.5%,
consistent with our increase in interest-earning assets. With rates sustained
at lower levels, our average cost of interest-bearing liabilities decreased by
174 basis points from 5.08% to 3.34%, resulting in the 20 basis point increase
in our interest rate spread described above. For the year ended December 31,
2002, our net interest spread was 3.02% and our net interest margin was 3.34%.
For the year ended December 31, 2001, our net interest spread was 2.82% and our
net interest margin was 3.36%.

Provision for Loan Losses.We recorded a $1.7 million provision for loan
losses for the year ended
December 31, 2002, representing a decrease of $665,000 from the $2.3
million provision we made for the year ended December 31, 2001. Provisions for
loan losses are charged to income to bring our allowance for loan losses to a
level deemed appropriate by management based on the factors discussed under
Analysis of Allowance for Loan Losses. We have continued to increase the
level of our allowance for loan losses principally as a result of the continued
growth in our loan portfolio. Total loans receivable increased by $61.7
million during 2002, and by $78.1 million during 2001. Our reduced provision
for loan losses for the current year was made largely in response the lower
total of loan growth and to a decrease in net loan charge-offs, which totaled
$713,000 during 2002, down from $1.2 million 2001. On an annualized basis, our
percentage of net loan charge-offs to average loans outstanding was .18% for
the year ended December 31, 2002 as compared with .38% for the year ended
December 31, 2001. Southeastern Acceptance Corporation, as a stand-alone
entity, experienced loan charge-offs of $406,000 in 2002, an increase of
$116,000 from $290,000 in 2001 and represented 3.7% and 4.1% of average loans,
respectively. Nonperforming loans totaled $1.8 million or .43% of total loans
at December 31, 2002, as compared with $894,000 or .25% of total loans at
December 31, 2001. The allowance for loan losses at December 31, 2002 of $6.3
million represents 1.50% of total loans and 348% of nonperforming loans. The
allowance for loan losses at December 31, 2001 of $5.4 million equaled 1.50% of
total loans outstanding at that date.

Non-Interest Income.For the year ended December 31, 2002, non-interest
income increased $525,000 or 15.4% to $3.9 million from $3.4 million for the
prior year. This favorable increase resulted from factors that include an
increase of $242,000, or 27.5% to $1.1 million, in service charges and fees on
deposit accounts as a result of deposit growth and an increase of $301,000, or
29.8% to $1.3 million, in income from the origination of residential mortgage
loans sold into the secondary market. We also generated an increase of
$140,000 in investment brokerage fees and gains of $70,000 from sales of
investment securities available for sale. In aggregate, the increased level of
core non-interest income more than offset the effects of nonrecurring income of
$383,000 realized in 2001 from an interest rate floor contract.

Non-Interest Expense. We strive to maintain non-interest expenses at
levels that we believe are appropriate given the nature of our operations and
the investments in personnel and facilities that have been necessary to support
our growth. From 1998 forward, we have consistently maintained our ratio of
non-interest expenses to average total assets below 3%. For 2002 our ratio was
2.66%, up slightly from a ratio of 2.63% in 2001. Because of our continued
strong growth we have continued to see increases in every major component of
our non-interest expenses. For the year ended December 31, 2002, our
non-interest expense increased $3.6 million, or 32.4%. Salary and employee
benefit expense increased $2.2 million, or 40.8%, and reflects the addition of
personnel associated with branch expansion, additions of personnel to expand
our lines of business, and normal increases in salaries and employee benefits.
Occupancy and equipment expense increased $441,000, or 21.3%, reflecting the
expenses associated with our continued branch expansion and investments in
technology to support our banking operations. Other non-interest expenses
increased $930,000, or 25.9%, reflecting the increased volume of business
activity, principally increases in lending and growth in deposit accounts.

Provision for Income Taxes.Our provision for income taxes, as a
percentage of income before income taxes, was 35.3% for each of the years ended
December 31, 2002 and 2001.

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RESULTS OF OPERATIONS
Years Ended December 31, 2001 and 2000

Net Income.Our net income for 2001 was $2.1 million, a decrease of
$311,000 below net income of $2.4 million earned in 2000. Net income per share
was $.25 basic and $.24 diluted for the year ended December 31, 2001, down from
$.31 basic and $.30 diluted for 2000. We continued to experience strong growth
in 2001, with total assets averaging $424.2 million during the current year as
compared to $312.7 million in 2000, an increase of 35.6%. Our percentage
growth in non-interest income of 54.8% exceeded our rate of asset growth, while
our 28.0% increase in non-interest expenses was below our rate of asset growth.
While such trends generally contribute to improved profitability, their
positive effects were more than offset by an increase in our 2001 provision for
loan losses coupled with the effects of declining interest rates that caused
our interest rate spread and net yield on average interest earning assets to
decline by 40 basis points and 65 basis points, respectively. As a result, our
2001 increases of $1.4 million in net interest income and $1.2 million in
non-interest income were not enough to overcome the combined impact of
increases of $840,000 in our provision for loan losses and $2.4 million in our
non-interest expenses. Our expense growth included the costs of two new
branches and additional branch personnel, as well as personnel costs associated
with expansion of our business. While these expenses represent investments in
building our franchise, they are initially a drag on earnings. Also
contributing to the decline in earnings per share was the increase in shares
outstanding as result of our sale of 344,118 shares of common stock early in
2001.

Net Interest Income.During 2001, our net interest income increased by
$1.4 million or 12.2% to $13.3 million. Our total interest income benefited
from strong growth in the level of average earning assets, which offset lower
asset yields caused by the dramatic trend of declining interest rates
throughout the period. The rates earned on a significant portion of our loans
adjust immediately when index rates such as our prime rate change. Conversely,
most of our interest-bearing liabilities, including certificates of deposit and
borrowings, have rates fixed until maturity. As a result, interest rate
reductions will generally result in an immediate drop in our interest income on
loans, with a more delayed impact on interest expense because reductions in
interest costs will only occur upon renewals of certificates of deposit or
borrowings. Average total interest-earning assets increased $100.4 million, or
33.8%, during 2001 as compared to 2000, while our average yield dropped by 115
basis points from 9.05% to 7.90%. Our average total interest-bearing
liabilities increased by $98.5 million, or 38.4%, consistent with our increase
in interest-earning assets. However, because our interest costs generally do
not react as quickly to rate changes, our average cost of interest-bearing
liabilities decreased by only 75 basis points from 5.83% to 5.08%, resulting in
the compression in interest margins described above. For the year ended
December 31, 2001, our net interest spread was 2.82% and our net interest
margin was 3.36%. For the year ended December 31, 2000, our net interest
spread was 3.22% and our net interest margin was 4.01%.

Provision for Loan Losses.We recorded a $2.3 million provision for loan
losses for the year ended
December 31, 2001, representing an increase of $840,000 over the $1.5
million provision we made for the year ended December 31, 2000. Provisions for
loan losses are charged to income to bring our allowance for loan losses to a
level deemed appropriate by management based on the factors discussed under
Analysis of Allowance for Loan Losses. We have continued to increase the
level of our allowance for loan losses principally as a result of the continued
growth in our loan portfolio. Total loans receivable increased by $78.1
million during 2001, and by $81.8 million during 2000. Our higher provision
for loan losses for 2001 was made largely in response to an increase in net
loan charge-offs, which totaled $1.2 million during 2001, up from $210,000
during the year ended December 31, 2000. On an annualized basis, our
percentage of net loan charge-offs to average loans outstanding was .38% for
the year ended December 31, 2001 as compared with .09% for the year ended
December 31, 2000. For all full fiscal years through 2000, our loan loss
experience was similar to that of other new banks, with net loan charge-offs in
each year of less than .10% of average loans outstanding. The increase in our
net charge-offs reflects the relatively higher charge-offs associated with our
consumer finance subsidiary, as well as the maturation of our loan portfolio.
During 2001, our consumer finance subsidiary had net loan charge-offs of
$290,000, which was consistent with our budgeted level for that line of
business. On a stand-alone basis, the rate of net loan charge-offs to average
loans outstanding in our bank was .29%, which we believe reflects the
maturation and seasoning of our loan portfolio. Nonperforming loans totaled
$894,000 or .25% of total loans at December 31, 2001, up from $276,000 or .10%
of total loans at December 31, 2000. The allowance for loan losses at December
31, 2001 of $5.4 million represents 1.50% of total loans and 604% of
nonperforming loans. The allowance for loan losses at December 31, 2000 of
$4.3 million equaled 1.52% of total loans outstanding at that date.

Non-Interest Income.For the year ended December 31, 2001, non-interest
income increased $1.2 million or 54.8% to $3.4 million from $2.2 million for
the prior year. This favorable increase resulted from factors that include an
increase of $284,000, or 47.7% to $879,000, in service charges and fees on
deposit accounts as a result of deposit growth, an increase of $459,000, or
83.5% to $1.0 million, in income from the origination of residential mortgage
loans sold into the secondary market and income of $383,000 realized from an
interest rate floor contract.

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Non-Interest Expense. We strive to maintain non-interest expenses at
levels that we believe are appropriate given the nature of our operations and
the investments in personnel and facilities that have been necessary to
generate our growth. From 1998 forward, we have consistently maintained our
ratio of non-interest expenses to average total assets below 3%. Because of
our growth and the costs associated with building our franchise, we have
consistently seen increases in every major component of our non-interest
expenses. For the year ended December 31, 2001, our non-interest expense
increased $2.4 million, or 28.0%. Salary and employee benefit expense
increased $934,000, or 20.4%, and reflects the addition of personnel in our two
new branches as well as additions of personnel to expand our lines of business,
and, to a lesser degree, normal salary increases. Occupancy and equipment
expense increased $611,000, or 42.0%, reflecting the expenses associated with
our two newest branches and our operations center, all of which were opened in
the fourth quarter of 2000. Other non-interest expenses increased $894,000, or
33.2%, reflecting the increased volume of business activity, principally
increases in lending and growth in deposit accounts. For the year ended
December 31, 2001, on an annualized basis, our ratio of non-interest expenses
to average total assets improved to 2.63% as compared with 2.79% for 2000.

Provision for Income Taxes.Our provision for income taxes, as a
percentage of income before income taxes, was 35.3% and 37.8%, respectively,
for the years ended December 31, 2001 and 2000. The decline in the effective
rate for the current period principally results from a higher level of
investments that are not subject to state income taxes.

LIQUIDITY

Market and public confidence in our financial strength and in the strength
of financial institutions in general will largely determine our access to
appropriate levels of liquidity. This confidence is significantly dependent on
our ability to maintain sound asset quality and appropriate levels of capital
resources.

The term liquidity refers to our ability to generate adequate amounts of
cash to meet our needs for funding loan originations, deposit withdrawals,
maturities of borrowings and operating expenses. Management measures our
liquidity position by giving consideration to both on- and off-balance sheet
sources of, and demands for, funds on a daily and weekly basis.

Sources of liquidity include cash and cash equivalents, net of federal
requirements to maintain reserves against deposit liabilities, investment
securities eligible for pledging to secure borrowings from correspondent banks
pursuant to securities sold under repurchase agreements, investments available
for sale, loan repayments, loan sales, deposits, and borrowings from the
Federal Home Loan Bank secured with pledged loans and securities, and from
correspondent banks under overnight federal funds credit lines. In addition to
interest rate-sensitive deposits, the companys primary demand for liquidity is
anticipated fundings under credit commitments to customers.

Because of our continued growth and the availability of relatively low
cost funding sources, we have maintained a high level of liquidity in the form
of federal funds sold and investment securities. These aggregated $152.8
million at December 31, 2002, compared to $88.1 million and $80.3 million at
December 31, 2001 and 2000, respectively. Supplementing customer deposits as a
source of funding, we have available lines of credit from various correspondent
banks to purchase federal funds on a short-term basis of approximately $27
million. We also have the ability to borrow up to $89.0 million, as of
December 31, 2002, from the Federal Home Loan Bank of Atlanta, with $75.5
million outstanding as of that date. At December 31, 2001 we had FHLB
borrowings outstanding of $35 million. Funding costs have been low during
2002, and we have taken advantage of favorable interest rates offered by the
FHLB to provide funding for increased investments. We also had repurchase
agreements with a total outstanding balance of $20.2 million at December 31,
2002. Securities sold under agreements to repurchase generally mature within
ninety days from the transaction date and are collateralized by U.S. Government
Agency obligations. We have repurchase lines of credit aggregating $100
million from various institutions. The repurchases must be adequately
collateralized. At December 31, 2002, our outstanding commitments to extend
credit consisted of loan commitments of $31.5 million and amounts available
under home equity credit lines, other credit lines and standby letters of
credit of $37.6 million, $30.6 million and $11.1 million, respectively. We
believe that our combined aggregate liquidity position from all sources is
sufficient to meet the funding requirements of loan demand and deposit
maturities and withdrawals in the near term.

Throughout our six-year history, our loan demand has exceeded our growth
in core deposits. We have therefore relied heavily on certificates of deposits
as a source of funds. While the majority of these funds are from our local
market area, the bank has utilized brokered and out-of-market certificates of
deposits to diversify and supplement our deposit base. Certificates of
deposits represented 65% of our total deposits at December 31, 2002, down
slightly from 66% at December 31, 2001. Brokered and out-of-market deposits
totaled $115.7 million at year-end 2002 and $61.0 million at year-end 2001,
which

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comprised 25.8% and 15.5% of total deposits, respectively. Certificates
of deposit of $100,000 or more represented 29.3% of our total deposits at
December 31, 2002 and 28.4% at December 31, 2001. A portion of these deposits
are controlled by members of our Board of Directors and Advisory Board members,
or otherwise comes from customers considered to have long-standing
relationships with our management. Based upon the nature of these
relationships, management does not believe we are subject to significant
liquidity risk related to these deposits. Certificates of deposit of $100,000
or more, exclusive of these relationships, constituted 27.8% of our total
deposits at December 31, 2002. Large certificates of deposits are generally
considered rate sensitive. While we will need to pay competitive rates to
retain these deposits at their maturities, there are other subjective factors
that will determine their continued retention.

CONTRACTUAL OBLIGATIONS AND COMMITMENTS

In the normal course of business there are various outstanding contractual
obligations of the company that will require future cash outflows. In
addition, there are commitments and contingent liabilities, such as commitments
to extend credit, that may or may not require future cash outflows. The
following table reflects contractual obligations of the company outstanding as
of December 31, 2002.

|                                     |                                                       |       |                        |         |  |           |           |           |  |         |                |        |  |   |        |        |       |   |        |        | 
|------------------------------------ | ----------------------------------------------------- | ----- | ---------------------- | ------- |  | --------- | --------- | --------- |  | ------- | -------------- | ------ |  | - | ------ | ------ | ----- | - | ------ | ------ | 
|                                     |                                                       |       | Payments Due by Period
|                                     |                                                       |       |                       
|                                     |                                                       |       |                        |         |  |           | On Demand |           |  |         |                |        |  |   |        |        |       |   |       
|                                     |                                                       |       |                        |         |  |           | Or Within |           |  |         |                |        |  |   |        |        | After
|Contractual Obligations              |                                                       | Total |                        | 1 Year  |  | 2-3 Years |           | 4-5 Years |  | 5 Years
|                                     |                                                       |       |                        |         |  |           |           |           |  |        
|                                     |                                                       |       |                        |         |  |           |           |           |  |         | (In thousands) |        |  |   |        |        |       |   |       
|Short-term borrowings                |                                                       | $     | 40,706                 |         |  | $         | 40,706    |           |  | $       |               |        |  | $ |       |        |       | $ |       |       
|Long-term debt                       |                                                       |       | 55,000                 |         |  |           |          |           |  |         | 15,000         |        |  |   | 10,000 |        |       |   | 30,000 |       
|Convertible preferred securities     |                                                       |       | 17,250                 |         |  |           |          |           |  |         |               |        |  |   |       |        |       |   | 17,250 |       
|Construction of operation properties |                                                       |       | 501                    |         |  |           | 501       |           |  |         |               |        |  |   |       |        |       |   |       |       
|Operating leases                     |                                                       |       | 2,331                  |         |  |           | 404       |           |  |         | 834            |        |  |   | 501    |        |       |   | 592    |       
|                                     |                                                       |       |                        |         |  |           |           |           |  |         |                |        |  |   |        |        |       |   |        |       
|                                     | Total contractual cash obligations
excluding deposits |       |                        | 115,788 |  |           |           | 41,611    |  |         |                | 15,834 |  |   |        | 10,501 |       |   |        | 47,842 | 
|Deposits                             |                                                       |       | 449,216                |         |  |           | 378,805   |           |  |         | 42,014         |        |  |   | 28,397 |        |       |   |       |       
|                                     |                                                       |       |                        |         |  |           |           |           |  |         |                |        |  |   |        |        |       |   |        |       
|                                     | Total contractual cash obligations                    |       | $                      | 565,004 |  |           | $         | 420,416   |  |         | $              | 57,848 |  |   | $      | 38,898 |       |   | $      | 47,842 | 
|                                     |                                                       |       |                        |         |  |           |           |           |  |         |                |        |  |   |        |        |       |   |        |       

The following table reflects other commitments of the company outstanding
as of December 31, 2002.

|                                                                                                                  |                         |           |                                            |         |        |           |        |           |  |         |       |       |  |   |       |       |  |   |        |        | 
|----------------------------------------------------------------------------------------------------------------- | ----------------------- | --------- | ------------------------------------------ | ------- | ------ | --------- | ------ | --------- |  | ------- | ----- | ----- |  | - | ----- | ----- |  | - | ------ | ------ | 
|                                                                                                                  |                         |           | Amount of Commitment Expiration Per Period
|                                                                                                                  |                         |           |                                           
|                                                                                                                  |                         |           | Total                                      |         |        |           |        |           |  |         |       |       |  |   |       |       |  |   |       
|                                                                                                                  |                         |           | Amounts                                    |         | Within |           |        |           |  |         |       |       |  |   | After
|Other Commitments                                                                                                 |                         | Committed |                                            | 1 Year  |        | 2-3 Years |        | 4-5 Years |  | 5 Years
|                                                                                                                  |                         |           |                                            |         |        |           |        |           |  |        
|                                                                                                                  |                         |           | (In thousands)                            
|Undisbursed portion of home equity
credit lines collateralized primarily
by junior liens on 1-4 family properties |                         | $         | 37,450                                     |         |        | $         |       |           |  | $       |      |       |  | $ |      |       |  | $ | 37,450 |       
|Other commitments and credit lines                                                                                |                         |           | 48,453                                     |         |        |           | 40,993 |           |  |         | 957   |       |  |   | 964   |       |  |   | 5,539  |       
|Undisbursed portion of construction loans                                                                         |                         |           | 24,749                                     |         |        |           | 15,531 |           |  |         | 3,740 |       |  |   | 1,147 |       |  |   | 4,331  |       
|Fixed rate mortgage loan commitments                                                                              |                         |           | 21                                         |         |        |           |       |           |  |         |      |       |  |   |      |       |  |   | 21     |       
|Adjustable rate mortgage loan
commitments                                                                         |                         |           | 107                                        |         |        |           | 16     |           |  |         | 8     |       |  |   | 20    |       |  |   | 63     |       
|                                                                                                                  |                         |           |                                            |         |        |           |        |           |  |         |       |       |  |   |       |       |  |   |        |       
|                                                                                                                  | Total other commitments |           | $                                          | 110,780 |        |           | $      | 56,540    |  |         | $     | 4,705 |  |   | $     | 2,131 |  |   | $      | 47,404 | 
|                                                                                                                  |                         |           |                                            |         |        |           |        |           |  |         |       |       |  |   |       |       |  |   |        |       

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CAPITAL RESOURCES

Stockholders equity at December 31, 2002 was $47.5 million. At that
date, our capital to asset ratio was 7.8%, and all of our capital ratios
exceeded the minimums established for a well-capitalized bank holding company
by regulatory measures. Our Tier 1 risk-based capital ratio at December 31,
2002 was 12.07%.

The bank and the company are subject to minimum capital requirements. See
SUPERVISION AND REGULATION. As the following table indicates, at December
31, 2002, the company exceeded its regulatory capital requirements.

|                                |  |                      |       |             |  |                  |      |   |  |  |       |  
|------------------------------- |  | -------------------- | ----- | ----------- |  | ---------------- | ---- | - |  |  | ----- | -
|                                |  | At December 31, 2002
|                                |  |                     
|                                |  | Actual               |       | Minimum     |  | Well-Capitalized
|                                |  | Ratio                |       | Requirement |  | Requirement     
|                                |  |                      |       |             |  |                 
|Total risk-based capital ratio  |  |                      | 13.78 | %           |  |                  | 8.00 | % |  |  | 10.00 | %
|Tier 1 risk-based capital ratio |  |                      | 12.07 | %           |  |                  | 4.00 | % |  |  | 6.00  | %
|Leverage ratio                  |  |                      | 9.84  | %           |  |                  | 4.00 | % |  |  | 5.00  | %

In February of 2002, Southern Community Capital Trust I (the Trust), a
newly formed subsidiary of the company, issued 1,725,000 convertible preferred
securities (the Securities), generating total proceeds of $17.3 million. The
Securities pay distributions at an annual rate of 7.25% and mature on March 31,
2032. The Securities began paying distributions quarterly on March 31, 2002.
The company has fully and unconditionally guaranteed the obligations of the
Trust. The Securities can be converted at any time into common stock at a
price of $8.26 (the Conversion Price) or approximately 1.211 shares of the
companys common stock for each convertible preferred security. The Securities
issued by the Trust are redeemable in whole or in part at any time after April
1, 2007. The Securities are also redeemable in whole at any time prior to
March 31, 2007 as long as the trading price of our common stock has been at
least 125% of the Conversion Price for a period of twenty consecutive trading
days ending within five days of the notice of redemption. The proceeds from
the Securities were utilized to purchase convertible junior subordinated
debentures from the company under the same terms and conditions as the
Securities. The company has the right to defer payment of interest on the
debentures at any time and from time to time for a period not exceeding five
years, provided that no deferral period extend beyond the stated maturities of
the debentures. Such deferral of interest payments by the company will result
in a deferral of distribution payments on the related Securities. Should the
company defer the payment of interest on the debentures, the company will be
precluded from the payment of cash dividends to shareholders. Subject to
certain limitations, the Securities qualify as Tier 1 capital of the company
for regulatory capital purposes. The principal use of the net proceeds from
the sale of the securities was to infuse capital to our bank subsidiary,
Southern Community Bank and Trust, to fund its operations and continued
expansion, and to maintain the companys and the banks status as well
capitalized under regulatory guidelines.

ASSET/LIABILITY MANAGEMENT

Our results of operations depend substantially on net interest income.
Like most financial institutions, our interest income and cost of funds are
affected by general economic conditions and by competition in the market place.
The purpose of asset/liability management is to provide stable net interest
income growth by protecting earnings from undue interest rate risk, which
arises from volatile interest rates and changes in the balance sheet mix, and
by managing the risk/return relationships between liquidity, interest rate
risk, market risk and capital adequacy. We adhere to a Board-approved
asset/liability management policy that provides guidelines for controlling,
monitoring, and reporting exposure to interest rate risk. Our policy is to
manage the companys net interest income exposure by measuring the impact of
changing interest rate environments and adjusting the mix of assets and
liabilities to provide an acceptable return within established risk limits.
Net interest income simulation and gap reports in conjunction with other tools
are utilized to measure and monitor interest rate risk.

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

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In reviewing the needs of our bank with regard to proper management of its
asset/liability program, we estimate future needs, taking into consideration
estimated loan and deposit increases (due to increased demand through
marketing) and forecasted interest rate changes. We use a number of measures
to monitor and manage interest rate risk, including income simulations and gap
analyses. An income simulation model is the primary tool used to assess the
direction and magnitude of changes in net interest income resulting from
changes in interest rates. Key assumptions in the model include prepayment
speeds on mortgage-related assets, cash flows and maturities of other
investment securities, loan and deposit volumes and pricing. These assumptions
are inherently uncertain and, as a result, the model cannot precisely estimate
net interest income or precisely predict the impact of higher or lower interest
rates on net interest income. Actual results will differ from simulated
results due to timing, magnitude and frequency of interest rate changes and
changes in market conditions and management strategies, among other factors.
Based on the results of the income simulation model as of October 31, 2002, we
would expect an increase in net interest income of $1.7 million if interest
rates increase from current rates by 200 basis points over the next twelve
months, and a decrease in net interest income of $800,000 if interest rates
decrease from current rates by 100 basis points over the next twelve months.

The analysis of interest rate gap (the difference between the amount of
interest-earning assets and interest-bearing liabilities re-pricing or maturing
during a given period of time) is another standard tool we use to measure
exposure to interest rate risk. We believe that because interest rate gap
analysis does not address all factors that can affect earnings performance, it
should be used in conjunction with other methods of evaluating interest rate
risk.

Our balance sheet was asset-sensitive at December 31, 2002 in the
three-month horizon and liability-sensitive in the one-year period. An
asset-sensitive position means that there are more assets than liabilities
subject to repricing in that period as market rates change, and conversely with
a liability-sensitive position. As a result, in a falling rate environment,
our earnings position could deteriorate initially followed by improvement, with
the opposite expectation in a rising rate environment, depending on the
correlation of rate changes in these categories.

The following table presents information about the periods in which the
interest-sensitive assets and liabilities at December 31, 2002 will either
mature or be subject to repricing in accordance with market rates, and the
resulting interest-sensitivity gaps. This table shows the sensitivity of the
balance sheet at one point in time and is not necessarily indicative of what
the sensitivity will be on other dates. Included in interest-bearing
liabilities subject to rate changes within 90 days is 100% of the money market
and NOW deposits. These types of deposits historically have not repriced
coincidentally with or in the same proportion as general market indicators. As
simplifying assumptions concerning repricing behavior, all money market and NOW
deposits are assumed to reprice immediately and fixed rate loans and
mortgage-backed securities are assumed to reprice at their contractual
maturity.

|                                                                                |                                          |                                     |                                    |                               |         |                      |          |           |        |                        |         |         |         |         |         |         |        |         |         |         |         |         |         | 
|------------------------------------------------------------------------------- | ---------------------------------------- | ----------------------------------- | ---------------------------------- | ----------------------------- | ------- | -------------------- | -------- | --------- | ------ | ---------------------- | ------- | ------- | ------- | ------- | ------- | ------- | ------ | ------- | ------- | ------- | ------- | ------- | ------- | 
|                                                                                |                                          |                                     |                                    |                               |         | At December 31, 2002
|                                                                                |                                          |                                     |                                    |                               |         |                     
|                                                                                |                                          |                                     |                                    |                               |         |                      |          |           |        | Over 3                 |         | Total   |         |         |         |         |        |         |         |        
|                                                                                |                                          |                                     |                                    |                               |         | 3 Months             |          | Months to |        | Within                 |         | Over 12 |         |         |         |        
|                                                                                |                                          |                                     |                                    |                               |         | or Less              |          | 12 Months |        | 12 Months              |         | Months  |         | Total  
|                                                                                |                                          |                                     |                                    |                               |         |                      |          |           |        |                        |         |         |         |        
|                                                                                |                                          |                                     |                                    |                               |         |                      |          |           |        | (Dollars in thousands) |         |         |         |        
|Interest-earning assets                                                         |                                          |                                     |                                    |                               |         |                      |          |           |        |                        |         |         |         |         |         |         |        |         |         |        
|                                                                                | Loans and loans held for sale            |                                     | $                                  | 233,157                       |         |                      | $        | 24,769    |        |                        | $       | 257,926 |         |         | $       | 164,012 |        |         | $       | 421,938 |        
|                                                                                | Investment securities available for sale |                                     |                                    | 10,160                        |         |                      |          | 5,729     |        |                        |         | 15,889  |         |         |         | 81,041  |        |         |         | 96,930  |        
|                                                                                | Investment securities held to maturity   |                                     |                                    | 9,000                         |         |                      |          | 5,000     |        |                        |         | 14,000  |         |         |         | 30,749  |        |         |         | 44,749  |        
|                                                                                | Federal funds sold                       |                                     |                                    | 11,084                        |         |                      |          |          |        |                        |         | 11,084  |         |         |         |        |        |         |         | 11,084  |        
|                                                                                |                                          |                                     |                                    |                               |         |                      |          |           |        |                        |         |         |         |         |         |         |        |         |         |         |        
|                                                                                |                                          |                                     |                                    | Total interest-earning assets |         | $                    | 263,401  |           |        | $                      | 35,498  |         |         | $       | 298,899 |         |        | $       | 275,802 |         |         | $       | 574,701 | 
|                                                                                |                                          |                                     |                                    |                               |         |                      |          |           |        |                        |         |         |         |         |         |         |        |         |         |         |        
|Interest-bearing liabilities                                                    |                                          |                                     |                                    |                               |         |                      |          |           |        |                        |         |         |         |         |         |         |        |         |         |        
|                                                                                | Deposits:                                |                                     |                                    |                               |         |                      |          |           |        |                        |         |         |         |         |         |         |        |         |         |         |        
|                                                                                |                                          | Money market and NOW deposits       |                                    | $                             | 115,981 |                      |          | $         |       |                        |         | $       | 115,981 |         |         | $       |       |         |         | $       | 115,981 |        
|                                                                                |                                          | Time deposits greater than $100,000 |                                    |                               | 29,180  |                      |          |           | 57,152 |                        |         |         | 86,332  |         |         |         | 45,179 |         |         |         | 131,511 |        
|                                                                                |                                          | Other time deposits                 |                                    |                               | 50,027  |                      |          |           | 84,597 |                        |         |         | 134,624 |         |         |         | 25,231 |         |         |         | 159,855 |        
|                                                                                | Borrowings                               |                                     |                                    | 20,180                        |         |                      |          | 30,526    |        |                        |         | 50,706  |         |         |         | 45,000  |        |         |         | 95,706  |        
|                                                                                |                                          |                                     |                                    |                               |         |                      |          |           |        |                        |         |         |         |         |         |         |        |         |         |         |        
|                                                                                |                                          |                                     | Total interest-bearing liabilities |                               | $       | 215,368              |          |           | $      | 172,275                |         |         | $       | 387,643 |         |         | $      | 115,410 |         |         | $       | 503,053 |        
|                                                                                |                                          |                                     |                                    |                               |         |                      |          |           |        |                        |         |         |         |         |         |         |        |         |         |         |        
|Interest sensitivity gap per period                                             |                                          | $                                   | 48,033                             |                               |         | $                    | (136,777 | )         |        | $                      | (88,744 | )       |         | $       | 160,392 |         |        | $       | 71,648  |        
|Cumulative gap                                                                  |                                          | $                                   | 48,033                             |                               |         | $                    | (88,744  | )         |        | $                      | (88,744 | )       |         | $       | 71,648  |         |        | $       | 71,648  |        
|Cumulative ratio of interest-sensitive
assets to interest-sensitive liabilities |                                          |                                     | 122.30                             | %                             |         |                      | 77.11    | %         |        |                        | 77.11   | %       |         |         | 114.24  | %       |        |         | 114.24  | %      

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MARKET RISK

Market risk reflects the risk of economic loss resulting from adverse
changes in market price and interest rates. This risk of loss can be reflected
in diminished current market values and/or reduced potential net interest
income in future periods. Our market risk arises primarily from interest rate
risk inherent in our lending and deposit-taking activities. The structure of
our loan and deposit portfolios is such that a significant decline in interest
rates may adversely impact net market values and net interest income. We do
not maintain a trading account nor are we subject to currency exchange risk or
commodity price risk. Interest rate risk is monitored as part of the banks
asset/liability management function, which is discussed in Asset/Liability
Management above. The following table presents information about the
contractual maturities, average interest rates and estimated fair values of our
financial instruments that are considered market risk sensitive at December 31,
2002.

|                      |                                  |               |       |         |                                                          |         |      |        |        |        |      |        |        |        |            |        |        |        |      |        |            |        |   |         |        |         |   |         |         |         |          |      |           |      |   |         |         |         | 
|--------------------- | -------------------------------- | ------------- | ----- | ------- | -------------------------------------------------------- | ------- | ---- | ------ | ------ | ------ | ---- | ------ | ------ | ------ | ---------- | ------ | ------ | ------ | ---- | ------ | ---------- | ------ | - | ------- | ------ | ------- | - | ------- | ------- | ------- | -------- | ---- | --------- | ---- | - | ------- | ------- | ------- | 
|                      |                                  |               |       |         | Expected Maturities of Market Sensitive Instruments Held |         |      |        |        |        |      |        |       
|                      |                                  |               |       |         | at December 31, 2002 Occurring in the Indicated Year     |         |      |        |        |        |      |        |       
|                      |                                  |               |       |         |                                                          |         |      |        |        |        |      |        |       
|                      |                                  |               |       |         |                                                          |         |      |        |        |        |      |        |        |        |            |        |        |        |      |        |            |        |   |         |        |         |   |         |         |         |          |      | Average   |      |   |         |        
|                      |                                  |               |       |         |                                                          |         |      |        |        |        |      |        |        |        |            |        |        |        |      |        |            |        |   |         | Beyond |         |   |         |         |         | Interest |      | Estimated
|                      |                                  |               |       |         | 2003                                                     |         | 2004 |        | 2005   |        | 2006 |        | 2007   |        | Five Years |        | Total  |        | Rate |        | Fair Value
|                      |                                  |               |       |         |                                                          |         |      |        |        |        |      |        |        |        |            |        |        |        |      |        |           
|                      |                                  |               |       |         | (Dollars in thousands)                                  
|FINANCIAL ASSETS      |                                  |               |       |         |                                                          |         |      |        |        |        |      |        |        |        |            |        |        |        |      |        |            |        |   |         |        |         |   |         |         |         |          |      |           |      |   |        
|                      | Federal funds sold               |               | $     | 11,084  |                                                          |         | $    |       |        |        | $    |       |        |        | $          |       |        |        | $    |       |            |        | $ |        |        |         | $ | 11,084  |         |         |          | 1.07 | %         |      | $ | 11,084  |        
|                      | Investment
securities(1)(2)      |               |       | 29,889  |                                                          |         |      | 2,340  |        |        |      | 4,429  |        |        |            |       |        |        |      |       |            |        |   | 105,021 |        |         |   | 141,679 |         |         |          | 5.84 | %         |      |   | 142,249 |        
|                      | Loans(3):                        |               |       |         |                                                          |         |      |        |        |        |      |        |        |        |            |        |        |        |      |        |            |        |   |         |        |         |   |         |         |         |          |      |           |      |   |         |        
|                      |                                  | Fixed rate    |       |         | 37,884                                                   |         |      |        | 14,966 |        |      |        | 20,333 |        |            |        | 18,160 |        |      |        | 41,000     |        |   |         | 36,968 |         |   |         | 169,311 |         |          |      | 6.41      | %    |   |         | 169,936 |        
|                      |                                  | Variable rate |       |         | 85,941                                                   |         |      |        | 16,683 |        |      |        | 15,122 |        |            |        | 21,773 |        |      |        | 36,050     |        |   |         | 77,058 |         |   |         | 252,627 |         |          |      | 4.65      | %    |   |         | 253,037 |        
|                      |                                  |               |       |         |                                                          |         |      |        |        |        |      |        |        |        |            |        |        |        |      |        |            |        |   |         |        |         |   |         |         |         |          |      |           |      |   |        
|                      |                                  |               | Total |         | $                                                        | 164,798 |      |        | $      | 33,989 |      |        | $      | 39,884 |            |        | $      | 39,933 |      |        | $          | 77,050 |   |         | $      | 219,047 |   |         | $       | 574,701 |          |      |           | 5.70 | % |         | $       | 576,306 | 
|                      |                                  |               |       |         |                                                          |         |      |        |        |        |      |        |        |        |            |        |        |        |      |        |            |        |   |         |        |         |   |         |         |         |          |      |           |      |   |        
|FINANCIAL LIABILITIES |                                  |               |       |         |                                                          |         |      |        |        |        |      |        |        |        |            |        |        |        |      |        |            |        |   |         |        |         |   |         |         |         |          |      |           |      |   |        
|                      | Money market and NOW
deposits    |               | $     | 57,993  |                                                          |         | $    | 23,197 |        |        | $    | 17,398 |        |        | $          | 11,599 |        |        | $    | 5,794  |            |        | $ |        |        |         | $ | 115,981 |         |         |          | .80  | %         |      | $ | 115,981 |        
|                      | Time deposits                    |               |       | 220,956 |                                                          |         |      | 26,018 |        |        |      | 15,996 |        |        |            | 12,840 |        |        |      | 15,556 |            |        |   |        |        |         |   | 291,366 |         |         |          | 3.14 | %         |      |   | 291,631 |        
|                      | Convertible preferred
securities |               |       |        |                                                          |         |      |       |        |        |      |       |        |        |            |       |        |        |      |       |            |        |   | 17,250  |        |         |   | 17,250  |         |         |          | 7.25 | %         |      |   | 18,458  |        
|                      | Borrowings                       |               |       | 45,706  |                                                          |         |      | 10,000 |        |        |      | 10,000 |        |        |            | 5,000  |        |        |      | 20,000 |            |        |   | 5,000   |        |         |   | 95,706  |         |         |          | 3.25 | %         |      |   | 94,099  |        
|                      |                                  |               |       |         |                                                          |         |      |        |        |        |      |        |        |        |            |        |        |        |      |        |            |        |   |         |        |         |   |         |         |         |          |      |           |      |   |        
|                      |                                  | Total         |       | $       | 324,655                                                  |         |      | $      | 59,215 |        |      | $      | 43,394 |        |            | $      | 29,439 |        |      | $      | 41,350     |        |   | $       | 22,250 |         |   | $       | 520,303 |         |          |      | 2.80      | %    |   | $       | 520,169 |        
|                      |                                  |               |       |         |                                                          |         |      |        |        |        |      |        |        |        |            |        |        |        |      |        |            |        |   |         |        |         |   |         |         |         |          |      |           |      |   |        



|(1) |  | Tax-exempt securities are reflected at a tax-equivalent basis using a 34%
tax rate.                                                                      
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|(2) |  | Callable securities and borrowings with favorable market rates at
December 31, 2002
are assumed to mature at their call dates for purposes of this table.
|   
|(3) |  | Includes nonaccrual loans but not the allowance the loan losses.                                                                                         

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QUARTERLY FINANCIAL INFORMATION

The following table sets forth, for the periods indicated, certain of our
consolidated quarterly financial information. This information is derived from
our unaudited financial statements, which include, in the opinion of
management, all normal recurring adjustments which management considers
necessary for a fair presentation of the results for such periods. This
information should be read in conjunction with our Financial Statements
included elsewhere in this report. The results for any quarter are not
necessarily indicative of results for any future period.

|                                                    |                     |         |       |                                       |      |                              |       |         |      |         |       |         |      |         |       |         |      |         |       |   |      |   |       |   |      |   |       |   |      |   |       |   |      | 
|--------------------------------------------------- | ------------------- | ------- | ----- | ------------------------------------- | ---- | ---------------------------- | ----- | ------- | ---- | ------- | ----- | ------- | ---- | ------- | ----- | ------- | ---- | ------- | ----- | - | ---- | - | ----- | - | ---- | - | ----- | - | ---- | - | ----- | - | ---- | 
|                                                    |                     |         |       | Year Ended December 31, 2002          |      | Year Ended December 31, 2001
|                                                    |                     |         |       |                                       |      |                             
|                                                    |                     |         |       | Fourth                                |      | Third                        |       | Second  |      | First   |       | Fourth  |      | Third   |       | Second  |      | First  
|                                                    |                     |         |       | Quarter                               |      | Quarter                      |       | Quarter |      | Quarter |       | Quarter |      | Quarter |       | Quarter |      | Quarter
|                                                    |                     |         |       |                                       |      |                              |       |         |      |         |       |         |      |         |       |         |      |        
|                                                    |                     |         |       | (In thousands, except per share data)
|Interest income                                     |                     | $       | 8,917 |                                       |      | $                            | 8,656 |         |      | $       | 8,165 |         |      | $       | 7,543 |         |      | $       | 7,399 |   |      | $ | 8,080 |   |      | $ | 7,820 |   |      | $ | 8,067 |  
|Interest expense                                    |                     |         | 3,879 |                                       |      |                              | 3,954 |         |      |         | 4,029 |         |      |         | 3,941 |         |      |         | 3,875 |   |      |   | 4,564 |   |      |   | 4,751 |   |      |   | 4,844 |  
|                                                    |                     |         |       |                                       |      |                              |       |         |      |         |       |         |      |         |       |         |      |         |       |   |      |   |       |   |      |   |       |   |      |   |       |  
|Net interest income                                 |                     |         | 5,038 |                                       |      |                              | 4,702 |         |      |         | 4,136 |         |      |         | 3,602 |         |      |         | 3,524 |   |      |   | 3,516 |   |      |   | 3,069 |   |      |   | 3,223 |  
|Provision for loan losses                           |                     |         | 475   |                                       |      |                              | 400   |         |      |         | 420   |         |      |         | 360   |         |      |         | 820   |   |      |   | 625   |   |      |   | 440   |   |      |   | 435   |  
|                                                    |                     |         |       |                                       |      |                              |       |         |      |         |       |         |      |         |       |         |      |         |       |   |      |   |       |   |      |   |       |   |      |   |       |  
|Net interest income
after provision for
loan losses |                     |         | 4,563 |                                       |      |                              | 4,302 |         |      |         | 3,716 |         |      |         | 3,242 |         |      |         | 2,704 |   |      |   | 2,891 |   |      |   | 2,629 |   |      |   | 2,788 |  
|Non-interest income                                 |                     |         | 1,273 |                                       |      |                              | 1,008 |         |      |         | 884   |         |      |         | 762   |         |      |         | 785   |   |      |   | 784   |   |      |   | 1,001 |   |      |   | 832   |  
|Non-interest expense                                |                     |         | 4,191 |                                       |      |                              | 3,871 |         |      |         | 3,573 |         |      |         | 3,146 |         |      |         | 2,858 |   |      |   | 2,890 |   |      |   | 2,738 |   |      |   | 2,676 |  
|                                                    |                     |         |       |                                       |      |                              |       |         |      |         |       |         |      |         |       |         |      |         |       |   |      |   |       |   |      |   |       |   |      |   |       |  
|Income before income
taxes                          |                     |         | 1,645 |                                       |      |                              | 1,439 |         |      |         | 1,027 |         |      |         | 858   |         |      |         | 631   |   |      |   | 785   |   |      |   | 892   |   |      |   | 944   |  
|Income taxes                                        |                     |         | 594   |                                       |      |                              | 503   |         |      |         | 354   |         |      |         | 304   |         |      |         | 228   |   |      |   | 278   |   |      |   | 285   |   |      |   | 356   |  
|                                                    |                     |         |       |                                       |      |                              |       |         |      |         |       |         |      |         |       |         |      |         |       |   |      |   |       |   |      |   |       |   |      |   |       |  
|Net income                                          |                     | $       | 1,051 |                                       |      | $                            | 936   |         |      | $       | 673   |         |      | $       | 554   |         |      | $       | 403   |   |      | $ | 507   |   |      | $ | 607   |   |      | $ | 588   |  
|                                                    |                     |         |       |                                       |      |                              |       |         |      |         |       |         |      |         |       |         |      |         |       |   |      |   |       |   |      |   |       |   |      |   |       |  
|Per
share data(1):                                  |                     |         |       |                                       |      |                              |       |         |      |         |       |         |      |         |       |         |      |         |       |   |      |   |       |   |      |   |       |   |      |   |       |  
|                                                    | Net income:         |         |       |                                       |      |                              |       |         |      |         |       |         |      |         |       |         |      |         |       |   |      |   |       |   |      |   |       |   |      |   |       |   |     
|                                                    |                     | Basic   |       | $                                     | .12  |                              |       | $       | .11  |         |       | $       | .08  |         |       | $       | .06  |         |       | $ | .05  |   |       | $ | .06  |   |       | $ | .07  |   |       | $ | .07  | 
|                                                    |                     | Diluted |       |                                       | .12  |                              |       |         | .10  |         |       |         | .07  |         |       |         | .06  |         |       |   | .04  |   |       |   | .05  |   |       |   | .07  |   |       |   | .07  | 
|                                                    | Common stock price: |         |       |                                       |      |                              |       |         |      |         |       |         |      |         |       |         |      |         |       |   |      |   |       |   |      |   |       |   |      |   |       |   |     
|                                                    |                     | High    |       | $                                     | 7.36 |                              |       | $       | 7.10 |         |       | $       | 7.62 |         |       | $       | 9.76 |         |       | $ | 8.24 |   |       | $ | 7.26 |   |       | $ | 7.49 |   |       | $ | 8.16 | 
|                                                    |                     | Low     |       |                                       | 6.10 |                              |       |         | 5.48 |         |       |         | 6.24 |         |       |         | 5.82 |         |       |   | 4.76 |   |       |   | 6.17 |   |       |   | 6.58 |   |       |   | 6.69 | 



|(1) |  | Per share data has been adjusted to reflect the dilutive effects of 5%
stock dividends in both 2001 and 2002.
|--- |  | -------------------------------------------------------------------------------------------------------------

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Lending Activities

General. We provide to our customers residential, commercial and
construction loans secured by real estate, as well as a full range of short- to
medium-term commercial and industrial, Small Business Administration guaranteed
and personal loans, both secured and unsecured. We have implemented loan
policies and procedures that establish the basic guidelines governing our
lending operations. Generally, those guidelines address the types of loans
that we seek, our target markets, underwriting and collateral requirements,
terms, interest rate and yield considerations and compliance with laws and
regulations. All loans or credit lines are subject to approval procedures and
amount limitations. These limitations apply to the borrowers total
outstanding indebtedness to us, including the indebtedness of any guarantor.
The policies are reviewed and approved at least annually by our Board of
Directors. We supplement our supervision of the loan underwriting and approval
process with periodic loan audits by internal loan examiners and outside
professionals experienced in loan review work. We have focused our lending
activities on the types of loans that we believe will be most in demand by our
target customers, as presented in the loan portfolio composition tables below:

|                                |  |                        |         |          |  |         |       |          |  |        |          |          |  |  |       |   |  |         |         |   |  |  |       |  
|------------------------------- |  | ---------------------- | ------- | -------- |  | ------- | ----- | -------- |  | ------ | -------- | -------- |  |  | ----- | - |  | ------- | ------- | - |  |  | ----- | -
|                                |  | At December 31,       
|                                |  |                       
|                                |  | 2002                   |         | 2001     |  | 2000    |       |          |  |       
|                                |  |                        |         |          |  |         |       |          |  |       
|                                |  |                        |         |          |  | Percent |       |          |  |        |          | Percent  |  |  |       |   |  | Percent
|                                |  | Amount                 |         | of Total |  | Amount  |       | of Total |  | Amount |          | of Total
|                                |  |                        |         |          |  |         |       |          |  |        |          |         
|                                |  | (Dollars in thousands)
|Residential mortgage loans      |  | $                      | 118,572 |          |  |         | 28.1  | %        |  |        | $105,357 |          |  |  | 29.2  | % |  | $       | 84,280  |   |  |  | 29.9  | %
|Commercial mortgage loans       |  |                        | 137,812 |          |  |         | 32.7  | %        |  |        | 89,354   |          |  |  | 24.8  | % |  |         | 59,410  |   |  |  | 21.0  | %
|Construction loans              |  |                        | 64,500  |          |  |         | 15.3  | %        |  |        | 61,558   |          |  |  | 17.1  | % |  |         | 52,800  |   |  |  | 18.7  | %
|Commercial and industrial loans |  |                        | 71,948  |          |  |         | 17.0  | %        |  |        | 77,820   |          |  |  | 21.6  | % |  |         | 60,280  |   |  |  | 21.4  | %
|Loans to individuals            |  |                        | 29,106  |          |  |         | 6.9   | %        |  |        | 26,199   |          |  |  | 7.3   | % |  |         | 25,391  |   |  |  | 9.0   | %
|                                |  |                        |         |          |  |         |       |          |  |        |          |          |  |  |       |   |  |         |         |   |  |  |       |  
|Subtotal                        |  |                        | 421,938 |          |  |         | 100.0 | %        |  |        | 360,288  |          |  |  | 100.0 | % |  |         | 282,161 |   |  |  | 100.0 | %
|                                |  |                        |         |          |  |         |       |          |  |        |          |          |  |  |       |   |  |         |         |   |  |  |       |  
|Less: Allowance for loan losses |  |                        | (6,342  | )        |  |         |       |          |  |        | (5,400   | )        |  |  |       |   |  |         | (4,283  | ) |  |  |       |  
|                                |  |                        |         |          |  |         |       |          |  |        |          |          |  |  |       |   |  |         |         |   |  |  |       |  
|Net loans                       |  | $                      | 415,596 |          |  |         |       |          |  | $      | 354,888  |          |  |  |       |   |  | $       | 277,878 |   |  |  |       |  
|                                |  |                        |         |          |  |         |       |          |  |        |          |          |  |  |       |   |  |         |         |   |  |  |       |  

|                                |  |                 |         |          |  |                        |       |          |  |   |         |         |  |  |       |  
|------------------------------- |  | --------------- | ------- | -------- |  | ---------------------- | ----- | -------- |  | - | ------- | ------- |  |  | ----- | -
|                                |  | At December 31,
|                                |  |                
|                                |  | 1999            |         | 1998    
|                                |  |                 |         |         
|                                |  |                 |         |          |  | Percent                |       |          |  |   |         | Percent
|                                |  | Amount          |         | of Total |  | Amount                 |       | of Total
|                                |  |                 |         |          |  |                        |       |         
|                                |  |                 |         |          |  | (Dollars in thousands) |       |          |  |  
|Residential mortgage loans      |  | $               | 65,399  |          |  |                        | 32.6  | %        |  | $ | 41,261  |         |  |  | 32.5  | %
|Commercial mortgage loans       |  |                 | 38,293  |          |  |                        | 19.1  | %        |  |   | 26,077  |         |  |  | 20.5  | %
|Construction loans              |  |                 | 32,427  |          |  |                        | 16.2  | %        |  |   | 16,569  |         |  |  | 13.0  | %
|Commercial and industrial loans |  |                 | 44,563  |          |  |                        | 22.3  | %        |  |   | 30,208  |         |  |  | 23.8  | %
|Loans to individuals            |  |                 | 19,630  |          |  |                        | 9.8   | %        |  |   | 12,980  |         |  |  | 10.2  | %
|                                |  |                 |         |          |  |                        |       |          |  |   |         |         |  |  |       |  
|Subtotal                        |  |                 | 200,312 |          |  |                        | 100.0 | %        |  |   | 127,095 |         |  |  | 100.0 | %
|                                |  |                 |         |          |  |                        |       |          |  |   |         |         |  |  |       |  
|Less: Allowance for loan losses |  |                 | (3,013  | )        |  |                        |       |          |  |   | (1,905  | )       |  |  |       |  
|                                |  |                 |         |          |  |                        |       |          |  |   |         |         |  |  |       |  
|Net loans                       |  | $               | 197,299 |          |  |                        |       |          |  | $ | 125,190 |         |  |  |       |  
|                                |  |                 |         |          |  |                        |       |          |  |   |         |         |  |  |       |  

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##### 



The following table presents at December 31, 2002 (i) the aggregate
maturities of loans in the named categories of our loan portfolio and (ii) the
aggregate amounts of such loans, by variable and fixed rates, that mature after
one year:

|                 |                           |       |         |                      |         |                       |  |            |      |       |         |        |         |       |  |                        |      |       |         |        |         |  |  |      |      |   |         |         |         |  |  |       |      |  
|---------------- | ------------------------- | ----- | ------- | -------------------- | ------- | --------------------- |  | ---------- | ---- | ----- | ------- | ------ | ------- | ----- |  | ---------------------- | ---- | ----- | ------- | ------ | ------- |  |  | ---- | ---- | - | ------- | ------- | ------- |  |  | ----- | ---- | -
|                 |                           |       |         | At December 31, 2002
|                 |                           |       |         |                     
|                 |                           |       |         | Due within           |         | Due after one year    |  | Due after  |      |       |         |        |         |       |  |                       
|                 |                           |       |         | one year             |         | but within five years |  | five years |      | Total
|                 |                           |       |         |                      |         |                       |  |            |      |      
|                 |                           |       |         | Amount               |         | Yield                 |  | Amount     |      | Yield |         | Amount |         | Yield |  | Amount                 |      | Yield
|                 |                           |       |         |                      |         |                       |  |            |      |       |         |        |         |       |  |                        |      |      
|                 |                           |       |         |                      |         |                       |  |            |      |       |         |        |         |       |  | (Dollars in thousands) |      |       |         |        |         |  |  |      |      |   |         |        
|Loans:           |                           |       |         |                      |         |                       |  |            |      |       |         |        |         |       |  |                        |      |       |         |        |         |  |  |      |      |   |         |         |         |  |  |      
|                 | Residential mortgage      |       | $       | 13,136               |         |                       |  | 5.75       | %    |       | $       | 29,354 |         |       |  | 6.97                   | %    |       | $       | 75,929 |         |  |  | 4.77 | %    |   | $       | 118,419 |         |  |  | 5.42  | %   
|                 | Commercial mortgage       |       |         | 9,667                |         |                       |  | 5.25       | %    |       |         | 84,448 |         |       |  | 5.84                   | %    |       |         | 43,185 |         |  |  | 6.00 | %    |   |         | 137,300 |         |  |  | 5.85  | %   
|                 | Construction              |       |         | 45,169               |         |                       |  | 5.68       | %    |       |         | 15,770 |         |       |  | 4.52                   | %    |       |         | 3,135  |         |  |  | 4.55 | %    |   |         | 64,074  |         |  |  | 5.34  | %   
|                 | Commercial and
industrial |       |         | 36,759               |         |                       |  | 4.75       | %    |       |         | 24,034 |         |       |  | 5.62                   | %    |       |         | 10,848 |         |  |  | 4.01 | %    |   |         | 71,641  |         |  |  | 4.93  | %   
|                 | Individuals               |       |         | 8,966                |         |                       |  | 6.57       | %    |       |         | 18,712 |         |       |  | 14.54                  | %    |       |         | 1,003  |         |  |  | 6.23 | %    |   |         | 28,681  |         |  |  | 11.76 | %   
|                 |                           |       |         |                      |         |                       |  |            |      |       |         |        |         |       |  |                        |      |       |         |        |         |  |  |      |      |   |         |         |         |  |  |      
|                 |                           | Total |         |                      | 113,697 |                       |  |            | 5.42 | %     |         |        | 172,318 |       |  |                        | 6.83 | %     |         |        | 134,100 |  |  |      | 5.11 | % |         |         | 420,115 |  |  |       | 5.90 | %
|Nonaccrual loans |                           |       | 934     |                      |         |                       |  |            |      |       | 852     |        |         |       |  |                        |      |       | 37      |        |         |  |  |      |      |   | 1,823   |         |         |  |  |      
|                 |                           |       |         |                      |         |                       |  |            |      |       |         |        |         |       |  |                        |      |       |         |        |         |  |  |      |      |   |         |         |         |  |  |      
|Loans, gross     |                           | $     | 114,631 |                      |         |                       |  |            |      | $     | 173,170 |        |         |       |  |                        |      | $     | 134,137 |        |         |  |  |      |      | $ | 421,938 |         |         |  |  |      
|                 |                           |       |         |                      |         |                       |  |            |      |       |         |        |         |       |  |                        |      |       |         |        |         |  |  |      |      |   |         |         |         |  |  |      

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

Real Estate Loans.Real estate loans represent our greatest concentration
of loans, and are divided into three categories: residential mortgage,
commercial mortgage, and construction loans. We make real estate loans for
purchasing, constructing and refinancing one to four family residential, five
or more family residential and commercial properties. We also make loans
secured by real estate to commercial and individual borrowers who use the loan
proceeds for other purposes. Our real estate loans totaled $319.8 million at
December 31, 2002, representing 75.8% of our total loans outstanding. Our loan
policy requires appraisal prior to funding a real estate loan and also outlines
the requirements for appraisals on renewals.

We pursue an aggressive policy of evaluation and monitoring on any real
estate loan that becomes troubled, including reappraisal when appropriate. We
recognize and reserve for potential exposures as soon as we identify them.
However, the pace of absorption of real properties is affected both by each
propertys individual nature and characteristics, the status of the real estate
market at the time, general economic conditions and other factors that could
adversely affect our volume of non-performing real estate loans and our ability
to dispose of foreclosed properties without loss.

Residential Mortgage Loans.Many of the fixed rate one to four family
owner occupied residential mortgage loans that we make are originated for the
account of third parties. We provide our customers access to long-term
conventional real estate loans through the origination of Federal National
Mortgage Association  conforming loans for the account of third parties. Many
of these loans are closed by the third party and therefore are not shown in our
financial statements. In addition, during 2002 we began to originate loans for
sale in the secondary market. Residential mortgage loans held for sale totaled
$4.9 million at December 31, 2002. We receive income from residential mortgage
loans originated for others or for sale in the secondary market, with such fees
aggregating $1.3 million for the year ended December 31, 2002 and $1.0 million
for the year ended December 31, 2001. We anticipate that we will continue to
be an active originator of residential loans for sale and for the account of
third parties.

Residential loans are generated through our in-house staff as well as the
banks existing customer base, referrals from real estate agents and builders,
and local marketing efforts. Our lending efforts include the origination of
loans secured by first mortgages on one to four family residences and on home
equity credit lines. Our residential mortgage loans totaled $118.6 million at
December 31, 2002, and included $53.9 million in one-to-four family permanent
mortgage loans, $54.0 million in outstanding advances under home equity credit
lines, and $10.7 million of other loans secured by residential real estate. Of
our residential mortgage loans, 61% have variable rates of interest while 39%
have fixed interest rates. Substantially all of our residential mortgage loans
are secured by properties located within our market area, although we will make
loans secured by properties outside our market area to qualifying existing
customers. We believe that the amount of risk associated with this group of
loans is mitigated in part due to the type of loans involved. Historically,
the amount of losses suffered on this type of loan has been significantly less
than those loans collateralized by other types of properties.

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Our one to four family residential loans generally have maturities ranging
from 1 to 30 years. These loans are either fully amortizing with monthly
payments sufficient to repay the total amount of the loan or amortizing with a
balloon feature, typically due in fifteen years or less. We review information
concerning the income, financial condition, employment history and credit
history when evaluating the creditworthiness of an applicant for a residential
mortgage loan.

Commercial Mortgage Loans.Our commercial mortgage loans totaled $137.8
million at December 31, 2002. These loans are secured principally by
commercial buildings for office, retail, manufacturing, storage and warehouse
properties. Generally in underwriting commercial mortgage loans, we require
the personal guaranty of borrowers and a demonstrated cash
flow capability sufficient to service the debt. Loans secured by
commercial real estate may be in greater amount and involve a greater degree of
risk than one to four family residential mortgage loans, and payments on such
loans are often dependent on successful operation or management of the
properties and the underlying businesses. We make commercial mortgage loans at
both fixed and variable rates for terms generally up to 15 years. Of our
commercial mortgage loans, 39% have variable rates of interest while 61% have
fixed interest rates.

Construction Loans.We originate one to four family residential
construction loans for the construction of custom homes (where the home buyer
is the borrower), and we provide construction financing to builders. We have a
staff of lending professionals and assistants who service only our construction
loan portfolio. We generally receive a pre-arranged permanent financing
commitment from an outside banking entity prior to financing the construction
of pre-sold homes. We lend to builders who have demonstrated a favorable record
of performance and profitable operations and who are building in our market
area. We also make commercial real estate construction loans, as noted in the
preceding paragraph. We endeavor to limit our construction lending risk
through adherence to established underwriting procedures. Also, we generally
require documentation of all draw requests and utilize loan officers to inspect
the project prior to paying any draw requests from the builder. With few
exceptions, the bank requires personal guarantees and secondary sources of
repayment on construction loans. Construction loans aggregated $64.5 million
at December 31, 2002.

Commercial Loans.Commercial business lending is a primary focus of our
lending activities. At December 31, 2002, our commercial loan portfolio equaled
$71.9 million or 17.1% of total loans. Commercial loans include both secured
and unsecured loans for working capital, expansion, and other business
purposes. Short-term working capital loans generally are secured by accounts
receivable, inventory and/or equipment. The bank also makes term commercial
loans secured by equipment and real estate. Lending decisions are based on an
evaluation of the financial strength, management and credit history of the
borrower, and the quality of the collateral securing the loan. With few
exceptions, the bank requires personal guarantees and secondary sources of
repayment.

Commercial loans generally provide greater yields and re-price more
frequently than other types of loans, such as real estate loans. More frequent
re-pricing means that yields on our commercial loans adjust with changes in
interest rates.

Loans to Individuals.Loans to individuals include automobile loans, boat
and recreational vehicle financing, and miscellaneous secured and unsecured
personal loans. Consumer loans generally can carry significantly greater risks
than other loans, even if secured, if the collateral consists of rapidly
depreciating assets such as automobiles and equipment. Repossessed collateral
securing a defaulted consumer loan may not provide an adequate source of
repayment of the loan. We attempt to manage the risks inherent in consumer
lending by following established credit guidelines and underwriting practices
designed to minimize risk of loss.

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

Individual lending authorities are established by the Board of Directors
as periodically requested by Management. All individual lending authorities
are reviewed and approved at least annually by the Board of Directors.

The Board Loan Committee consists of the CEO, President, Managing SVP of
Commercial Lending, VP in charge of Credit Administration, and four outside
Directors as appointed by the Board of Directors. This Committee meets on a
monthly

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basis to review for approval all loan requests in excess of $3.0
million. As of December 31, 2002, the legal lending limit for the bank was
approximately $9.1 million.

ASSET QUALITY

We consider asset quality to be of primary importance. We employ a formal
internal loan review process to ensure adherence to the Lending Policy as
approved by the Board of Directors. It is the responsibility of each lending
officer to assign an appropriate risk grade to every loan originated. Credit
Administration, through the loan review process, validates the accuracy of the
initial risk grade assessment. In addition, as a given loans credit quality
improves or deteriorates, it is Credit Administrations responsibility to
change the borrowers risk grade accordingly. The function of determining the
allowance for loan losses is fundamentally driven by the risk grade system. As part of
the loan review function, we use a third party professional to review the
underwriting documentation and risk grading analysis. In determining the
allowance for loan losses and any resulting provision to be charged against
earnings, particular emphasis is placed on the results of the loan review
process. We also give consideration to historical loan loss experience, the
value and adequacy of collateral, economic conditions in our market area and
other factors. For loans determined to be impaired, the allowance is based on
discounted cash flows using the loans initial effective interest rate or the
fair value of the collateral for certain collateral dependent loans. This
evaluation is inherently subjective as it requires material estimates,
including the amounts and timing of future cash flows expected to be received
on impaired loans that may be susceptible to significant change. The allowance
for loan losses represents managements estimate of the appropriate level of
reserve to provide for probable losses inherent in the loan portfolio.

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

Nonperforming Assets

The table sets forth, for the period indicated, information about our
nonaccrual loans, restructured loans, total nonperforming loans (nonaccrual
loans plus restructured loans), and total nonperforming assets.

|                                                 |                            |   |                        |       |      |   |       |       |      |   |       |     |  |    |       |   |        |   |       |    | 
|------------------------------------------------ | -------------------------- | - | ---------------------- | ----- | ---- | - | ----- | ----- | ---- | - | ----- | --- |  | -- | ----- | - | ------ | - | ----- | -- | 
|                                                 |                            |   | At December 31,       
|                                                 |                            |   |                       
|                                                 |                            |   | 2002                   |       | 2001 |   | 2000  |       | 1999 |   | 1998 
|                                                 |                            |   |                        |       |      |   |       |       |      |   |      
|                                                 |                            |   | (Dollars in thousands)
|Nonaccrual loans                                 |                            | $ | 1,823                  |       |      | $ | 894   |       |      | $ | 276   |     |  | $  |      |   |        | $ | 15    |   
|Restructured loans                               |                            |   |                       |       |      |   |      |       |      |   |      |     |  |    |      |   |        |   |      |   
|                                                 |                            |   |                        |       |      |   |       |       |      |   |       |     |  |    |       |   |        |   |       |   
|                                                 | Total nonperforming loans  |   |                        | 1,823 |      |   |       | 894   |      |   |       | 276 |  |    |       |  |        |   |       | 15 | 
|Real estate owned                                |                            |   | 383                    |       |      |   | 347   |       |      |   | 4     |     |  |    |      |   |        |   |      |   
|                                                 |                            |   |                        |       |      |   |       |       |      |   |       |     |  |    |       |   |        |   |       |   
|                                                 | Total nonperforming assets |   | $                      | 2,206 |      |   | $     | 1,241 |      |   | $     | 280 |  |    | $     |  |        |   | $     | 15 | 
|                                                 |                            |   |                        |       |      |   |       |       |      |   |       |     |  |    |       |   |        |   |       |   
|Accruing loans past due
90 days or more          |                            | $ |                       |       |      | $ |      |       |      | $ | 15    |     |  | $  | 7     |   |        | $ |      |   
|Allowance for loan losses                        |                            |   | 6,342                  |       |      |   | 5,400 |       |      |   | 4,283 |     |  |    | 3,013 |   |        |   | 1,905 |   
|Nonperforming loans to period end loans          |                            |   | .43                    | %     |      |   | .25   | %     |      |   | .10   | %   |  |    | .00   | % |        |   | .01   | % 
|Allowance for loan losses to period end loans    |                            |   | 1.50                   | %     |      |   | 1.50  | %     |      |   | 1.52  | %   |  |    | 1.50  | % |        |   | 1.50  | % 
|Allowance for loan losses to
nonperforming loans |                            |   | 348                    | %     |      |   | 604   | %     |      |   | 1,552 | %   |  | NM |       |   | 12,700 | %
|Nonperforming assets to total assets             |                            |   | .36                    | %     |      |   | .26   | %     |      |   | .07   | %   |  |    | .00   | % |        |   | .01   | % 

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Our financial statements are prepared on the accrual basis of accounting,
including the recognition of interest income on loans, unless we place a loan
on nonaccrual basis. We account for loans on a nonaccrual basis when we have
serious doubts about the collectibility of principal or interest. Generally,
our policy is to place a loan on nonaccrual status when the loan becomes past
due 90 days. We also place loans on nonaccrual status in cases where we are
uncertain whether the borrower can satisfy the contractual terms of the loan
agreement. Amounts received on nonaccrual loans generally are applied first to
principal and then to interest only after all principal has been collected.
Restructured loans are those for which concessions, including the reduction of
interest rates below a rate otherwise available to that borrower or the
deferral of interest or principal, have been granted due to the borrowers
weakened financial condition. We record interest on restructured loans at the
restructured rates, as collected, when we anticipate that no loss of original
principal will occur. Potential problem loans are loans which are currently
performing and are not included in nonaccrual or restructured loans above, but
about which we have serious doubts as to the borrowers ability to comply with
present repayment terms. These loans are likely to be included later in
nonaccrual, past due or restructured loans, so they are considered by our
management in assessing the adequacy of our allowance for loan losses. At
December 31, 2002, we had identified $6.3 million of potential problem loans.

At December 31, 2002, we had $1.8 million of nonaccrual loans. At that
time, the largest nonaccrual balance to any one borrower was $475,000, with the
average balance for the 68 nonaccrual loans being $26,820. Interest on
nonaccrual loans foregone was approximately $110,000 for the year ended
December 31, 2002, $60,000 for the year ended December 31, 2001 and $4,000 for
the year ended December 31, 2000. Subsequent to December 31, 2002, a loan of
$2.0 million to a country club was placed in nonaccrual status as a result of
the borrowers filing for reorganization under Chapter 11 of the bankruptcy
code. However, the bank has a secured position and management believes there
will be no significant loss associated with this credit.

Real estate owned consists of foreclosed, repossessed and idled
properties. At December 31, 2002 real estate owned totaled $383,000 or .06% of
total assets, and consisted of four commercial and residential properties. We
have reviewed recent appraisals of these properties and believe that their fair
value, less estimated costs to sell, exceed their carrying value.

Analysis of Allowance for Loan Losses

Our allowance for loan losses is established through charges to earnings
in the form of a provision for loan losses. We increase our allowance for loan
losses by provisions charged to operations and by recoveries of amounts
previously charged off, and we reduce our allowance by loans charged off. We
evaluate the adequacy of the allowance at least quarterly. In addition, on a
quarterly basis our Board of Directors reviews our loan portfolio, conducts an
evaluation of our credit quality and reviews our computation of the loan loss
provision, recommending changes as may be required. In evaluating the adequacy
of the allowance, we consider the growth, composition and industry
diversification of the portfolio, historical loan loss experience, current
delinquency levels, adverse situations that may affect a borrowers ability to
repay, estimated value of any underlying collateral, prevailing economic
conditions and other relevant factors deriving from our limited history of
operations. Because we have a limited history of our own, we also consider the
loss experience and allowance levels of other similar banks and the historical
experience encountered by our management and senior lending officers prior to
joining us. In addition, regulatory agencies, as an integral part of their
examination process, periodically review our allowance for loan losses and may
require us to make adjustments for estimated losses based upon judgments
different from those of our management.

We use our risk grading program, as described under ASSET QUALITY, to
facilitate our evaluation of probable inherent loan losses and the adequacy of
the allowance for loan losses. In this program, risk grades are initially
assigned by loan officers, reviewed by Credit Administration, and tested by our
internal auditor and by an independent professional. The testing program
includes an evaluation of a sample of new loans, large loans, loans that are
identified as having potential credit weaknesses, loans past due 90 days or
more, and nonaccrual loans. We strive to maintain our loan portfolio in
accordance with conservative loan underwriting policies that result in loans
specifically tailored to the needs of our market area. Every effort is made to
identify and minimize the credit risks associated with such lending strategies.
We have no foreign loans and we do not engage in lease financing or highly
leveraged transactions.

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

Loans classified as substandard are those loans with clear and defined
weaknesses such as unfavorable financial ratios, uncertain repayment sources or
poor financial condition that may jeopardize the liquidation of the debt. They
are

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

Growth in loans outstanding has, throughout our history, been the primary
reason for increases in our allowance for loan losses and the resultant
provisions for loan losses necessary to provide for those increases. This
growth has been spread among our major loan categories, with the concentrations
of major loan categories being relatively consistent in recent years. Between
December 31, 1997 and December 31, 2002, the range of each major category of
loans as a percentage of total loans outstanding is as follows: residential
mortgage loans  28.1% to 34.4%; commercial mortgage loans  19.0% to 32.7%;
construction loans   12.0% to 18.7%; commercial and industrial loans  17.0%
to 24.6%; and loans to individuals  6.9% to 10.2%. For all full fiscal years
through 2000, our loan loss experience was similar to that of other new banks,
with net loan charge-offs in each year of less than .10% of average loans
outstanding. Our percentage of net loan charge-offs to average loans
outstanding was .38% for the year ended December 31, 2001. The higher level of
net loan charge-offs during 2001 was a significant factor contributing to the
increased provision for loan losses compared to 2000. Our percentage of net
loan charge-offs to average loans outstanding dropped to .18% for 2002, and as
a result our provision for loan losses for the year was reduced from the 2001
amount. Our allowance for loan losses at December 31, 2002 of $6.3 million
represents 1.50% of total loans and 348% of nonperforming loans. As discussed
under Nonperforming Assets, subsequent to the end of 2002 a loan in the
amount of $2.0 million has been placed on nonaccrual status. If this loan had
been classified as nonaccrual at December 31, 2002, our percentage of
nonperforming loans to total loans would have increased from .43% to.91%.

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

The following table describes the allocation of the allowance for loan
losses among various categories of loans and certain other information for the
dates indicated. The allocation is made for analytical purposes only and is not
necessarily indicative of the categories in which future losses may occur.

|                                |  |                        |       |          |  |            |        |          |  |        |       |            |  |  |       |   |  |            |       |  |  |  |       |  
|------------------------------- |  | ---------------------- | ----- | -------- |  | ---------- | ------ | -------- |  | ------ | ----- | ---------- |  |  | ----- | - |  | ---------- | ----- |  |  |  | ----- | -
|                                |  | At December 31,       
|                                |  |                       
|                                |  | 2002                   |       | 2001     |  | 2000      
|                                |  |                        |       |          |  |           
|                                |  |                        |       |          |  | % of Total |        |          |  |        |       | % of Total |  |  |       |   |  | % of Total
|                                |  | Amount                 |       | Loans(1) |  | Amount     |        | Loans(1) |  | Amount |       | Loans (1) 
|                                |  |                        |       |          |  |            |        |          |  |        |       |           
|                                |  | (Dollars in thousands)
|Residential mortgage loans      |  | $                      | 350   |          |  |            | 28.1   | %        |  | $      | 550   |            |  |  | 29.2  | % |  | $          | 350   |  |  |  | 29.9  | %
|Commercial mortgage loans       |  |                        | 1,500 |          |  |            | 32.7   | %        |  |        | 825   |            |  |  | 24.8  | % |  |            | 525   |  |  |  | 21.0  | %
|Construction loans              |  |                        | 1,100 |          |  |            | 15.3   | %        |  |        | 1,000 |            |  |  | 17.1  | % |  |            | 900   |  |  |  | 18.7  | %
|Commercial and
industrial loans |  |                        | 1,000 |          |  |            | 17.0   | %        |  |        | 1,100 |            |  |  | 21.6  | % |  |            | 900   |  |  |  | 21.4  | %
|Loans to individuals            |  |                        | 1,225 |          |  |            | 6.9    | %        |  |        | 925   |            |  |  | 7.3   | % |  |            | 650   |  |  |  | 9.0   | %
|Unallocated                     |  |                        | 1,167 |          |  |            |       | %        |  |        | 1,000 |            |  |  |      | % |  |            | 958   |  |  |  |      | %
|                                |  |                        |       |          |  |            |        |          |  |        |       |            |  |  |       |   |  |            |       |  |  |  |       |  
|Total                           |  | $                      | 6,342 |          |  |            | 100.00 | %        |  | $      | 5,400 |            |  |  | 100.0 | % |  | $          | 4,283 |  |  |  | 100.0 | %
|                                |  |                        |       |          |  |            |        |          |  |        |       |            |  |  |       |   |  |            |       |  |  |  |       |  

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|                                |       |   |                        |       |          |  |            |       |          |   |     |       |            |  |      |       |  
|------------------------------- | ----- | - | ---------------------- | ----- | -------- |  | ---------- | ----- | -------- | - | --- | ----- | ---------- |  | ---- | ----- | -
|                                |       |   | At December 31,       
|                                |       |   |                       
|                                |       |   | 1999                   |       | 1998    
|                                |       |   |                        |       |         
|                                |       |   |                        |       |          |  | % of Total |       |          |   |     |       | % of Total
|                                |       |   | Amount                 |       | Loans(1) |  | Amount     |       | Loans(1)
|                                |       |   |                        |       |          |  |            |       |         
|                                |       |   | (Dollars in thousands)
|Residential mortgage loans      |       | $ | 125                    |       |          |  | 32.6       | %     |          | $ | 125 |       |            |  | 32.5 | %    
|Commercial mortgage loans       |       |   | 425                    |       |          |  | 19.1       | %     |          |   | 375 |       |            |  | 20.5 | %    
|Construction loans              |       |   | 750                    |       |          |  | 16.2       | %     |          |   | 250 |       |            |  | 13.0 | %    
|Commercial and
industrial loans |       |   | 725                    |       |          |  | 22.3       | %     |          |   | 450 |       |            |  | 23.8 | %    
|Loans to individuals            |       |   | 225                    |       |          |  | 9.8        | %     |          |   | 225 |       |            |  | 10.2 | %    
|Unallocated                     |       |   | 763                    |       |          |  |           | %     |          |   | 480 |       |            |  |     | %    
|                                |       |   |                        |       |          |  |            |       |          |   |     |       |            |  |      |      
|                                | Total |   | $                      | 3,013 |          |  |            | 100.0 | %        |   | $   | 1,905 |            |  |      | 100.0 | %
|                                |       |   |                        |       |          |  |            |       |          |   |     |       |            |  |      |      



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

The following table presents for the periods indicated information
regarding changes in our allowance for loan losses:

|                                                           |                                 |                   |         |                                        |     |      |         |      |       |      |         |      |     |   |         |    |    |   |         |    |    | 
|---------------------------------------------------------- | ------------------------------- | ----------------- | ------- | -------------------------------------- | --- | ---- | ------- | ---- | ----- | ---- | ------- | ---- | --- | - | ------- | -- | -- | - | ------- | -- | -- | 
|                                                           |                                 |                   |         | At or for the Years Ended December 31,
|                                                           |                                 |                   |         |                                       
|                                                           |                                 |                   |         | 2002                                   |     | 2001 |         | 2000 |       | 1999 |         | 1998
|                                                           |                                 |                   |         |                                        |     |      |         |      |       |      |         |     
|                                                           |                                 |                   |         | (Dollars in thousands)                
|Balance at beginning of period                             |                                 | $                 | 5,400   |                                        |     | $    | 4,283   |      |       | $    | 3,013   |      |     | $ | 1,905   |    |    | $ | 725     |   
|                                                           |                                 |                   |         |                                        |     |      |         |      |       |      |         |      |     |   |         |    |    |   |         |   
|Charge-offs:                                               |                                 |                   |         |                                        |     |      |         |      |       |      |         |      |     |   |         |    |    |   |         |   
|                                                           | Residential mortgage loans      |                   |         | 82                                     |     |      |         | 115  |       |      |         |     |     |   |         | 28 |    |   |         |   |   
|                                                           | Commercial mortgage loans       |                   |         |                                       |     |      |         | 53   |       |      |         |     |     |   |         |   |    |   |         |   |   
|                                                           | Construction loans              |                   |         | 113                                    |     |      |         |     |       |      |         |     |     |   |         |   |    |   |         | 20 |   
|                                                           | Commercial and industrial loans |                   |         | 90                                     |     |      |         | 416  |       |      |         | 122  |     |   |         | 5  |    |   |         |   |   
|                                                           | Loans to individuals            |                   |         | 473                                    |     |      |         | 663  |       |      |         | 90   |     |   |         | 14 |    |   |         | 2  |   
|                                                           |                                 |                   |         |                                        |     |      |         |      |       |      |         |      |     |   |         |    |    |   |         |   
|                                                           |                                 | Total charge-offs |         |                                        | 758 |      |         |      | 1,247 |      |         |      | 212 |   |         |    | 47 |   |         |    | 22 | 
|                                                           |                                 |                   |         |                                        |     |      |         |      |       |      |         |      |     |   |         |    |    |   |         |   
|Recoveries:                                                |                                 |                   |         |                                        |     |      |         |      |       |      |         |      |     |   |         |    |    |   |         |   
|                                                           | Construction loans              |                   |         |                                       |     |      |         |     |       |      |         |     |     |   |         | 20 |    |   |         |   |   
|                                                           | Commercial and industrial loans |                   |         | 15                                     |     |      |         | 29   |       |      |         | 1    |     |   |         |   |    |   |         |   |   
|                                                           | Loans to individuals            |                   |         | 30                                     |     |      |         | 15   |       |      |         | 1    |     |   |         |   |    |   |         | 2  |   
|                                                           |                                 |                   |         |                                        |     |      |         |      |       |      |         |      |     |   |         |    |    |   |         |   
|                                                           |                                 | Total recoveries  |         |                                        | 45  |      |         |      | 44    |      |         |      | 2   |   |         |    | 20 |   |         |    | 2  | 
|                                                           |                                 |                   |         |                                        |     |      |         |      |       |      |         |      |     |   |         |    |    |   |         |   
|Net charge-offs                                            |                                 |                   | (713    | )                                      |     |      | (1,203  | )    |       |      | (210    | )    |     |   | (27     | )  |    |   | (20     | ) 
|Provision for loan losses                                  |                                 |                   | 1,655   |                                        |     |      | 2,320   |      |       |      | 1,480   |      |     |   | 1,135   |    |    |   | 1,200   |   
|                                                           |                                 |                   |         |                                        |     |      |         |      |       |      |         |      |     |   |         |    |    |   |         |   
|Balance at end of period                                   |                                 | $                 | 6,342   |                                        |     | $    | 5,400   |      |       | $    | 4,283   |      |     | $ | 3,013   |    |    | $ | 1,905   |   
|                                                           |                                 |                   |         |                                        |     |      |         |      |       |      |         |      |     |   |         |    |    |   |         |   
|Total loans outstanding                                    |                                 | $                 | 421,938 |                                        |     | $    | 360,288 |      |       | $    | 282,161 |      |     | $ | 200,312 |    |    | $ | 127,095 |   
|Average loans outstanding                                  |                                 | $                 | 395,745 |                                        |     | $    | 318,696 |      |       | $    | 240,888 |      |     | $ | 160,718 |    |    | $ | 89,442  |   
|Allowance for loan losses to
loans outstanding             |                                 |                   | 1.50    | %                                      |     |      | 1.50    | %    |       |      | 1.52    | %    |     |   | 1.50    | %  |    |   | 1.50    | % 
|Ratio of net loan charge-offs to
average loans outstanding |                                 |                   | .18     | %                                      |     |      | .38     | %    |       |      | .09     | %    |     |   | .02     | %  |    |   | .02     | % 

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Investment Activities

Our investment portfolio plays a primary role in management of liquidity
and interest rate sensitivity and, therefore, is managed in the context of the
overall balance sheet. The securities portfolio generates a substantial
percentage of our interest income and serves as a necessary source of
liquidity. We account for investment securities as follows:

     Held to Maturity.Debt securities for which we have the positive
intent and ability to hold until maturity are classified as held to maturity
and are carried at their remaining unpaid principal balance, net of
unamortized premiums or unaccreted discounts. Premiums are amortized and
discounts are accreted using a method that approximates the level interest
yield method over the estimated remaining term of the underlying security.

     Available for Sale.Debt and equity securities that will be held for
indeterminate periods of time, including securities that we may sell in
response to changes in market interest or prepayment rates, needs for
liquidity and changes in the availability of and the yield of alternative
investments are classified as available for sale. We carry these investments
at market value, which we generally determine using published quotes as of the
close of business. Unrealized gains and losses are excluded from our earnings
and are reported, net of applicable income tax, as a component of accumulated
other comprehensive income or loss in stockholders equity until realized.

Management attempts to deploy investable funds into instruments that are
expected to increase the overall return of the portfolio given the current
assessment of economic and financial conditions, while maintaining acceptable
levels of capital, and interest rate and liquidity risk.

The following table summarizes the amortized costs, gross unrealized gains
and losses and the resulting market value of securities at the dates indicated:

|                  |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |        | 
|----------------- | ------------------------------ | ------------------------ | ------ | ---------------------- | ------ | ---------- | ----- | ---------- | ----- | ------ | -- | - | -- | - | ------ | - | ------ | 
|                  |                                |                          |        |                        |        |            |       | Gross      |       | Gross  |    |   |    |  
|                  |                                |                          |        | Amortized              |        | Unrealized |       | Unrealized |       | Market
|                  |                                |                          |        | Cost                   |        | Gains      |       | Losses     |       | Value 
|                  |                                |                          |        |                        |        |            |       |            |       |       
|                  |                                |                          |        | (Dollars in thousands)
|December 31, 2002 |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |  
|                  | Securities available for sale: |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |       
|                  |                                | U.S. Government agencies |        | $                      | 21,254 |            |       | $          | 901   |        |    | $ |   |   |        | $ | 22,155 | 
|                  |                                | Mortgage-backed          |        |                        | 67,618 |            |       |            | 1,802 |        |    |   |   |   |        |   | 69,420 | 
|                  |                                | Other                    |        |                        | 5,355  |            |       |            |      |        |    |   |   |   |        |   | 5,355  | 
|                  |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |        | 
|                  |                                | $                        | 94,227 |                        |        | $          | 2,703 |            |       | $      |   |   |    | $ | 96,930 |  
|                  |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |        | 
|                  | Securities held to maturity:   |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |       
|                  |                                | U.S. Government agencies |        | $                      | 44,000 |            |       | $          | 540   |        |    | $ |   |   |        | $ | 44,540 | 
|                  |                                | Mortgage-backed          |        |                        | 421    |            |       |            | 22    |        |    |   |   |   |        |   | 443    | 
|                  |                                | Municipals               |        |                        | 328    |            |       |            | 8     |        |    |   |   |   |        |   | 336    | 
|                  |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |        | 
|                  |                                | $                        | 44,749 |                        |        | $          | 570   |            |       | $      |   |   |    | $ | 45,319 |  
|                  |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |        | 
|December 31, 2001 |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |  
|                  | Securities available for sale: |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |       
|                  |                                | U.S. Government agencies |        | $                      | 22,172 |            |       | $          | 1,162 |        |    | $ |   |   |        | $ | 23,334 | 
|                  |                                | Mortgage-backed          |        |                        | 4,271  |            |       |            | 147   |        |    |   |   |   |        |   | 4,418  | 
|                  |                                | Other                    |        |                        | 2,926  |            |       |            |      |        |    |   |   |   |        |   | 2,926  | 
|                  |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |        | 
|                  |                                | $                        | 29,369 |                        |        | $          | 1,309 |            |       | $      |   |   |    | $ | 30,678 |  
|                  |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |        | 
|                  | Securities held to maturity:   |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |       
|                  |                                | U.S. Government agencies |        | $                      | 33,500 |            |       | $          | 664   |        |    | $ | 2  |   |        | $ | 34,162 | 
|                  |                                | Mortgage-backed          |        |                        | 1,029  |            |       |            | 34    |        |    |   |   |   |        |   | 1,063  | 
|                  |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |        | 
|                  |                                | $                        | 34,529 |                        |        | $          | 698   |            |       | $      | 2  |   |    | $ | 35,225 |  
|                  |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |        | 
|December 31, 2000 |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |  
|                  | Securities available for sale: |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |       
|                  |                                | U.S. Government agencies |        | $                      | 31,663 |            |       | $          | 480   |        |    | $ | 50 |   |        | $ | 32,093 | 
|                  |                                | Mortgage-backed          |        |                        | 5,970  |            |       |            | 83    |        |    |   | 6  |   |        |   | 6,047  | 
|                  |                                | Other                    |        |                        | 865    |            |       |            |      |        |    |   |   |   |        |   | 865    | 
|                  |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |        | 
|                  |                                | $                        | 38,498 |                        |        | $          | 563   |            |       | $      | 56 |   |    | $ | 39,005 |  
|                  |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |        | 
|                  | Securities held to maturity:   |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |       
|                  |                                | U.S. Government agencies |        | $                      | 18,535 |            |       | $          | 196   |        |    | $ | 34 |   |        | $ | 18,697 | 
|                  |                                | Mortgage-backed          |        |                        | 1,709  |            |       |            | 19    |        |    |   | 6  |   |        |   | 1,722  | 
|                  |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |        | 
|                  |                                | $                        | 20,244 |                        |        | $          | 215   |            |       | $      | 40 |   |    | $ | 20,419 |  
|                  |                                |                          |        |                        |        |            |       |            |       |        |    |   |    |   |        |   |        | 

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The following table presents the carrying values, fair values, intervals
of maturities or repricings, and weighted average yields of our investment
portfolio at December 31, 2002:

|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |   |      |          |   | 
|------------------------------ | ----------------------------------- | ----------------------------------- | ----------------------------------- |  | ------ | ---------------------- | ------ | ----- | ------ | -------- | ---- | - | ---- | -------- | - | 
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |   |      | Weighted
|                               |                                     |                                     |                                     |  |        | Amortized              |        | Fair  |        | Average/
|                               |                                     |                                     |                                     |  |        | Cost                   |        | Value |        | Yield   
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |         
|                               |                                     |                                     |                                     |  |        | (Amounts in thousands)
|Securities available for sale: |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  
|                               | U.S. Government agencies            |                                     |                                     |  |        |                        |        |       |        |          |      |   |     
|                               |                                     |                                     | Due within one year                 |  | $      | 500                    |        |       | $      | 514      |      |   |      | 5.84     | %
|                               |                                     |                                     | Due after one but within five years |  |        | 7,000                  |        |       |        | 7,376    |      |   |      | 6.61     | %
|                               |                                     |                                     | Due after five but within ten years |  |        | 3,701                  |        |       |        | 4,105    |      |   |      | 6.30     | %
|                               |                                     |                                     | Due after ten years                 |  |        | 10,053                 |        |       |        | 10,160   |      |   |      | 6.78     | %
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  
|                               |                                     |                                     | 21,254                              |  |        |                        | 22,155 |       |        |          | 6.61 | %
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  
|                               | Mortgage-backed                     |                                     |                                     |  |        |                        |        |       |        |          |      |   |     
|                               |                                     |                                     | Due after one but within five years |  |        | 93                     |        |       |        | 112      |      |   |      | 4.63     | %
|                               |                                     |                                     | Due after five but within ten years |  |        | 2,586                  |        |       |        | 2,737    |      |   |      | 6.13     | %
|                               |                                     |                                     | Due after ten years                 |  |        | 64,939                 |        |       |        | 66,571   |      |   |      | 5.28     | %
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  
|                               |                                     |                                     | 67,618                              |  |        |                        | 69,420 |       |        |          | 5.32 | %
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  
|                               | Other                               |                                     |                                     |  |        |                        |        |       |        |          |      |   |     
|                               |                                     |                                     | Due after ten years                 |  |        | 5,355                  |        |       |        | 5,355    |      |   |      | 3.91     | %
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  
|                               | Total securities available for sale |                                     |                                     |  |        |                        |        |       |        |          |      |   |     
|                               |                                     |                                     | Due within one year                 |  |        | 500                    |        |       |        | 514      |      |   |      | 5.84     | %
|                               |                                     |                                     | Due after one but within five years |  |        | 7,093                  |        |       |        | 7,488    |      |   |      | 6.58     | %
|                               |                                     |                                     | Due after five but within ten years |  |        | 6,287                  |        |       |        | 6,842    |      |   |      | 6.23     | %
|                               |                                     |                                     | Due after ten years                 |  |        | 80,347                 |        |       |        | 82,086   |      |   |      | 5.38     | %
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  
|                               |                                     | $                                   | 94,227                              |  |        | $                      | 96,930 |       |        |          | 5.54 | %
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  
|Securities held to maturity:   |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  
|                               | U. S. Government agencies           |                                     |                                     |  |        |                        |        |       |        |          |      |   |     
|                               |                                     |                                     | Due within one year                 |  | $      | 1,000                  |        |       | $      | 1,001    |      |   |      | 6.00     | %
|                               |                                     |                                     | Due after one but within five years |  |        | 5,000                  |        |       |        | 5,202    |      |   |      | 6.91     | %
|                               |                                     |                                     | Due after ten years                 |  |        | 38,000                 |        |       |        | 38,337   |      |   |      | 5.94     | %
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  
|                               |                                     |                                     | 44,000                              |  |        |                        | 44,540 |       |        |          | 6.05 | %
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  
|                               | Mortgage-backed                     |                                     |                                     |  |        |                        |        |       |        |          |      |   |     
|                               |                                     | Due after one but within five years |                                     |  | 180    |                        |        |       | 201    |          |      |   | 5.57 | %       
|                               |                                     | Due after five but within ten years |                                     |  | 241    |                        |        |       | 242    |          |      |   | 7.25 | %       
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  
|                               |                                     |                                     | 421                                 |  |        |                        | 443    |       |        |          | 6.53 | %
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  
|                               | State and local governments(1)      |                                     |                                     |  |        |                        |        |       |        |          |      |   |     
|                               |                                     | Due after one but within five years |                                     |  | 328    |                        |        |       | 336    |          |      |   | 5.44 | %       
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  
|                               | Total securities held to maturity   |                                     |                                     |  |        |                        |        |       |        |          |      |   |     
|                               |                                     | Due within one year                 |                                     |  | 1,000  |                        |        |       | 1,001  |          |      |   | 6.00 | %       
|                               |                                     | Due after one but within five years |                                     |  | 5,508  |                        |        |       | 5,739  |          |      |   | 6.78 | %       
|                               |                                     | Due after five but within ten years |                                     |  | 241    |                        |        |       | 242    |          |      |   | 7.25 | %       
|                               |                                     | Due after ten years                 |                                     |  | 38,000 |                        |        |       | 38,337 |          |      |   | 5.94 | %       
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  
|                               |                                     | $                                   | 44,749                              |  |        | $                      | 45,319 |       |        |          | 6.05 | %
|                               |                                     |                                     |                                     |  |        |                        |        |       |        |          |      |  



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

At December 31, 2002, there were no securities of any issuer (other than
governmental agencies) that exceeded 10% of the banks stockholders equity.

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Derivative Financial Instruments

A derivative is a financial instrument that derives its cash flows, and
therefore its value, by reference to an underlying instrument, index or
reference rate. These instruments primarily consist of interest rate swaps,
caps, floors, financial forward and futures contracts and options written or
purchased. Derivative contracts are written in amounts referred to as notional
amounts. Notional amounts only provide the basis for calculating payments
between counterparties and do not represent amounts to be exchanged between
parties and are not a measure of financial risks. Credit risk arises when
amounts receivable from a counterparty exceed amounts payable. We control our
risk of loss on derivative contracts by subjecting counterparties to credit
reviews and approvals similar to those used in making loans and other
extensions of credit.

Late in 2000, in anticipation of declining interest rates, we bought an
interest rate floor contract with a notional amount of $20 million, which we
subsequently sold in 2001. We recognized income aggregating $383,000 on this
floor contract in 2001, including the gain realized upon its disposal, in
non-interest income.

We have also used interest rate swaps in the management of interest rate
risk. Interest rate swaps are contractual agreements between two parties to
exchange a series of cash flows representing interest payments. A swap allows
both parties to alter the repricing characteristics of assets or liabilities
without affecting the underlying principal positions. Through the use of a
swap, assets and liabilities may be transformed from fixed to floating rates,
from floating rates to fixed rates, or from one type of floating rate to
another. Swap terms generally range from one year to ten years depending on
the need. At
December 31, 2002, swap derivatives with a total notional value of $35.0
million, with terms ranging up to three years, were outstanding.

The net interest payable or receivable on interest rate swaps that are
designated as hedges is accrued and recognized as an adjustment to the interest
income or expense of the related asset or liability. Gains and losses from
early terminations of derivatives are deferred and amortized as yield
adjustments over the shorter of the remaining term of the hedged asset or
liability or the remaining term of the derivative instrument. Upon disposition
or settlement of the asset or liability being hedged, deferral accounting is
discontinued and any gains or losses are recognized in income. Derivative
financial instruments that fail to qualify as a hedge are carried at fair value
with gains and losses recognized in current earnings.

The following table sets forth certain information concerning our interest rate
swaps at December 31, 2002:

|                                       |                       |                        |         |   | 
|-------------------------------------- | --------------------- | ---------------------- | ------- | - | 
|Type                                   |                       | (Dollars in thousands)
|                                       |                       |                       
|Receive fixed swaps (notional amounts) |                       | $                      | 35,000  |  
|Receive rate                           |                       |                        | 6.46    | %
|Pay rate (daily average prime)         |                       |                        | 4.25    | %
|Fair value                             |                       | $                      | 1,409   |  
|                                      
|                                       | Year-to-date
Activity |                        |         |   | 
|                                       |                      
|Balance, December 31, 2001             |                       | $                      |        |  
|Additions                              |                       |                        | 50,000  |  
|Maturities/amortizations               |                       |                        |        |  
|Sales/terminations                     |                       |                        | (15,000 | )
|                                       |                       |                        |         |  
|Balance, December 31, 2002             |                       | $                      | 35,000  |  
|                                       |                       |                        |         |  
|                                      
|Maturity
Schedule                      |                       |                        |         |  
|                                       |                      
|One to five years                      |                       | $                      | 35,000  |  

The $35.0 million notional amount of interest rate swaps outstanding at
December 31, 2002 are being used to hedge prime-rate based commercial loans.
We do not utilize derivatives for trading purposes.

Although off-balance sheet derivative financial instruments do not expose
the company to credit risk equal to the notional amount, such agreements
generate credit risk to the extent of the fair value gain in an off-balance
sheet derivative financial instrument if the counterparty fails to perform.
Such risk is minimized through the creditworthiness of the counterparties and
the consistent monitoring of these agreements. The counterparties to these
arrangements were primarily large commercial banks and investment banks. Where
appropriate, master netting agreements are arranged or collateral is

Page 38



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##### 



obtained
in the form of rights to securities. At December 31, 2002, our interest rate
swaps reflected an unrealized gain of $1.4 million, which included unrealized
gains from the early termination of derivatives in the amount of $156,000.
This gain is being amortized into income over the life of the original contract
term.

Other risks associated with interest-sensitive derivatives include the
effect on fixed rate positions during periods of changing interest rates.
Indexed amortizing swaps notional amounts and maturities change based on
certain interest rate indices. Generally, as rates fall the notional amounts
decline more rapidly, and as rates increase notional amounts decline more
slowly. At December 31, 2002, we had no indexed amortizing swaps outstanding.
Under unusual circumstances, financial derivatives also increase liquidity
risk, which could result from an environment of rising interest rates in which
derivatives produce negative cash flows while being offset by increased cash flows
from variable rate loans. Such risk is considered insignificant due to the
relatively small derivative positions we hold.

Sources of Funds

Deposit Activities

We provide a range of deposit services, including non-interest-bearing
checking accounts, interest-bearing checking and savings accounts, money market
accounts and certificates of deposit. These accounts generally earn interest
at rates established by management based on competitive market factors and our
desire to increase or decrease certain types or maturities of deposits. We
have used brokered deposits and out of market deposits as funding sources. As
of December 31, 2002, we have $59.6 million of brokered deposits and $56.1
million of out of market deposits. However, we strive to establish customer
relations to attract core deposits in non-interest-bearing transactional
accounts and thus to reduce our costs of funds.

The following table sets forth for the periods indicated the average
balances outstanding and average interest rates for each of our major
categories of deposits.

|                                               |                                 |   |                                  |         |         |  |         |      |         |   |         |         |         |  |      |      |   |   |         |         |  |  |      |      |  
|---------------------------------------------- | ------------------------------- | - | -------------------------------- | ------- | ------- |  | ------- | ---- | ------- | - | ------- | ------- | ------- |  | ---- | ---- | - | - | ------- | ------- |  |  | ---- | ---- | -
|                                               |                                 |   | For the Years Ended December 31,
|                                               |                                 |   |                                 
|                                               |                                 |   | 2002                             |         | 2001    |  | 2000   
|                                               |                                 |   |                                  |         |         |  |        
|                                               |                                 |   | Average                          |         | Average |  | Average |      | Average |   | Average |         | Average
|                                               |                                 |   | Balance                          |         | Rate    |  | Balance |      | Rate    |   | Balance |         | Rate   
|                                               |                                 |   |                                  |         |         |  |         |      |         |   |         |         |        
|                                               |                                 |   | (Dollars in thousands)          
|Interest-bearing NOW and money market accounts |                                 | $ | 102,427                          |         |         |  | 1.31    | %    |         | $ | 80,695  |         |         |  | 2.65 | %    |   | $ | 52,144  |         |  |  | 3.99 | %   
|Time deposits greater than $100,000            |                                 |   | 114,971                          |         |         |  | 3.96    | %    |         |   | 96,542  |         |         |  | 6.00 | %    |   |   | 68,553  |         |  |  | 6.25 | %   
|Other time deposits                            |                                 |   | 172,456                          |         |         |  | 3.62    | %    |         |   | 155,979 |         |         |  | 5.81 | %    |   |   | 130,752 |         |  |  | 6.29 | %   
|                                               |                                 |   |                                  |         |         |  |         |      |         |   |         |         |         |  |      |      |   |   |         |         |  |  |      |     
|                                               | Total interest-bearing deposits |   |                                  | 389,854 |         |  |         | 3.11 | %       |   |         | 333,216 |         |  |      | 5.10 | % |   |         | 251,449 |  |  |      | 5.80 | %
|Demand and other non-interest-bearing deposits |                                 |   | 34,766                           |         |         |  |         |      |         |   | 25,749  |         |         |  |      |      |   |   | 20,932  |         |  |  |      |     
|                                               |                                 |   |                                  |         |         |  |         |      |         |   |         |         |         |  |      |      |   |   |         |         |  |  |      |     
|                                               | Total average deposits          |   | $                                | 424,620 |         |  |         | 2.86 | %       |   | $       | 358,965 |         |  |      | 4.73 | % |   | $       | 272,381 |  |  |      | 5.36 | %
|                                               |                                 |   |                                  |         |         |  |         |      |         |   |         |         |         |  |      |      |   |   |         |         |  |  |      |     

The following table presents the amounts and maturities of our
certificates of deposit with balances of $100,000 or more at December 31, 2002:

|                    |                        |       |   |                      |         | 
|------------------- | ---------------------- | ----- | - | -------------------- | ------- | 
|                    |                        |       |   | At December 31, 2002
|                    |                        |       |   |                     
|                    |                        |       |   | (In thousands)      
|Remaining maturity: |                        |       |   |                     
|                    | Less than three months |       | $ | 29,180               |        
|                    | Three to six months    |       |   | 35,976               |        
|                    | Six to twelve months   |       |   | 21,176               |        
|                    | Over twelve months     |       |   | 45,179               |        
|                    |                        |       |   |                     
|                    |                        | Total |   | $                    | 131,511 | 
|                    |                        |       |   |                     

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Borrowings

As an additional source of funding, we use advances from the Federal Home
Loan Bank of Atlanta. As set forth in the following table, outstanding advances
at December 31, 2002 totaled $75.5 million, and are secured by loans with a
carrying amount of $92.2 million, which approximates market value, and
investment securities with a market value of $55.4 million. Available
additional borrowings, based on the collateral value of these assets, was $36.5
million at December 31, 2002.

|                 |  |          |      |        |  |                |        | 
|---------------- |  | -------- | ---- | ------ |  | -------------- | ------ | 
|                 |  | Interest |      |        |  |               
|Year of Maturity |  | Rate     |      | Amount
|                 |  |          |      |       
|                 |  |          |      |        |  | (In thousands)
|2003             |  |          | 3.13 | %      |  | $              | 20,526 | 
|2004             |  |          | 5.35 | %      |  |                | 10,000 | 
|2005             |  |          | 3.74 | %      |  |                | 5,000  | 
|2006             |  |          |     | %      |  |                |       | 
|2007             |  |          | 3.13 | %      |  |                | 10,000 | 
|Thereafter       |  |          | 3.79 | %      |  |                | 30,000 | 
|                 |  |          |      |        |  |                |        | 
|                 |  |          |      |        |  | $              | 75,526 | 
|                 |  |          |      |        |  |                |        | 

In addition to the Federal Home Loan Bank advances, we also had a
repurchase agreement with an outstanding balance of $20.2 million at December
31, 2002. Securities sold under agreements to repurchase generally mature
within ninety days from the transaction date and are collateralized by U.S.
Government Agency obligations. The bank has repurchase lines of credit
aggregating $100.0 million from various institutions. The repurchases must be
adequately collateralized.

In addition, we may purchase federal funds through unsecured federal funds
lines of credit with various banks aggregating $27.0 million. These lines are
intended for short-term borrowings and are subject to restrictions limiting the
frequency and term of advances. These lines of credit are payable on demand
and bear interest based upon the daily federal funds rate. We had no
borrowings outstanding under these lines as of December 31, 2002.

Borrowings that are scheduled to be repaid within one year are classified
as short-term borrowings. For 2002 and 2001, average outstanding short-term
borrowings were $35.1 million and $6.8 million, respectively, the largest
balances outstanding at any month end were $50.0 million and $22.7 million,
respectively, and the average interest rate paid during the year was 3.62% for
2002 and 4.15% for 2001.

In February of 2002, Southern Community Capital Trust I (the Trust), a
newly formed subsidiary of the company, issued 1,725,000 Cumulative Convertible
Trust Preferred Securities (the Securities), generating total proceeds of
$17.3 million. The Securities pay distributions at an annual rate of 7.25% and
mature on March 31, 2032. The Securities began paying distributions quarterly
on March 31, 2002. The company has fully and unconditionally guaranteed the
obligations of the Trust. The Securities can be converted at any time into
common stock at a price of $8.26 (the Conversion Price) or approximately
1.211 shares of the companys common stock for each convertible preferred
security. The Securities issued by the Trust are redeemable in whole or in
part at any time after April 1, 2007. The Securities are also redeemable in
whole at any time prior to March 31, 2007 as long as the trading price of our
common stock has been at least 125% of the Conversion Price for a period of
twenty consecutive trading days ending within five days of the notice of
redemption. The proceeds from the Securities were utilized to purchase
convertible junior subordinated debentures from us under the same terms and
conditions as the Securities. The company has the right to defer payment of
interest on the debentures at any time and from time to time for a period not
exceeding five years, provided that no deferral period extend beyond the stated
maturities of the debentures. Such deferral of interest payments by the
company will result in a deferral of distribution payments on the related
Securities. Should the company defer the payment of interest on the
debentures, the company will be precluded from the payment of cash dividends to
shareholders. Subject to certain limitations, the Securities qualify as Tier 1
capital of the company for regulatory capital purposes. The principal use of
the net proceeds from the sale of the convertible debentures is to infuse
capital to our bank subsidiary, Southern Community Bank and Trust, to fund its
operations and continued expansion, and to maintain the banks status as well
capitalized under regulatory guidelines.

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##### 



RECENT ACCOUNTING PRONOUNCEMENTS

A discussion of recent accounting pronouncements is presented in Note 2 to
our consolidated financial statements, which are presented under Item 8 in this
Form 10-K.

In June 2002, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 146, Accounting for
Costs Associated with Exit or Disposal Activities. This statement addresses
financial accounting and reporting for costs associated with exit or disposal
activities and supersedes Emerging Issues Task Force (EITF) Issue No. 94-3,
Liability Recognition for Certain Employee Termination Benefits and Other Costs
to Exit an Activity (including Certain Costs Incurred in a Restructuring). A
liability for a cost associated with an exit or disposal activity shall be
recognized and measured initially at its fair value in the period in which the
liability is incurred, except for certain qualifying employee termination
benefits. SFAS No. 146 will be effective for exit or disposal activities
initiated by the company after December 31, 2002. This statement is not
expected to have a material impact on the companys consolidated financial
statements upon adoption.

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

Statements contained in this annual report, which are not historical
facts, are forward-looking statements, as that term is defined in the Private
Securities Litigation Reform Act of 1995. Amounts herein could vary as a result
of market and other factors. Such forward-looking statements are subject to
risks and uncertainties which could cause actual results to differ materially
from those currently anticipated due to a number of factors, which include, but
are not limited to, factors discussed in documents filed by the company with
the Securities and Exchange Commission and the bank with the Federal Reserve
Bank from time to time. Such forward-looking statements may be identified by
the use of such words as believe, expect, anticipate, should,
planned, estimated, and potential. Examples of forward-looking statements
include, but are not limited to, estimates with respect to the financial
condition, expected or anticipated revenue, results of operations and business
of the company that are subject to various factors which could cause actual
results to differ materially from these estimates. These factors include, but
are not limited to, general economic conditions, changes in interest rates,
deposit flows, loan demand, real estate values, and competition; changes in
accounting principles, policies, or guidelines; changes in legislation or
regulation; and other economic, competitive, governmental, regulatory, and
technological factors affecting the companys operations, pricing, products and
services.

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

See MARKET RISK under Item 6.

Item 8. Financial Statements

The information required by this item is filed herewith.

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##### 



(DIXON ODOM PLLC LOGO)

INDEPENDENT AUDITORS REPORT

To the Stockholders and the Board of Directors
Southern Community Financial Corporation and Subsidiaries
Winston-Salem, North Carolina

We have audited the accompanying consolidated balance sheets of Southern
Community Financial Corporation and Subsidiaries as of December 31, 2002 and
2001, and the related consolidated statements of operations, comprehensive
income, changes in stockholders equity and cash flows for each of the years in
the three-year period ended December 31, 2002. These consolidated financial
statements are the responsibility of the banks management. Our responsibility
is to express an opinion on these consolidated financial statements based on
our audits.

We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Southern Community
Financial Corporation and Subsidiaries at December 31, 2002 and 2001 and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 2002 in conformity with accounting
principles generally accepted in the United States of America.

/s/ Dixon Odom PLLC

Sanford, North Carolina
January 17, 2003

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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 2002 and 2001




|                                           |                                                                                                                                                             |   |                        |         |      |   |         |         | 
|------------------------------------------ | ----------------------------------------------------------------------------------------------------------------------------------------------------------- | - | ---------------------- | ------- | ---- | - | ------- | ------- | 
|                                           |                                                                                                                                                             |   | 2002                   |         | 2001
|                                           |                                                                                                                                                             |   |                        |         |     
|                                           |                                                                                                                                                             |   | (Amounts in thousands,
|                                           |                                                                                                                                                             |   | except share data)    
|Assets                                     |                                                                                                                                                             |   |                        |         |      |   |         |        
|Cash and due from banks                    |                                                                                                                                                             | $ | 16,632                 |         |      | $ | 18,878  |        
|Federal funds sold                         |                                                                                                                                                             |   | 11,084                 |         |      |   | 22,926  |        
|Investment securities (Note 3)             |                                                                                                                                                            
|                                           | Available for sale, at fair value                                                                                                                           |   |                        | 96,930  |      |   |         | 30,678  | 
|                                           | Held to maturity (estimated fair value of $45,319 and
$35,225 at December 31, 2002 and 2001, respectively)                                                  |   |                        | 44,749  |      |   |         | 34,529  | 
|Loans (Note 4)                             |                                                                                                                                                             |   | 421,938                |         |      |   | 360,288 |        
|Allowance for loan losses (Note 5)         |                                                                                                                                                             |   | (6,342                 | )       |      |   | (5,400  | )      
|                                           |                                                                                                                                                             |   |                        |         |      |   |         |        
|Net Loans                                  |                                                                                                                                                             |   | 415,596                |         |      |   | 354,888 |        
|Premises and equipment (Note 6)            |                                                                                                                                                             |   | 15,962                 |         |      |   | 12,111  |        
|Other assets                               |                                                                                                                                                             |   | 11,286                 |         |      |   | 7,210   |        
|                                           |                                                                                                                                                             |   |                        |         |      |   |         |        
|Total Assets                               |                                                                                                                                                             | $ | 612,239                |         |      | $ | 481,220 |        
|                                           |                                                                                                                                                             |   |                        |         |      |   |         |        
|Liabilities and Stockholders Equity       |                                                                                                                                                             |   |                        |         |      |   |         |        
|Deposits                                   |                                                                                                                                                            
|                                           | Demand                                                                                                                                                      |   | $                      | 41,869  |      |   | $       | 36,202  | 
|                                           | Money market and NOW                                                                                                                                        |   |                        | 115,981 |      |   |         | 95,904  | 
|                                           | Time (Note 7)                                                                                                                                               |   |                        | 291,366 |      |   |         | 260,745 | 
|                                           |                                                                                                                                                             |   |                        |         |      |   |         |        
|Total Deposits                             |                                                                                                                                                             |   | 449,216                |         |      |   | 392,851 |        
|Short-term borrowings (Note 8)             |                                                                                                                                                             |   | 40,706                 |         |      |   | 19,980  |        
|Long-term debt (Note 8)                    |                                                                                                                                                             |   | 55,000                 |         |      |   | 25,000  |        
|Convertible preferred securities (Note 9)  |                                                                                                                                                             |   | 17,250                 |         |      |   |        |        
|Other liabilities                          |                                                                                                                                                             |   | 2,528                  |         |      |   | 938     |        
|                                           |                                                                                                                                                             |   |                        |         |      |   |         |        
|Total Liabilities                          |                                                                                                                                                             |   | 564,700                |         |      |   | 438,769 |        
|                                           |                                                                                                                                                             |   |                        |         |      |   |         |        
|Stockholders Equity (Notes 9 and 14)      |                                                                                                                                                             |   |                        |         |      |   |         |        
|                                           | Common stock, no par value, 30,000,000 shares authorized;
8,791,683 and 8,354,990 shares issued and outstanding
at December 31, 2002 and 2001, respectively |   |                        | 43,123  |      |   |         | 40,285  | 
|                                           | Retained earnings                                                                                                                                           |   |                        | 1,830   |      |   |         | 1,362   | 
|                                           | Accumulated other comprehensive income                                                                                                                      |   |                        | 2,586   |      |   |         | 804     | 
|                                           |                                                                                                                                                             |   |                        |         |      |   |         |        
|Total Stockholders Equity                 |                                                                                                                                                             |   | 47,539                 |         |      |   | 42,451  |        
|                                           |                                                                                                                                                             |   |                        |         |      |   |         |        
|Commitments (Notes 11 and 16)              |                                                                                                                                                             |   |                        |         |      |   |         |        
|Total Liabilities and
Stockholders Equity |                                                                                                                                                             | $ | 612,239                |         |      | $ | 481,220 |        
|                                           |                                                                                                                                                             |   |                        |         |      |   |         |        

See accompanying notes.

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SOUTHERN COMMUNITY FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Years Ended December 31, 2002, 2001 and 2000




|                                                    |            |                                          |           |                               |           |      |           |       |           |  |           |       |           | 
|--------------------------------------------------- | ---------- | ---------------------------------------- | --------- | ----------------------------- | --------- | ---- | --------- | ----- | --------- |  | --------- | ----- | --------- | 
|                                                    |            |                                          |           | 2002                          |           | 2001 |           | 2000 
|                                                    |            |                                          |           |                               |           |      |           |      
|                                                    |            |                                          |           | (Amounts in thousands, except
|                                                    |            |                                          |           | share and per share data)    
|Interest Income                                     |            |                                          |           |                               |           |      |           |       |           |  |           |      
|                                                    |            | Loans                                    |           | $                             | 25,689    |      |           | $     | 26,292    |  |           | $     | 23,351    | 
|                                                    |            | Investment securities available for sale |           |                               | 4,901     |      |           |       | 2,320     |  |           |       | 1,733     | 
|                                                    |            | Investment securities held to maturity   |           |                               | 2,576     |      |           |       | 2,201     |  |           |       | 849       | 
|                                                    |            | Federal funds sold                       |           |                               | 115       |      |           |       | 553       |  |           |       | 898       | 
|                                                    |            |                                          |           |                               |           |      |           |       |           |  |           |      
|Total Interest Income                               |            |                                          | 33,281    |                               |           |      | 31,366    |       |           |  | 26,831    |      
|                                                    |            |                                          |           |                               |           |      |           |       |           |  |           |      
|Interest Expense                                   
|                                                    |            | Money market and NOW deposits            |           |                               | 1,342     |      |           |       | 2,135     |  |           |       | 2,079     | 
|                                                    |            | Time deposits                            |           |                               | 10,800    |      |           |       | 14,858    |  |           |       | 12,511    | 
|                                                    |            | Federal funds purchased and borrowings   |           |                               | 3,661     |      |           |       | 1,041     |  |           |       | 354       | 
|                                                    |            |                                          |           |                               |           |      |           |       |           |  |           |      
|Total Interest Expense                              |            |                                          | 15,803    |                               |           |      | 18,034    |       |           |  | 14,944    |      
|                                                    |            |                                          |           |                               |           |      |           |       |           |  |           |      
|Net Interest Income                                 |            |                                          | 17,478    |                               |           |      | 13,332    |       |           |  | 11,887    |      
|Provision for Loan Losses (Note 5)                  |            |                                          | 1,655     |                               |           |      | 2,320     |       |           |  | 1,480     |      
|                                                    |            |                                          |           |                               |           |      |           |       |           |  |           |      
|Net Interest Income After
Provision for Loan Losses |            |                                          | 15,823    |                               |           |      | 11,012    |       |           |  | 10,407    |      
|                                                    |            |                                          |           |                               |           |      |           |       |           |  |           |      
|Non-Interest Income (Note 13)                       |            |                                          | 3,927     |                               |           |      | 3,402     |       |           |  | 2,198     |      
|                                                    |            |                                          |           |                               |           |      |           |       |           |  |           |      
|Non-Interest Expense                                |            |                                          |           |                               |           |      |           |       |           |  |           |      
|                                                    |            | Salaries and employee benefits           |           |                               | 7,758     |      |           |       | 5,510     |  |           |       | 4,576     | 
|                                                    |            | Occupancy and equipment                  |           |                               | 2,508     |      |           |       | 2,067     |  |           |       | 1,456     | 
|                                                    |            | Other (Note 13)                          |           |                               | 4,515     |      |           |       | 3,585     |  |           |       | 2,691     | 
|                                                    |            |                                          |           |                               |           |      |           |       |           |  |           |      
|Total Non-Interest Expense                          |            |                                          | 14,781    |                               |           |      | 11,162    |       |           |  | 8,723     |      
|                                                    |            |                                          |           |                               |           |      |           |       |           |  |           |      
|Income Before Income Taxes                          |            |                                          | 4,969     |                               |           |      | 3,252     |       |           |  | 3,882     |      
|Income Tax Expense (Note 12)                        |            |                                          | 1,755     |                               |           |      | 1,147     |       |           |  | 1,466     |      
|                                                    |            |                                          |           |                               |           |      |           |       |           |  |           |      
|                                                    | Net Income |                                          | $         | 3,214                         |           |      | $         | 2,105 |           |  | $         | 2,416 |          
|                                                    |            |                                          |           |                               |           |      |           |       |           |  |           |      
|Net Income Per Share                                |            |                                          |           |                               |           |      |           |       |           |  |           |      
|                                                    |            | Basic                                    |           | $                             | .37       |      |           | $     | .24       |  |           | $     | .30       | 
|                                                    |            | Diluted                                  |           |                               | .35       |      |           |       | .23       |  |           |       | .29       | 
|Weighted Average Shares Outstanding
Basic           |            |                                          | 8,788,295 |                               |           |      | 8,707,678 |       |           |  | 8,097,552 |      
|                                                    |            | Diluted                                  |           |                               | 9,085,853 |      |           |       | 9,043,611 |  |           |       | 8,450,245 | 

See accompanying notes.

Page 44



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SOUTHERN COMMUNITY FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Years Ended December 31, 2002, 2001 and 2000




|                            |                                |                                                           |                                  |  |                        |       |       |      |     |      |       |  |     |      |  
|--------------------------- | ------------------------------ | --------------------------------------------------------- | -------------------------------- |  | ---------------------- | ----- | ----- | ---- | --- | ---- | ----- |  | --- | ---- | -
|                            |                                |                                                           |                                  |  | 2002                   |       | 2001  | 2000
|                            |                                |                                                           |                                  |  |                        |       |       |     
|                            |                                |                                                           |                                  |  | (Amounts in thousands)
|                            |                                |                                                           |                                  |  |                       
|Net income                  |                                | $                                                         | 3,214                            |  |                        | $     | 2,105 |      |     | $    | 2,416 | 
|                            |                                |                                                           |                                  |  |                        |       |       |      |     |      |       | 
|Other comprehensive income: |                                |                                                           |                                  |  |                        |       |       |      |     |      |       | 
|                            | Securities available for sale: |                                                           |                                  |  |                        |       |       |      |     |      |       |  |    
|                            |                                | Unrealized holding gains on available for sale securities |                                  |  | 1,465                  |       |       |      | 802 |      |       |  | 941 |     
|                            |                                |                                                           | Tax effect                       |  |                        | (565  | )     |      |     | (309 | )     |  |     | (363 | )
|                            |                                | Reclassification of gains recognized in net income        |                                  |  | (70                    | )     |       |      |    |      |       |  |    |     
|                            |                                |                                                           | Tax effect                       |  |                        | 27    |       |      |     |     |       |  |     |     |  
|                            |                                |                                                           |                                  |  |                        |       |       |      |     |      |       | 
|                            |                                | Net of tax amount                                         |                                  |  | 857                    |       |       |      | 493 |      |       |  | 578 |     
|                            |                                |                                                           |                                  |  |                        |       |       |      |     |      |       | 
|                            | Cash flow hedging activities:  |                                                           |                                  |  |                        |       |       |      |     |      |       |  |    
|                            |                                | Unrealized holding gains on cash flow hedging activities  |                                  |  | 1,461                  |       |       |      |    |      |       |  |    |     
|                            |                                |                                                           | Tax effect                       |  |                        | (502  | )     |      |     |     |       |  |     |     |  
|                            |                                | Reclassification of gains recognized in net income        |                                  |  | (52                    | )     |       |      |    |      |       |  |    |     
|                            |                                |                                                           | Tax effect                       |  |                        | 18    |       |      |     |     |       |  |     |     |  
|                            |                                |                                                           |                                  |  |                        |       |       |      |     |      |       | 
|                            |                                | Net of tax amount                                         |                                  |  | 925                    |       |       |      |    |      |       |  |    |     
|                            |                                |                                                           |                                  |  |                        |       |       |      |     |      |       | 
|                            |                                |                                                           | Total other comprehensive income |  |                        | 1,782 |       |      |     | 493  |       |  |     | 578  |  
|                            |                                |                                                           |                                  |  |                        |       |       |      |     |      |       | 
|Comprehensive income        |                                | $                                                         | 4,996                            |  |                        | $     | 2,598 |      |     | $    | 2,994 | 
|                            |                                |                                                           |                                  |  |                        |       |       |      |     |      |       | 

See accompanying notes.

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SOUTHERN COMMUNITY FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS EQUITY
Years Ended December 31, 2002, 2001 and 2000




|                             |                                        |                                           |           |         |                                           |   |            |        |          |   |               |         |               |   |        |       |        |   |       |       |             |   |        |       |       |   | 
|---------------------------- | -------------------------------------- | ----------------------------------------- | --------- | ------- | ----------------------------------------- | - | ---------- | ------ | -------- | - | ------------- | ------- | ------------- | - | ------ | ----- | ------ | - | ----- | ----- | ----------- | - | ------ | ----- | ----- | - | 
|                             |                                        |                                           |           |         |                                           |   |            |        |          |   |               |         |               |   |        |       |        |   |       |       | Accumulated |   |        |       |      
|                             |                                        |                                           |           |         | Common Stock                              |   | Additional |        |          |   |               |         | Other         |   | Total 
|                             |                                        |                                           |           |         |                                           |   | Paid-in    |        | Retained |   | Comprehensive |         | Stockholders'
|                             |                                        |                                           |           |         | Shares                                    |   | Amount     |        | Capital  |   | Earnings      |         | Income (Loss) |   | Equity
|                             |                                        |                                           |           |         |                                           |   |            |        |          |   |               |         |               |   |       
|                             |                                        |                                           |           |         | (Amounts in thousands, except share data)
|                             |                                        |                                           |           |         |                                          
|Balance at December 31, 1999 |                                        |                                           | 6,657,362 |         |                                           | $ | 16,643     |        |          | $ | 14,251        |         |               | $ | 1,139  |       |        | $ | (267  | )     |             | $ | 31,766 |      
|                             | Net income                             |                                           |           |        |                                           |   |            |       |          |   |               |        |               |   |        | 2,416 |        |   |       |      |             |   |        | 2,416 |      
|                             | Other comprehensive income, net of tax |                                           |           |        |                                           |   |            |       |          |   |               |        |               |   |        |      |        |   |       | 578   |             |   |        | 578   |      
|                             | Common stock issued pursuant to:       |                                           |           |         |                                           |   |            |        |          |   |               |         |               |   |        |       |        |   |       |       |             |   |        |       |      
|                             | Sale of common stock                   |                                           |           | 254,567 |                                           |   |            | 636    |          |   |               | 1,456   |               |   |        |      |        |   |       |      |             |   |        | 2,092 |      
|                             |                                        | 10% stock split in the form of a dividend |           |         | 666,503                                   |   |            |        | 1,667    |   |               |         |              |   |        |       | (1,672 | ) |       |       |            |   |        |       | (5    | )
|                             |                                        | Stock options exercised                   |           |         | 17,547                                    |   |            |        | 44       |   |               |         | 40            |   |        |       |       |   |       |       |            |   |        |       | 84    |  
|                             |                                        | Current income tax benefit                |           |         |                                          |   |            |        |         |   |               |         | 19            |   |        |       |       |   |       |       |            |   |        |       | 19    |  
|                             |                                        |                                           |           |         |                                           |   |            |        |          |   |               |         |               |   |        |       |        |   |       |       |             |   |        |      
|Balance at December 31, 2000 |                                        |                                           | 7,595,979 |         |                                           |   | 18,990     |        |          |   | 15,766        |         |               |   | 1,883  |       |        |   | 311   |       |             |   | 36,950 |      
|                             | Net income                             |                                           |           |        |                                           |   |            |       |          |   |               |        |               |   |        | 2,105 |        |   |       |      |             |   |        | 2,105 |      
|                             | Other comprehensive income, net of tax |                                           |           |        |                                           |   |            |       |          |   |               |        |               |   |        |      |        |   |       | 493   |             |   |        | 493   |      
|                             | Formation of holding company           |                                           |           |        |                                           |   |            | 17,771 |          |   |               | (17,771 | )             |   |        |      |        |   |       |      |             |   |        |      |      
|                             | Common stock issued pursuant to:       |                                           |           |         |                                           |   |            |        |          |   |               |         |               |   |        |       |        |   |       |       |             |   |        |       |      
|                             |                                        | Sale of common stock                      |           |         | 344,118                                   |   |            |        | 860      |   |               |         | 1,951         |   |        |       |       |   |       |       |            |   |        |       | 2,811 |  
|                             |                                        | 5% stock dividend                         |           |         | 396,702                                   |   |            |        | 2,618    |   |               |         |              |   |        |       | (2,626 | ) |       |       |            |   |        |       | (8    | )
|                             |                                        | Stock options exercised                   |           |         | 18,191                                    |   |            |        | 46       |   |               |         | 35            |   |        |       |       |   |       |       |            |   |        |       | 81    |  
|                             |                                        | Current income tax benefit                |           |         |                                          |   |            |        |         |   |               |         | 19            |   |        |       |       |   |       |       |            |   |        |       | 19    |  
|                             |                                        |                                           |           |         |                                           |   |            |        |          |   |               |         |               |   |        |       |        |   |       |       |             |   |        |      
|Balance at December 31, 2001 |                                        |                                           | 8,354,990 |         |                                           |   | 40,285     |        |          |   |              |         |               |   | 1,362  |       |        |   | 804   |       |             |   | 42,451 |      
|                             | Net income                             |                                           |           |        |                                           |   |            |       |          |   |               |        |               |   |        | 3,214 |        |   |       |      |             |   |        | 3,214 |      
|                             | Other comprehensive income, net of tax |                                           |           |        |                                           |   |            |       |          |   |               |        |               |   |        |      |        |   |       | 1,782 |             |   |        | 1,782 |      
|                             | Common stock issued pursuant to:       |                                           |           |         |                                           |   |            |        |          |   |               |         |               |   |        |       |        |   |       |       |             |   |        |       |      
|                             |                                        | 5% stock dividend                         |           |         | 416,601                                   |   |            |        | 2,733    |   |               |         |              |   |        |       | (2,733 | ) |       |       |            |   |        |       |      |  
|                             |                                        | Cash paid in lieu of fractional shares    |           |         |                                          |   |            |        |         |   |               |         |              |   |        |       | (13    | ) |       |       |            |   |        |       | (13   | )
|                             |                                        | Stock options exercised                   |           |         | 20,092                                    |   |            |        | 77       |   |               |         |              |   |        |       |       |   |       |       |            |   |        |       | 77    |  
|                             |                                        | Current income tax benefit                |           |         |                                          |   |            |        | 28       |   |               |         |              |   |        |       |       |   |       |       |            |   |        |       | 28    |  
|                             |                                        |                                           |           |         |                                           |   |            |        |          |   |               |         |               |   |        |       |        |   |       |       |             |   |        |      
|Balance at December 31, 2002 |                                        |                                           | 8,791,683 |         |                                           | $ | 43,123     |        |          | $ |              |         |               | $ | 1,830  |       |        | $ | 2,586 |       |             | $ | 47,539 |      
|                             |                                        |                                           |           |         |                                           |   |            |        |          |   |               |         |               |   |        |       |        |   |       |       |             |   |        |      

See accompanying notes.

Page 46



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 2002, 2001 and 2000




|                                                                    |                                                                                        |                                                              |                                          |         |                        |        |         |         |         |        |          |         |         |        |  
|------------------------------------------------------------------- | -------------------------------------------------------------------------------------- | ------------------------------------------------------------ | ---------------------------------------- | ------- | ---------------------- | ------ | ------- | ------- | ------- | ------ | -------- | ------- | ------- | ------ | -
|                                                                    |                                                                                        |                                                              |                                          |         | 2002                   |        | 2001    |         | 2000   
|                                                                    |                                                                                        |                                                              |                                          |         |                        |        |         |         |        
|                                                                    |                                                                                        |                                                              |                                          |         | (Amounts in thousands)
|                                                                    |                                                                                        |                                                              |                                          |         |                       
|Cash Flows from Operating Activities                                |                                                                                       
|                                                                    | Net income                                                                             |                                                              | $                                        | 3,214   |                        |        | $       | 2,105   |         |        | $        | 2,416   |        
|                                                                    |                                                                                        |                                                              |                                          |         |                        |        |         |         |         |        |          |        
|                                                                    | Adjustments to reconcile net income to net cash provided
by operating activities:      |                                                              |                                          |         |                        |        |         |         |         |        |          |         |        
|                                                                    |                                                                                        | Depreciation and amortization                                |                                          |         | 1,337                  |        |         |         | 1,003   |        |          |         | 628     |       
|                                                                    |                                                                                        | Provision for loan losses                                    |                                          |         | 1,655                  |        |         |         | 2,320   |        |          |         | 1,480   |       
|                                                                    |                                                                                        | Realized gain on sales of available for sale securities, net |                                          |         | (70                    | )      |         |         |        |        |          |         |        |       
|                                                                    |                                                                                        | Realized gain on sale of foreclosed assets                   |                                          |         | (21                    | )      |         |         |        |        |          |         |        |       
|                                                                    |                                                                                        | Change in assets and liabilities:                            |                                          |         |                        |        |         |         |         |        |          |         |         |       
|                                                                    |                                                                                        |                                                              | Increase in other assets                 |         |                        | (1,957 | )       |         |         | (256   | )        |         |         | (2,078 | )
|                                                                    |                                                                                        |                                                              | Increase (decrease) in other liabilities |         |                        | 1,798  |         |         |         | (1,695 | )        |         |         | 1,371  |  
|                                                                    |                                                                                        |                                                              |                                          |         |                        |        |         |         |         |        |          |        
|Total Adjustments                                                   |                                                                                        |                                                              | 2,742                                    |         |                        |        | 1,372   |         |         |        | 1,401    |        
|                                                                    |                                                                                        |                                                              |                                          |         |                        |        |         |         |         |        |          |        
|Net Cash Provided by Operating Activities                           |                                                                                        |                                                              | 5,956                                    |         |                        |        | 3,477   |         |         |        | 3,817    |        
|                                                                    |                                                                                        |                                                              |                                          |         |                        |        |         |         |         |        |          |        
|Cash Flows from Investing Activities                                |                                                                                       
|                                                                    | (Increase) decrease in federal funds sold                                              |                                                              |                                          | 11,842  |                        |        |         | (1,881  | )       |        |          | (20,241 | )      
|                                                                    | Purchases of:                                                                          |                                                             
|                                                                    |                                                                                        | Available for sale investment securities                     |                                          |         | (112,297               | )      |         |         | (2,061  | )      |          |         | (18,186 | )     
|                                                                    |                                                                                        | Held to maturity investment securities                       |                                          |         | (43,328                | )      |         |         | (35,000 | )      |          |         | (9,693  | )     
|                                                                    | Proceeds from maturities and calls of:                                                 |                                                              |                                          |         |                        |        |         |         |         |        |          |         |        
|                                                                    |                                                                                        | Available for sale investment securities                     |                                          |         | 26,152                 |        |         |         | 11,190  |        |          |         | 1,884   |       
|                                                                    |                                                                                        | Held to maturity investment securities                       |                                          |         | 33,104                 |        |         |         | 20,712  |        |          |         | 3,616   |       
|                                                                    | Proceeds from sales of available for sale investment securities                        |                                                              |                                          | 21,220  |                        |        |         |        |         |        |          |        |        
|                                                                    | Net increase in loans                                                                  |                                                              |                                          | (62,667 | )                      |        |         | (79,330 | )       |        |          | (82,059 | )      
|                                                                    | Purchases of premises and equipment                                                    |                                                              |                                          | (5,066  | )                      |        |         | (3,407  | )       |        |          | (5,167  | )      
|                                                                    | Proceeds from sale of foreclosed assets                                                |                                                              |                                          | 289     |                        |        |         |        |         |        |          |        |        
|                                                                    | Purchase of bank-owned life insurance                                                  |                                                              |                                          | (557    | )                      |        |         | (2,000  | )       |        |          |        |        
|                                                                    |                                                                                        |                                                              |                                          |         |                        |        |         |         |         |        |          |        
|Net Cash Used by Investing Activities                               |                                                                                        |                                                              | (131,308                                 | )       |                        |        | (91,777 | )       |         |        | (129,846 | )      
|                                                                    |                                                                                        |                                                              |                                          |         |                        |        |         |         |         |        |          |        
|Cash Flows from Financing Activities                                |                                                                                       
|                                                                    | Net increase in deposits                                                               |                                                              |                                          | 56,365  |                        |        |         | 54,098  |         |        |          | 119,800 |        
|                                                                    | Net decrease in federal funds purchased                                                |                                                              |                                          |        |                        |        |         |        |         |        |          | (2,500  | )      
|                                                                    | Net increase in borrowings                                                             |                                                              |                                          | 50,726  |                        |        |         | 38,980  |         |        |          | 6,000   |        
|                                                                    | Proceeds from issuance of convertible preferred securities, net
of debt issuance costs |                                                              |                                          | 15,923  |                        |        |         |        |         |        |          |        |        
|                                                                    | Net proceeds from issuance of common stock                                             |                                                              |                                          | 105     |                        |        |         | 2,911   |         |        |          | 2,195   |        
|                                                                    | Cash paid in lieu of fractional shares                                                 |                                                              |                                          | (13     | )                      |        |         | (8      | )       |        |          | (5      | )      
|                                                                    |                                                                                        |                                                              |                                          |         |                        |        |         |         |         |        |          |        
|Net Cash Provided by Financing Activities                           |                                                                                        |                                                              | 123,106                                  |         |                        |        | 95,981  |         |         |        | 125,490  |        
|                                                                    |                                                                                        |                                                              |                                          |         |                        |        |         |         |         |        |          |        
|Net Increase (Decrease) in Cash and Cash Equivalents                |                                                                                        |                                                              | (2,246                                   | )       |                        |        | 7,681   |         |         |        | (539     | )      
|Cash and Cash Equivalents, Beginning of Year                        |                                                                                        |                                                              | 18,878                                   |         |                        |        | 11,197  |         |         |        | 11,736   |        
|                                                                    |                                                                                        |                                                              |                                          |         |                        |        |         |         |         |        |          |        
|Cash and Cash Equivalents, End of Year                              |                                                                                        | $                                                            | 16,632                                   |         |                        | $      | 18,878  |         |         | $      | 11,197   |        
|                                                                    |                                                                                        |                                                              |                                          |         |                        |        |         |         |         |        |          |        
|Supplemental Disclosures of Cash Flow Information                   |                                                                                       
|                                                                    | Interest paid on deposits and borrowed funds                                           |                                                              | $                                        | 15,385  |                        |        | $       | 18,269  |         |        | $        | 14,498  |        
|                                                                    | Income taxes paid                                                                      |                                                              |                                          | 1,721   |                        |        |         | 1,530   |         |        |          | 2,041   |        
|Supplemental Schedule of Noncash Investing and Financing Activities |                                                                                       
|                                                                    | Transfer of loans to foreclosed assets                                                 |                                                              | $                                        | 304     |                        |        | $       | 79      |         |        | $        |        |        
|                                                                    | Increase in fair value of securities available for sale, net of tax                    |                                                              |                                          | 857     |                        |        |         | 493     |         |        |          | 578     |        
|                                                                    | Increase in fair value of cash flow hedges, net of tax                                 |                                                              |                                          | 925     |                        |        |         |        |         |        |          |        |        

See accompanying notes.

Page 47



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(1) ORGANIZATION AND OPERATIONS

In October 2001, Southern Community Financial Corporation (the Company) was
formed as a holding company for Southern Community Bank and Trust. Upon
formation, one share of Southern Community Financial Corporations no par value
common stock was exchanged for each of the outstanding shares of Southern
Community Bank and Trusts $2.50 par value common stock.

Southern Community Bank and Trust (the bank) was incorporated November 14,
1996 and began banking operations on November 18, 1996. The bank is engaged in
general commercial and retail banking in the Piedmont area of North Carolina,
principally Forsyth, Guilford and Yadkin Counties, operating under the banking
laws of North Carolina and the rules and regulations of the Federal Deposit
Insurance Corporation, and on February 2, 2001 the bank became a member of the
Federal Reserve System. The bank undergoes periodic examinations by those
regulatory authorities.

(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The consolidated financial statements include the accounts of Southern
Community Financial Corporation and its wholly-owned subsidiaries, Southern
Community Capital Trust I, a trust for the convertible preferred securities,
and Southern Community Bank and Trust and its wholly-owned subsidiaries,
Southeastern Acceptance Corporation, a consumer finance company, and VCS
Management, L.L.C., the managing general partner for Venture Capital Solutions
L. P., a Small Business Investment Company. All intercompany transactions and
balances have been eliminated in consolidation. Southern Community Financial
Corporation and its subsidiaries are collectively referred to herein as the
company.

Use of Estimates

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

Cash and Cash Equivalents

For the purpose of presentation in the consolidated statements of cash flows,
cash and cash equivalents are defined as those amounts included in the balance
sheet caption Cash and due from banks.

Federal regulations require institutions to set aside specified amounts of cash
as reserves against transaction and time deposits. As of December 31, 2002,
the daily average gross reserve requirement was $5.2 million.

Investment Securities

Available for sale securities are carried at fair value and consist of bonds
and mortgage-backed securities not classified as trading securities or as held
to maturity securities. Unrealized holding gains and losses on available for
sale securities are reported as a net amount in accumulated other comprehensive
income. Gains and losses on the sale of available for sale securities are
determined using the specific-identification method. Bonds and mortgage-backed
securities for which the bank has the positive intent and ability to hold to
maturity are reported at cost, adjusted for premiums and discounts that are
recognized in interest income using a method that approximates the interest
method over the period to maturity. Declines in the fair value of individual
held to maturity and available for sale securities below their cost that are
other than temporary would result in write-downs of the individual securities
to their fair value. Such write-downs would be included in earnings as
realized losses.

Page 48



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

Loans Held for Sale

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

Loans

Loans that management has the intent and ability to hold for the foreseeable
future or until maturity are reported at their outstanding principal adjusted
for any charge-offs, the allowance for loan losses, and any deferred fees or
costs on originated loans and unamortized premiums or discounts on purchased
loans. Loan origination fees and certain direct origination costs are
capitalized and recognized as an adjustment of the yield of the related loan.
Interest on loans is recorded based on the principal amount outstanding. The
accrual of interest on impaired loans is discontinued when, in managements
opinion, the borrower may be unable to meet payments as they become due. When
interest accrual is discontinued, all unpaid accrued interest is reversed.
Interest income is subsequently recognized only to the extent cash payments are
received.

Allowance for Loan Losses

The provision for loan losses is based upon managements estimate of the amount
needed to maintain the allowance for loan losses at an adequate level. In
making the evaluation of the adequacy of the allowance for loan losses,
management gives consideration to current economic conditions, statutory
examinations of the loan portfolio by regulatory agencies, delinquency
information and managements internal review of the loan portfolio. Loans are
considered impaired when it is probable that all amounts due under the
contractual terms of the loan will not be collected. The measurement of
impaired loans is generally based on the present value of expected future cash
flows discounted at the historical effective interest rate, or upon the fair
value of the collateral if readily determinable. If the recorded investment in
the loan exceeds the measure of fair value, a valuation allowance is
established as a component of the allowance for loan losses. While management
uses the best information available to make evaluations, future adjustments to
the allowance may be necessary if conditions differ substantially from the
assumptions used in making the evaluations. In addition, regulatory examiners
may require the bank to recognize changes to the allowance for loan losses
based on their judgments about information available to them at the time of
their examination.

Premises and Equipment

Premises and equipment are stated at cost less accumulated depreciation.
Depreciation is calculated on the straight-line method over the estimated
useful lives of the assets which are 30 years for buildings and 3  10 years
for furniture and equipment. Leasehold improvements are amortized over the
expected terms of the respective leases or the estimated useful lives of the
improvements, whichever is shorter. Repairs and maintenance costs are charged
to operations as incurred and additions and improvements to premises and
equipment are capitalized. Upon sale or retirement, the cost and related
accumulated depreciation are removed from the accounts and any gains or losses
are reflected in current operations.

Foreclosed Assets

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

Page 49



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

Income Taxes

Deferred tax assets and liabilities are recognized for the estimated future tax
consequences attributable to differences between the tax bases of assets and
liabilities and their carrying amounts for financial reporting purposes.
Deferred tax assets and liabilities are measured using enacted tax rates in
effect for the year in which the temporary differences are expected to be
recovered or settled. Deferred tax assets are reduced by a valuation allowance
if it is more likely than not that the tax benefits will not be realized.

Derivatives

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

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

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

Per Share Data

Basic and diluted net income per share are computed based on the weighted
average number of shares outstanding during each period after retroactively
adjusting for a 5% stock dividend distributed October 15, 2002 and 2001, and a
stock split effected in the form of a 10% stock dividend during 2000. Diluted
net income per share reflects the potential dilution that could occur if stock
options were exercised or convertible trust-preferred securities were
converted, resulting in the issuance of common stock that then shared in the
net income of the bank.

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

|                                                                                                                             |  |      |           |      |  |      |           |  |  |  |           | 
|---------------------------------------------------------------------------------------------------------------------------- |  | ---- | --------- | ---- |  | ---- | --------- |  |  |  | --------- | 
|                                                                                                                             |  | 2002 |           | 2001 |  | 2000
|                                                                                                                             |  |      |           |      |  |     
|Weighted average number of common shares used in
computing basic net income per share                                        |  |      | 8,788,295 |      |  |      | 8,707,678 |  |  |  | 8,097,552 | 
|Effect of dilutive stock options                                                                                             |  |      | 297,558   |      |  |      | 335,933   |  |  |  | 352,69    | 
|                                                                                                                             |  |      |           |      |  |      |           |  |  |  |           | 
|Weighted average number of common shares and dilutive
potential common shares used in computing diluted net
income per share |  |      | 9,085,853 |      |  |      | 9,043,611 |  |  |  | 8,450,245 | 
|                                                                                                                             |  |      |           |      |  |      |           |  |  |  |           | 

Page 50



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

Per Share Data (Continued)

For the years ended December 31, 2002, 2001 and 2000, there were 227,925,
182,952, and 93,450 options, respectively, that were antidilutive since the
exercise price exceeded the average market price for the year. For the year
ended
December 31, 2002, there were 2,088,371 of antidilutive shares related to the
convertible trust preferred securities (see Note 9) since the conversion price
exceeded the average market price for the year. These common stock equivalents
have been omitted from the calculation of diluted earnings per share for their
respective years.

Stock Compensation Plans

Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for
Stock-Based Compensation, encourages all entities to adopt a fair value based
method of accounting for employee stock compensation plans, whereby
compensation cost is measured at the grant date based on the value of the award
and is recognized over the service period, which is usually the vesting period.
However, it also allows an entity to continue to measure compensation cost for
those plans using the intrinsic value based method of accounting prescribed by
Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to
Employees,whereby compensation cost is the excess, if any, of the quoted
market price of the stock at the grant date (or other measurement date) over
the amount an employee must pay to acquire the stock. Stock options issued
under the companys stock option plans have no intrinsic value at the grant
date and, under Opinion No. 25, no compensation cost is recognized for them.
The company has elected to continue with the accounting methodology in Opinion
No. 25. Presented below are the pro forma disclosures of net income and
earnings per share and other disclosures as if the fair value based method of
accounting had been applied.

|                            |             |                                                                               |   |                        |      |      |   |       |      |   |   |       |      |  
|--------------------------- | ----------- | ----------------------------------------------------------------------------- | - | ---------------------- | ---- | ---- | - | ----- | ---- | - | - | ----- | ---- | -
|                            |             |                                                                               |   | 2002                   |      | 2001 |   | 2000 
|                            |             |                                                                               |   |                        |      |      |   |      
|                            |             |                                                                               |   | (Amounts in thousands,
|                            |             |                                                                               |   | except per share data)
|                            |             |                                                                               |   |                       
|Net income:                 |             |                                                                               |   |                        |      |      |   |       |      |   |   |      
|                            | As reported |                                                                               | $ | 3,214                  |      |      | $ | 2,105 |      |   | $ | 2,416 |     
|                            |             | Deduct: Total stock-based employee compensation
expense determined under fair |   |                        | (447 | )    |   |       | (552 | ) |   |       | (497 | )
|                            |             | value
method
for all awards, net of related tax effects                       |   |                        | (447 | )    |   |       | (552 | ) |   |       | (497 | )
|                            |             |                                                                               |   |                        |      |      |   |       |      |   |   |       |     
|                            | Pro forma   |                                                                               | $ | 2,767                  |      |      | $ | 1,553 |      |   | $ | 1,919 |     
|                            |             |                                                                               |   |                        |      |      |   |       |      |   |   |       |     
|Basic earnings per share:   |             |                                                                               |   |                        |      |      |   |       |      |   |   |      
|                            | As reported |                                                                               | $ | .37                    |      |      | $ | .24   |      |   | $ | .30   |     
|                            | Pro forma   |                                                                               |   | .31                    |      |      |   | .18   |      |   |   | .24   |     
|Diluted earnings per share: |             |                                                                               |   |                        |      |      |   |       |      |   |   |      
|                            | As reported |                                                                               | $ | .35                    |      |      | $ | .23   |      |   | $ | .29   |     
|                            | Pro forma   |                                                                               |   | .31                    |      |      |   | .18   |      |   |   | .24   |     

Comprehensive Income

Comprehensive income is defined as the change in equity during a period for
non-owner transactions and is divided into net income and other comprehensive
income. Other comprehensive income includes revenues, expenses, gains, and
losses that are excluded from earnings under current accounting standards.
Components of other comprehensive income for the company consist of the
unrealized gains and losses, net of taxes, in the companys available for sale
securities portfolio and unrealized gains and losses, net of taxes, in the
companys cash flow hedge instruments.

Page 51



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

Comprehensive Income (Continued)

Accumulated other comprehensive income at December 31, 2002 and 2001 consists
of the following:

|                                                                    |                       |                                                                         |       |                        |       |      |       |      |     | 
|------------------------------------------------------------------- | --------------------- | ----------------------------------------------------------------------- | ----- | ---------------------- | ----- | ---- | ----- | ---- | --- | 
|                                                                    |                       |                                                                         |       | 2002                   |       | 2001
|                                                                    |                       |                                                                         |       |                        |       |     
|                                                                    |                       |                                                                         |       | (Amounts in thousands)
|                                                                    |                       |                                                                         |       |                       
|Unrealized holding gains  investment securities available for sale |                       | $                                                                       | 2,704 |                        |       | $    | 1,309 |     
|                                                                    | Deferred income taxes |                                                                         |       | (1,043                 | )     |      |       | (505 | )  
|                                                                    |                       |                                                                         |       |                        |       |      |       |     
|                                                                    |                       | Net unrealized holding gains  investment securities available for sale |       |                        | 1,661 |      |       |      | 804 | 
|                                                                    |                       |                                                                         |       |                        |       |      |       |     
|Unrealized holding gains  cash flow hedge instruments              |                       |                                                                         | 1,409 |                        |       |      |      |     
|                                                                    | Deferred income taxes |                                                                         |       | (484                   | )     |      |       |     |    
|                                                                    |                       |                                                                         |       |                        |       |      |       |     
|                                                                    |                       | Net unrealized holding gains  cash flow hedge instruments              |       |                        | 925   |      |       |      |    | 
|                                                                    |                       |                                                                         |       |                        |       |      |       |     
|                                                                    |                       | Total accumulated other comprehensive income                            |       | $                      | 2,586 |      |       | $    | 804 | 
|                                                                    |                       |                                                                         |       |                        |       |      |       |     

Segment Reporting

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

Recent Accounting Pronouncements

In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS No.
141, Business Combinations, and SFAS No. 142, Goodwill and Other Intangible
Assets. SFAS No. 141 requires that the purchase method of accounting be used
for all business combinations initiated after June 30, 2001. SFAS No. 141 also
specifies the criteria that intangible assets acquired in a purchase method
business combination must meet to be recognized and reported apart from
goodwill. SFAS No. 142 is effective for the company beginning on January 1,
2002 and requires that all goodwill and intangible assets with indefinite
useful lives (including such assets acquired prior to January 1, 2002) no
longer be amortized, but instead tested for impairment at least annually in
accordance with the provisions of SFAS No. 142. SFAS No. 142 also requires that
intangible assets with estimable useful lives be amortized over their
respective estimated useful lives to their estimated residual values, and
reviewed for impairment in accordance with SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets see below. The adoption of SFAS
No. 142 on January 1, 2002 did not affect the companys financial statements.

In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets, which addresses financial accounting and
reporting for the impairment or disposal of long-lived assets. This standard
provides guidance for differentiating between long-lived assets to be held and
used, long-lived assets to be disposed of other than by sale and long-lived
assets to be disposed of by sale. SFAS No. 144 supersedes SFAS No. 121,
Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of. SFAS No. 144 also supersedes APB Opinion No. 30, Reporting the
Results of Operations  Reporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions. This statement is effective for fiscal years beginning after
December 15, 2001. Adoption of SFAS No. 144 on January 1, 2002 did not have a
significant effect on the companys financial statements.

Page 52



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

Recent Accounting Pronouncements (Continued)

In November 2002, the FASB issued FASB Interpretation No. 45, Guarantors
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others(FIN 45). FIN 45 requires a liability to
be recognized at the time a company issues a guarantee for the fair value of
the obligations assumed under certain guarantee agreements. Additional
disclosures about guarantee agreements are also required in the interim and
annual financial statements. The disclosure provisions of FIN 45 are effective
for the company on December 31, 2002. The provisions for initial recognition
and measurement of guarantee agreements are effective on a prospective basis
for guarantees that are issued or modified after December 31, 2002. The
company is in the process of assessing the impact of FIN 45 on its consolidated
financial statements.

In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based
Compensation  Transition and Disclosure. SFAS No. 148 amends SFAS No. 123,
Accounting for Stock-Based Compensation, to provide alternative methods of
transition for a voluntary change to the fair value based method of accounting
for stock-based employee compensation. In addition, this Statement amends the
disclosure requirements of SFAS No. 123 to require prominent disclosures in
both annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on reported
results. SFAS No. 148 is effective for financial statements for fiscal years
ending after December 15, 2002. The company continues to account for its
stock-based compensation in accordance with APB 25 and has adopted the
disclosure provisions of SFAS No. 148 effective for the years presented herein.

(3) INVESTMENT SECURITIES

The following is a summary of the securities portfolio by major classification at December 31, 2002 and 2001:

|                               |                           |   |                        |        |            |   |            |       |       |   |   |   |  |   |        |        | 
|------------------------------ | ------------------------- | - | ---------------------- | ------ | ---------- | - | ---------- | ----- | ----- | - | - | - |  | - | ------ | ------ | 
|                               |                           |   | 2002                  
|                               |                           |   |                       
|                               |                           |   |                        |        |            |   | Gross      |       | Gross |   |   |   | 
|                               |                           |   | Amortized              |        | Unrealized |   | Unrealized |       | Fair 
|                               |                           |   | Cost                   |        | Gains      |   | Losses     |       | Value
|                               |                           |   |                        |        |            |   |            |       |      
|                               |                           |   | (Amounts in thousands)
|                               |                           |   |                       
|Securities available for sale: |                           |   |                        |        |            |   |            |       |       |   |   |   |  |   |        |       
|                               | U. S. Government agencies |   | $                      | 21,254 |            |   | $          | 901   |       |   | $ |  |  |   | $      | 22,155 | 
|                               | Mortgage-backed           |   |                        | 67,618 |            |   |            | 1,802 |       |   |   |  |  |   |        | 69,420 | 
|                               | Other                     |   |                        | 5,355  |            |   |            |      |       |   |   |  |  |   |        | 5,355  | 
|                               |                           |   |                        |        |            |   |            |       |       |   |   |   |  |   |        |       
|                               |                           | $ | 94,227                 |        |            | $ | 2,703      |       |       | $ |  |   |  | $ | 96,930 |       
|                               |                           |   |                        |        |            |   |            |       |       |   |   |   |  |   |        |       
|Securities held to maturity:   |                           |   |                        |        |            |   |            |       |       |   |   |   |  |   |        |       
|                               | U. S. Government agencies |   | $                      | 44,000 |            |   | $          | 540   |       |   | $ |  |  |   | $      | 44,540 | 
|                               | Mortgage-backed           |   |                        | 421    |            |   |            | 22    |       |   |   |  |  |   |        | 443    | 
|                               | Municipals                |   |                        | 328    |            |   |            | 8     |       |   |   |  |  |   |        | 336    | 
|                               |                           |   |                        |        |            |   |            |       |       |   |   |   |  |   |        |       
|                               |                           | $ | 44,749                 |        |            | $ | 570        |       |       | $ |  |   |  | $ | 45,319 |       
|                               |                           |   |                        |        |            |   |            |       |       |   |   |   |  |   |        |       

Page 53



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SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(3) INVESTMENT SECURITIES (Continued)

|                               |                           |   |           |        |            |   |                        |       |       |   |   |   |  |   |        |        | 
|------------------------------ | ------------------------- | - | --------- | ------ | ---------- | - | ---------------------- | ----- | ----- | - | - | - |  | - | ------ | ------ | 
|                               |                           |   | 2001     
|                               |                           |   |          
|                               |                           |   |           |        |            |   | Gross                  |       | Gross |   |   |   | 
|                               |                           |   | Amortized |        | Unrealized |   | Unrealized             |       | Fair 
|                               |                           |   | Cost      |        | Gains      |   | Losses                 |       | Value
|                               |                           |   |           |        |            |   |                        |       |      
|                               |                           |   |           |        |            |   | (Amounts in thousands) |       |       |   |  
|                               |                           |   |           |        |            |   |                        |       |       |   |  
|Securities available for sale: |                           |   |           |        |            |   |                        |       |       |   |   |   |  |   |        |       
|                               | U. S. Government agencies |   | $         | 22,172 |            |   | $                      | 1,162 |       |   | $ |  |  |   | $      | 23,334 | 
|                               | Mortgage-backed           |   |           | 4,271  |            |   |                        | 147   |       |   |   |  |  |   |        | 4,418  | 
|                               | Other                     |   |           | 2,926  |            |   |                        |      |       |   |   |  |  |   |        | 2,926  | 
|                               |                           |   |           |        |            |   |                        |       |       |   |   |   |  |   |        |        | 
|                               |                           | $ | 29,369    |        |            | $ | 1,309                  |       |       | $ |  |   |  | $ | 30,678 |       
|                               |                           |   |           |        |            |   |                        |       |       |   |   |   |  |   |        |        | 
|Securities held to maturity:   |                           |   |           |        |            |   |                        |       |       |   |   |   |  |   |        |       
|                               | U. S. Government agencies |   | $         | 33,500 |            |   | $                      | 664   |       |   | $ | 2 |  |   | $      | 34,162 | 
|                               | Mortgage-backed           |   |           | 1,029  |            |   |                        | 34    |       |   |   |  |  |   |        | 1,063  | 
|                               |                           |   |           |        |            |   |                        |       |       |   |   |   |  |   |        |        | 
|                               |                           | $ | 34,529    |        |            | $ | 698                    |       |       | $ | 2 |   |  | $ | 35,225 |       
|                               |                           |   |           |        |            |   |                        |       |       |   |   |   |  |   |        |        | 

Proceeds from sales and maturities of investment securities during 2002 were
$21.2 million and $59.3 million, respectively.
Gross gains and losses on those sales and maturities were $101,000 and $31,000,
respectively.

Proceeds from maturities of investment securities during 2001 and 2000 were
$31.9 million and $5.5 million, respectively.
There were no sales of investment securities for 2001 and 2000.

The amortized cost and fair values of securities available for sale and held to
maturity at December 31, 2002 by contractual maturity are shown below. Actual
expected maturities may differ from contractual maturities because issuers may
have the right to call or prepay obligation.

|                                       |  |                               |        |                             |  |           |        |       |  |   |        |  |  |   |        | 
|-------------------------------------- |  | ----------------------------- | ------ | --------------------------- |  | --------- | ------ | ----- |  | - | ------ |  |  | - | ------ | 
|                                       |  | Securities Available for Sale |        | Securities Held to Maturity
|                                       |  |                               |        |                            
|                                       |  | Amortized                     |        | Fair                        |  | Amortized |        | Fair 
|                                       |  | Cost                          |        | Value                       |  | Cost      |        | Value
|                                       |  |                               |        |                             |  |           |        |      
|                                       |  | (Amounts in thousands)       
|                                       |  |                              
|Due within one year                    |  | $                             | 500    |                             |  | $         | 514    |       |  | $ | 1,000  |  |  | $ | 1,001  | 
|Due after one year through five years  |  |                               | 7,000  |                             |  |           | 7,376  |       |  |   | 5,328  |  |  |   | 5,539  | 
|Due after five years through ten years |  |                               | 3,701  |                             |  |           | 4,105  |       |  |   | 10,000 |  |  |   | 10,212 | 
|Due after ten years                    |  |                               | 15,408 |                             |  |           | 15,515 |       |  |   | 28,000 |  |  |   | 28,124 | 
|Mortgage-backed securities             |  |                               | 67,618 |                             |  |           | 69,420 |       |  |   | 421    |  |  |   | 443    | 
|                                       |  |                               |        |                             |  |           |        |       |  |   |        |  |  |   |        | 
|                                       |  | $                             | 94,227 |                             |  | $         | 96,930 |       |  | $ | 44,749 |  |  | $ | 45,319 | 
|                                       |  |                               |        |                             |  |           |        |       |  |   |        |  |  |   |        | 

Securities with carrying values of $7.7 million and $8.3 million and fair
values of $10.9 million and $5.0 million at December 31, 2002 and 2001,
respectively, were pledged to secure public deposits as required by law.
Additionally, at December 31, 2002, securities with carrying values of $52.9
million and fair values of $55.4 million were pledged to secure both the
companys borrowing from the FHLB and repurchase agreements.

Page 54



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(4) LOANS

Following is a summary of loans at December 31, 2002 and 2001:

|                                |  |                        |         |      |  |   |         | 
|------------------------------- |  | ---------------------- | ------- | ---- |  | - | ------- | 
|                                |  | 2002                   |         | 2001
|                                |  |                        |         |     
|                                |  | (Amounts in thousands)
|                                |  |                       
|Residential mortgage loans      |  | $                      | 118,572 |      |  | $ | 105,357 | 
|Commercial mortgage loans       |  |                        | 137,812 |      |  |   | 89,354  | 
|Construction loans              |  |                        | 64,500  |      |  |   | 61,558  | 
|Commercial and industrial loans |  |                        | 71,948  |      |  |   | 77,820  | 
|Loans to individuals            |  |                        | 29,106  |      |  |   | 26,199  | 
|                                |  |                        |         |      |  |   |         | 
|Total                           |  | $                      | 421,938 |      |  | $ | 360,288 | 
|                                |  |                        |         |      |  |   |         | 

Loans are primarily made in the Piedmont area of North Carolina, principally
Forsyth, Guilford and Yadkin Counties. Real estate loans can be affected by
the condition of the local real estate market. Commercial and installment
loans can be affected by the local economic conditions. Included in
residential mortgage loans at December 31, 2002 are loans held for sale
totaling approximately $4.9 million. The company had no loans held for sale at
December 31, 2001.

The following is a summary of nonperforming assets at December 31, 2002 and
2001:

|                  |  |                        |       |      |  |   |       | 
|----------------- |  | ---------------------- | ----- | ---- |  | - | ----- | 
|                  |  | 2002                   |       | 2001
|                  |  |                        |       |     
|                  |  | (Amounts in thousands)
|Nonaccrual loans  |  | $                      | 1,823 |      |  | $ | 894   | 
|Foreclosed assets |  |                        | 383   |      |  |   | 347   | 
|                  |  |                        |       |      |  |   |       | 
|Total             |  | $                      | 2,206 |      |  | $ | 1,241 | 
|                  |  |                        |       |      |  |   |       | 

At December 31, 2002 and 2001, the recorded investment in loans considered
impaired in accordance with SFAS No. 114 totaled $1.8 million and $894,000,
respectively, with no corresponding valuation allowances. For the years ended
December 31, 2002 and 2001, the average recorded investment in impaired loans
was approximately $1.3 million and $938,000, respectively. The amount of
interest recognized on impaired loans during the portion of the year that they
were impaired was not material.

The company has granted loans to certain directors and executive officers of
the company and their related interests. Such loans are made on substantially
the same terms, including interest rates and collateral, as those prevailing at
the time for comparable transactions with other borrowers and, in managements
opinion, do not involve more than the normal risk of collectibility. All loans
to directors and executive officers or their interests are submitted to the
Board of Directors for approval. A summary of loans to directors and their
interests follows (amounts in thousands):

|                                                                     |                                                       |   |       |        |  
|-------------------------------------------------------------------- | ----------------------------------------------------- | - | ----- | ------ | -
|Loans to directors and officers as a group (12) at December 31, 2001 |                                                       | $ | 9,844 |       
|                                                                     | Disbursements during year ended December 31, 2002     |   |       | 4,628  |  
|                                                                     | Amounts collected during year ended December 31, 2002 |   |       | (6,461 | )
|                                                                     |                                                       |   |       |       
|Loans to directors and officers as a group (12) at December 31, 2002 |                                                       | $ | 8,011 |       
|                                                                     |                                                       |   |       |       

At December 31, 2002, the company had pre-approved but unused lines of credit
totaling $3.8 million to executive officers, directors and their affiliates.

Page 55



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SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(5) ALLOWANCE FOR LOAN LOSSES

An analysis of the allowance for loan losses follows:

|                                |  |                        |       |      |  |      |        |   |  |   |       |  
|------------------------------- |  | ---------------------- | ----- | ---- |  | ---- | ------ | - |  | - | ----- | -
|                                |  | 2002                   |       | 2001 |  | 2000
|                                |  |                        |       |      |  |     
|                                |  | (Amounts in thousands)
|                                |  |                       
|Balance at beginning of year    |  | $                      | 5,400 |      |  | $    | 4,283  |   |  | $ | 3,013 |  
|                                |  |                        |       |      |  |      |        |   |  |   |       |  
|Provision charged to operations |  |                        | 1,655 |      |  |      | 2,320  |   |  |   | 1,480 |  
|                                |  |                        |       |      |  |      |        |   |  |   |       |  
|Charge-offs                     |  |                        | (758  | )    |  |      | (1,247 | ) |  |   | (212  | )
|Recoveries                      |  |                        | 45    |      |  |      | 44     |   |  |   | 2     |  
|                                |  |                        |       |      |  |      |        |   |  |   |       |  
|Net charge-offs                 |  |                        | (713  | )    |  |      | (1,203 | ) |  |   | (210  | )
|                                |  |                        |       |      |  |      |        |   |  |   |       |  
|Balance at end of year          |  | $                      | 6,342 |      |  | $    | 5,400  |   |  | $ | 4,283 |  
|                                |  |                        |       |      |  |      |        |   |  |   |       |  

(6) PREMISES AND EQUIPMENT

Following is a summary of premises and equipment at December 31, 2002 and 2001:

|                                     |  |                        |        |      |  |   |        |  
|------------------------------------ |  | ---------------------- | ------ | ---- |  | - | ------ | -
|                                     |  | 2002                   |        | 2001
|                                     |  |                        |        |     
|                                     |  | (Amounts in thousands)
|                                     |  |                       
|Land                                 |  | $                      | 2,874  |      |  | $ | 2,870  |  
|Buildings and leasehold improvements |  |                        | 11,052 |      |  |   | 7,287  |  
|Furniture and equipment              |  |                        | 5,196  |      |  |   | 4,112  |  
|                                     |  |                        |        |      |  |   |        |  
|                                     |  |                        | 19,122 |      |  |   | 14,269 |  
|Less accumulated depreciation        |  |                        | (3,160 | )    |  |   | (2,158 | )
|                                     |  |                        |        |      |  |   |        |  
|Total                                |  | $                      | 15,962 |      |  | $ | 12,111 |  
|                                     |  |                        |        |      |  |   |        |  

Depreciation and amortization amounting to $1.2 million in 2002, $1.0 million
in 2001 and $616,000 in 2000 is included in occupancy and equipment expense.

During 2002, the company began the construction of a new corporate
headquarters. The new headquarters will be a 27,000 square foot facility to be
built at a construction cost to the company of approximately $3.8 million on
land for which the company paid $400,000, and will be located at 4605 Country
Club Road, Winston-Salem, North Carolina. As of December 31, 2002, the company has paid $3.2 million of the costs with
estimated completion in the first half of 2003. At December 31, 2002, the
company had capitalized interest costs of $169,000 for this construction
project.

Page 56



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SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(7) DEPOSITS

Time deposits in denominations of $100,000 or more were approximately $131.5
million and $111.5 million at
December 31, 2002 and 2001, respectively. At December 31, 2002, the scheduled
maturities of certificates of deposit are as follows:

|          |  |                        |         |          |  |       |         |  |  |   |         | 
|--------- |  | ---------------------- | ------- | -------- |  | ----- | ------- |  |  | - | ------- | 
|          |  | $100,000               |         | Under    |  |       |         | 
|          |  | and Over               |         | $100,000 |  | Total
|          |  |                        |         |          |  |      
|          |  | (Amounts in thousands)
|          |  |                       
|2003      |  | $                      | 86,332  |          |  | $     | 134,624 |  |  | $ | 220,956 | 
|2004-2005 |  |                        | 20,774  |          |  |       | 21,240  |  |  |   | 42,014  | 
|2006-2007 |  |                        | 24,405  |          |  |       | 3,991   |  |  |   | 28,396  | 
|          |  |                        |         |          |  |       |         |  |  |   |         | 
|Total     |  | $                      | 131,511 |          |  | $     | 159,855 |  |  | $ | 291,366 | 
|          |  |                        |         |          |  |       |         |  |  |   |         | 

(8) BORROWINGS

The company has a $89.0 million credit line available with the Federal Home
Loan Bank for advances. These advances are secured by both loans with a
carrying value of $92.2 million and pledged investment securities with a market
value of $55.4 million.

At December 31, 2002, the companys fixed rate Federal Home Loan Bank advances
of $75.5 million mature through 2012. At December 31, 2002 and 2001, the
interest rate on these advances ranged from 1.51% to 5.35% and from 4.15% to
5.35%, respectively. At December 31, 2002 and 2001, the weighted average
interest rates on the advances were 3.72% and 4.73%, respectively.

The contractual maturities of the Federal Home Loan Bank advances at December
31, 2002 are as follows:

|            |  |                        |        | 
|----------- |  | ---------------------- | ------ | 
|            |  | 2002                  
|            |  |                       
|            |  | (Amounts in thousands)
|            |  |                       
|Due in 2003 |  | $                      | 20,526 | 
|Due in 2004 |  |                        | 10,000 | 
|Due in 2005 |  |                        | 5,000  | 
|Due in 2006 |  |                        |       | 
|Due in 2007 |  |                        | 10,000 | 
|Thereafter  |  |                        | 30,000 | 
|            |  |                        |        | 
|            |  | $                      | 75,526 | 
|            |  |                        |        | 

In addition to the above advances, the company also has a repurchase agreement
with an outstanding balance of $20.2 million at December 31, 2002. Securities
sold under agreements to repurchase generally mature within ninety days from
the transaction date and are collateralized by U.S. Government Agency
obligations. The company has repurchase lines of credit of $100.0 million from
various institutions, which must be adequately collateralized.

In addition to the above advances, the company has lines of credit of $27.0
million from various correspondent banks to purchase federal funds sold on a
short-term basis.

Aggregate borrowings at December 31, 2002 amounted to $95.7 million, including
$40.7 million that is due within one year and classified as short-term
borrowings and $55.0 million due after one year that is classified as long-term
debt in the accompanying consolidated balance sheet.

Page 57



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(9) CONVERTIBLE PREFERRED SECURITIES

In February of 2002, Southern Community Capital Trust I (the Trust), a newly
formed subsidiary of the company, issued 1,725,000 convertible preferred
securities (the Securities), generating total proceeds of $17.3 million. The
Securities pay distributions (quarterly beginning on March 31, 2002) at an
annual rate of 7.25% and mature on March 31, 2032. The company has fully and
unconditionally guaranteed the obligations of the Trust. The Securities can be
converted at any time into common stock at a price of $8.26 (the Conversion
Price) or approximately 1.211 shares of the companys common stock for each
convertible preferred security. The Securities issued by the Trust are
redeemable in whole or in part at any time after April 1, 2007. The
Securities are also redeemable in whole at any time prior to March 31, 2007 as
long as the trading price of the companys common stock has been at least 125%
of the Conversion Price for a period of twenty consecutive trading days ending
within five days of the notice of redemption. The proceeds from the Securities
were utilized to purchase convertible junior subordinated debentures from the
company under the same terms and conditions as the Securities. The company has
the right to defer payment of interest on the debentures at any time and from
time to time for a period not exceeding five years, provided that no deferral
period extend beyond the stated maturities of the debentures. Such deferral of
interest payments by the company will result in a deferral of distribution
payments on the related Securities. Should the company defer the payment of
interest on the debentures, the company will be precluded from the payment of
cash dividends to shareholders. Subject to certain limitations, the Securities
qualify as Tier 1 capital of the company for regulatory capital purposes. The
principal use of the net proceeds from the sale of the securities is to infuse
capital to the companys bank subsidiary, Southern Community Bank and Trust, to
fund its operations and continued expansion, and to maintain the companys and
the banks status as well capitalized under regulatory guidelines.

(10) EMPLOYEE AND DIRECTOR BENEFIT PLANS

401(k) Retirement Plan

The company maintains a 401(k) retirement plan that covers all eligible
employees. The company matches 100% of employee contributions, with the
companys contribution limited to 6% of each employees salary. Matching
contributions are funded when accrued. Matching expenses totaled approximately
$315,000 in 2002, $240,000 in 2001 and $117,000 in 2000.

Employment Agreements

The company has entered into employment agreements with its chief executive
officer and two other executive officers to ensure a stable and competent
management base. The agreements provide for a three-year term, but the
agreements may annually be extended for an additional year. The agreements
provide for benefits as spelled out in the contracts and cannot be terminated
by the Board of Directors, except for cause, without prejudicing the officers
rights to receive certain vested benefits, including compensation. In the
event of a change in control of the company, as outlined in the agreements, the
acquirer will be bound to the terms of the contracts.

Termination Agreements

The company has entered into special termination agreements with substantially
all other employees, who have completed one year of service, which provide for
severance pay benefits in the event of a change in control of the company which
results in the termination of such employee or diminished compensation, duties
or benefits.

Page 58



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(10) EMPLOYEE AND DIRECTOR BENEFIT PLANS (Continued)

Supplemental Retirement

The company during 2001 implemented a non-qualifying deferred compensation plan
for certain key executive and senior officers. The company has purchased life
insurance policies on the participating officers in order to provide future
funding of benefit payments. Benefits will accrue based upon the performance of
the underlying life insurance policies both during employment and after
retirement. Such benefits will continue to accrue and be paid throughout each
participants life assuming satisfactory performance of the funding life
insurance policies. The plan also provides for payment of death or disability
benefits in the event a participating officer becomes permanently disabled or
dies prior to attainment of retirement age. Provisions of $142,000 in 2002
and $58,000 in 2001 were expensed for future benefits to be provided under this
plan.

Stock Option Plans

During 1997 the company adopted, with stockholder approval, an Incentive Stock
Option Plan (the ISO Plan) and a Nonstatutory Stock Option Plan (the NSO
Plan). Both plans were amended in 2000 and in 2001, with stockholder
approval, to increase the number of shares available for grant. Each plan
makes available options to purchase 875,253 shares of the companys common
stock, for an aggregate number of common shares reserved for options of
1,750,506. The exercise price of all options granted to date is the fair value
of the companys common shares on the date of grant. All options vest over a
five-year period. All unexercised options expire ten years after the date of
grant. A summary of the companys option plans as of and for the years ended
December 31, 2002, 2001 and 2000, reflecting the effects of stock splits and
dividends declared, including the 5% stock dividend declared and distributed in
2002, is as follows:

|                     |                        |  |            |          |             |  |                     |         |                     |   |          |      |  |  |           |         |   |   |      |      | 
|-------------------- | ---------------------- |  | ---------- | -------- | ----------- |  | ------------------- | ------- | ------------------- | - | -------- | ---- |  |  | --------- | ------- | - | - | ---- | ---- | 
|                     |                        |  |            |          |             |  | Outstanding Options |         | Exercisable Options
|                     |                        |  |            |          |             |  |                     |         |                    
|                     |                        |  | Shares     |          |             |  |                     |         | Weighted            |   |          |      |  |  | Weighted 
|                     |                        |  | Available  |          |             |  |                     |         | Average             |   |          |      |  |  | Average  
|                     |                        |  | for Future |          | Number      |  | Exercise            |         | Number              |   | Exercise
|                     |                        |  | Grants     |          | Outstanding |  | Price               |         | Outstanding         |   | Price   
|                     |                        |  |            |          |             |  |                     |         |                     |   |         
|At December 31, 1999 |                        |  | 105,650    |          |             |  | 1,306,614           |         |                     | $ | 4.58     |      |  |  | 571,243   |         |   | $ | 4.24 |     
|                     | Options authorized     |  |            | 75,288   |             |  |                     |        |                     |   |          |     |  |  |           |        |   |   |      |     | 
|                     | Options granted/vested |  |            | (120,890 | )           |  |                     | 120,890 |                     |   |          | 7.56 |  |  |           | 299,950 |   |   |      | 3.79 | 
|                     | Options exercised      |  |            |         |             |  |                     | (20,873 | )                   |   |          | 4.02 |  |  |           | (20,873 | ) |   |      | 4.02 | 
|                     | Options forfeited      |  |            | 34,237   |             |  |                     | (34,237 | )                   |   |          | 7.01 |  |  |           | (7,204  | ) |   |      | 7.05 | 
|                     |                        |  |            |          |             |  |                     |         |                     |   |          |      |  |  |           |         |   |   |      |     
|At December 31, 2000 |                        |  | 94,285     |          |             |  | 1,372,394           |         |                     |   | 4.80     |      |  |  | 843,116   |         |   |   | 4.38 |     
|                     | Options authorized     |  |            | 132,917  |             |  |                     |        |                     |   |          |     |  |  |           |        |   |   |      |     | 
|                     | Options granted/vested |  |            | (91,061  | )           |  |                     | 91,061  |                     |   |          | 5.18 |  |  |           | 311,624 |   |   |      | 4.44 | 
|                     | Options exercised      |  |            |         |             |  |                     | (20,055 | )                   |   |          | 4.00 |  |  |           | (20,055 | ) |   |      | 4.00 | 
|                     | Options forfeited      |  |            | 63,184   |             |  |                     | (63,184 | )                   |   |          | 6.18 |  |  |           | (23,381 | ) |   |      | 5.08 | 
|                     |                        |  |            |          |             |  |                     |         |                     |   |          |      |  |  |           |         |   |   |      |     
|At December 31, 2001 |                        |  | 199,325    |          |             |  | 1,380,216           |         |                     |   | 4.77     |      |  |  | 1,111,304 |         |   |   | 4.39 |     
|                     | Options authorized     |  |            |         |             |  |                     |        |                     |   |          |     |  |  |           |        |   |   |      |     | 
|                     | Options granted/vested |  |            | (124,950 | )           |  |                     | 124,950 |                     |   |          | 6.66 |  |  |           | 182,830 |   |   |      | 5.77 | 
|                     | Options exercised      |  |            |         |             |  |                     | (21,097 | )                   |   |          | 3.64 |  |  |           | (21,097 | ) |   |      | 3.64 | 
|                     | Options forfeited      |  |            | 48,940   |             |  |                     | (48,940 | )                   |   |          | 6.49 |  |  |           | (13,808 | ) |   |      | 5.33 | 
|                     |                        |  |            |          |             |  |                     |         |                     |   |          |      |  |  |           |         |   |   |      |     
|At December 31, 2002 |                        |  | 123,315    |          |             |  | 1,435,129           |         |                     | $ | 4.88     |      |  |  | 1,259,229 |         |   | $ | 4.59 |     
|                     |                        |  |            |          |             |  |                     |         |                     |   |          |      |  |  |           |         |   |   |      |     

Page 59



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(10) EMPLOYEE AND DIRECTOR BENEFIT PLANS (Continued)

Stock Option Plans (Continued)

The weighted average remaining life of options outstanding at December 31, 2002
is 6 years. The range of exercise prices for options outstanding at December
31, 2002 is $3.44 to $12.16.

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

|                                         |                         |   |         |       |         |   |         |       |   |   |      |       |  
|---------------------------------------- | ----------------------- | - | ------- | ----- | ------- | - | ------- | ----- | - | - | ---- | ----- | -
|                                         |                         |   | 2002    |       | 2001    |   | 2000   
|                                         |                         |   |         |       |         |   |        
|Estimated fair value of options granted  |                         | $ | 2.30    |       |         | $ | 2.35    |       |   | $ | 3.31 |      
|                                         |                         |   |         |       |         |   |         |       |   |   |      |      
|Assumptions in estimating option values: |                         |   |         |       |         |   |         |       |   |   |      |      
|                                         | Risk-free interest rate |   |         | 3.50  | %       |   |         | 4.00  | % |   |      | 5.50  | %
|                                         | Dividend yield          |   |         | 0.00  | %       |   |         | 0.00  | % |   |      | 0.00  | %
|                                         | Volatility              |   |         | 22.00 | %       |   |         | 18.00 | % |   |      | 23.00 | %
|                                         | Expected life           |   | 7 years |       | 7 years |   | 7 years |      

(11) LEASES

The company leases office space under non-cancelable operating leases. Future
minimum lease payments under these leases for the years ending December 31 are
as follows (amounts in thousands):

|                    |  |  |  |  |  |   |       | 
|------------------- |  |  |  |  |  | - | ----- | 
|2003                |  |  |  |  |  | $ | 428   | 
|2004                |  |  |  |  |  |   | 424   | 
|2005                |  |  |  |  |  |   | 393   | 
|2006                |  |  |  |  |  |   | 349   | 
|2007                |  |  |  |  |  |   | 203   | 
|2008 and thereafter |  |  |  |  |  |   | 743   | 
|                    |  |  |  |  |  |   |       | 
|Total               |  |  |  |  |  | $ | 2,540 | 
|                    |  |  |  |  |  |   |       | 

Total rental expense under operating leases was $461,000 in 2002, $427,000 in
2001, and $352,000 in 2000.

(12) INCOME TAXES

The significant components of the provision for income taxes for the years
ended December 31, 2002, 2001 and 2000 are as follows:

|                                 |                                |   |                        |       |      |   |       |       |  |   |       |       | 
|-------------------------------- | ------------------------------ | - | ---------------------- | ----- | ---- | - | ----- | ----- |  | - | ----- | ----- | 
|                                 |                                |   | 2002                   |       | 2001 |   | 2000 
|                                 |                                |   |                        |       |      |   |      
|                                 |                                |   | (Amounts in thousands)
|                                 |                                |   |                       
|Current tax provision            |                                | $ | 2,207                  |       |      | $ | 1,238 |       |  | $ | 1,811 |      
|Deferred tax provision (benefit) |                                |   | (452                   | )     |      |   | (91   | )     |  |   | (345  | )    
|                                 |                                |   |                        |       |      |   |       |       |  |   |       |      
|                                 | Net provision for income taxes |   | $                      | 1,755 |      |   | $     | 1,147 |  |   | $     | 1,466 | 
|                                 |                                |   |                        |       |      |   |       |       |  |   |       |      

Page 60



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(12) INCOME TAXES (Continued)

The difference between the provision for income taxes and the amounts computed
by applying the statutory federal income tax rate of 34% to income before
income taxes is summarized below:

|                                           |                                            |                                                   |       |                        |       |      |       |      |       |   |       |     |       | 
|------------------------------------------ | ------------------------------------------ | ------------------------------------------------- | ----- | ---------------------- | ----- | ---- | ----- | ---- | ----- | - | ----- | --- | ----- | 
|                                           |                                            |                                                   |       | 2002                   |       | 2001 |       | 2000
|                                           |                                            |                                                   |       |                        |       |      |       |     
|                                           |                                            |                                                   |       | (Amounts in thousands)
|                                           |                                            |                                                   |       |                       
|Tax computed at the statutory federal rate |                                            | $                                                 | 1,689 |                        |       | $    | 1,106 |      |       | $ | 1,320 |    
|                                           |                                            |                                                   |       |                        |       |      |       |      |       |   |       |    
|Increase (decrease) resulting from:        |                                            |                                                   |       |                        |       |      |       |      |       |   |       |    
|                                           | State income taxes, net of federal benefit |                                                   |       | 117                    |       |      |       | 32   |       |   |       | 147 |      
|                                           | Tax exempt income                          |                                                   |       | (75                    | )     |      |       | (49  | )     |   |       | (17 | )    
|                                           | Other permanent differences                |                                                   |       | 24                     |       |      |       | 58   |       |   |       | 16  |      
|                                           |                                            |                                                   |       |                        |       |      |       |      |       |   |       |    
|                                           |                                            |                                                   | 66    |                        |       |      | 41    |      |       |   | 146   |    
|                                           |                                            |                                                   |       |                        |       |      |       |      |       |   |       |    
|                                           |                                            | Provision for income taxes included in operations |       | $                      | 1,755 |      |       | $    | 1,147 |   |       | $   | 1,466 | 
|                                           |                                            |                                                   |       |                        |       |      |       |      |       |   |       |    

Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components
of deferred taxes at December 31, 2002 and 2001 are as follows:

|                                      |                                 |  |                        |       |      |  |        |       |  | 
|------------------------------------- | ------------------------------- |  | ---------------------- | ----- | ---- |  | ------ | ----- |  | 
|                                      |                                 |  | 2002                   |       | 2001
|                                      |                                 |  |                        |       |     
|                                      |                                 |  | (Amounts in thousands)
|                                      |                                 |  |                       
|Deferred tax assets relating to:      |                                 |  |                        |       |      |  |        |      
|                                      | Allowance for loan losses       |  | $                      | 2,287 |      |  | $      | 1,833 | 
|                                      | Deferred compensation           |  | 77                     |       |      |  |       |      
|                                      | Other                           |  | 60                     |       |      |  | 22     |      
|                                      |                                 |  |                        |       |      |  |        |      
|                                      | Total deferred tax assets       |  | 2,424                  |       |      |  | 1,855  |      
|                                      |                                 |  |                        |       |      |  |        |      
|Deferred tax liabilities relating to: |                                 |  |                        |       |      |  |        |      
|                                      | Property and equipment          |  | (304                   | )     |      |  | (164   | )    
|                                      | Loan fees and costs             |  | (299                   | )     |      |  | (321   | )    
|                                      | Other comprehensive income      |  | (1,526                 | )     |      |  | (504   | )    
|                                      | Other                           |  | (25                    | )     |      |  | (26    | )    
|                                      |                                 |  |                        |       |      |  |        |      
|                                      | Total deferred tax liabilities  |  | (2,154                 | )     |      |  | (1,015 | )    
|                                      |                                 |  |                        |       |      |  |        |      
|                                      | Net recorded deferred tax asset |  | $                      | 270   |      |  | $      | 840   | 
|                                      |                                 |  |                        |       |      |  |        |      

The company has no valuation allowance at December 31, 2002 or 2001 because
management has determined that it is more likely than not that the results of
future operations will generate sufficient taxable income to realize the
deferred tax assets.

Page 61



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(13) NON-INTEREST INCOME AND OTHER NON-INTEREST EXPENSE

The major components of non-interest income for the years ended December 31,
2002, 2001 and 2000 are as follows:

|                                             |  |                        |       |      |  |      |       |  |  |   |       | 
|-------------------------------------------- |  | ---------------------- | ----- | ---- |  | ---- | ----- |  |  | - | ----- | 
|                                             |  | 2002                   |       | 2001 |  | 2000
|                                             |  |                        |       |      |  |     
|                                             |  | (Amounts in thousands)
|                                             |  |                       
|Service charges and fees on deposit accounts |  | $                      | 1,121 |      |  | $    | 879   |  |  | $ | 595   | 
|Presold mortgage loan fees                   |  |                        | 1,310 |      |  |      | 1,009 |  |  |   | 550   | 
|Investment brokerage fees                    |  |                        | 333   |      |  |      | 193   |  |  |   | 322   | 
|SBIC management fees                         |  |                        | 542   |      |  |      | 564   |  |  |   | 515   | 
|Income from derivative                       |  |                        |      |      |  |      | 383   |  |  |   |      | 
|Gain on sale of investment securities        |  |                        | 70    |      |  |      |      |  |  |   |      | 
|Other                                        |  |                        | 551   |      |  |      | 374   |  |  |   | 216   | 
|                                             |  |                        |       |      |  |      |       |  |  |   |       | 
|Total                                        |  | $                      | 3,927 |      |  | $    | 3,402 |  |  | $ | 2,198 | 
|                                             |  |                        |       |      |  |      |       |  |  |   |       | 

The major components of other non-interest expense for the years ended December
31, 2002, 2001 and 2000 are as follows:

|                                              |  |                        |       |      |  |      |       |  |  |   |       | 
|--------------------------------------------- |  | ---------------------- | ----- | ---- |  | ---- | ----- |  |  | - | ----- | 
|                                              |  | 2002                   |       | 2001 |  | 2000
|                                              |  |                        |       |      |  |     
|                                              |  | (Amounts in thousands)
|                                              |  |                       
|Postage, printing and office supplies         |  | $                      | 313   |      |  | $    | 339   |  |  | $ | 261   | 
|Advertising and promotion                     |  |                        | 566   |      |  |      | 519   |  |  |   | 578   | 
|Data processing and other outsourced services |  |                        | 1,177 |      |  |      | 1,033 |  |  |   | 624   | 
|Professional services                         |  |                        | 260   |      |  |      | 341   |  |  |   | 233   | 
|Other                                         |  |                        | 2,199 |      |  |      | 1,353 |  |  |   | 995   | 
|                                              |  |                        |       |      |  |      |       |  |  |   |       | 
|Total                                         |  | $                      | 4,515 |      |  | $    | 3,585 |  |  | $ | 2,691 | 
|                                              |  |                        |       |      |  |      |       |  |  |   |       | 

(14) REGULATORY MATTERS

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

The bank is subject to various regulatory capital requirements administered by
federal and state banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory  and possibly additional
discretionary  actions by regulators that, if undertaken, could have a direct
material effect on the banks financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, the bank
must meet specific capital guidelines that involve quantitative measures of the
banks assets, liabilities, and certain off-balance-sheet items as calculated
under regulatory accounting practices. The banks capital amounts and
classifications are also subject to qualitative judgments by the regulators
about components, risk weightings, and other factors.

Page 62



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000




(14) REGULATORY MATTERS (Continued)

Quantitative measures established by regulation to ensure capital adequacy
require the bank to maintain minimum amounts and ratios, as prescribed by
regulations, of total and Tier I capital to risk-weighted assets and of Tier I
capital to average assets. As of December 31, 2002 and 2001, the most recent
notification from the FDIC categorized the bank as well capitalized under the
regulatory framework for prompt correction action. To be categorized as well
capitalized, the bank must maintain minimum amounts and ratios, as set forth in
the table below. There are no conditions or events since that notification
that management believes have changed the banks category. Information
regarding the banks capital and capital ratios is set forth below:

|                                         |  |                        |        |                   |  |                              |       |       |  |                     |        |                          |  |  |      |   |  |                    |        |  |  |  |       |  
|---------------------------------------- |  | ---------------------- | ------ | ----------------- |  | ---------------------------- | ----- | ----- |  | ------------------- | ------ | ------------------------ |  |  | ---- | - |  | ------------------ | ------ |  |  |  | ----- | -
|                                         |  |                        |        |                   |  |                              |       |       |  |                     |        |                          |  |  |      |   |  | Minimum To Be Well
|                                         |  |                        |        |                   |  |                              |       |       |  | Minimum For Capital |        | Capitalized Under Prompt
|                                         |  | Actual                 |        | Adequacy Purposes |  | Corrective Action Provisions
|                                         |  |                        |        |                   |  |                             
|                                         |  | Amount                 |        | Ratio             |  | Amount                       |       | Ratio |  | Amount              |        | Ratio                   
|                                         |  |                        |        |                   |  |                              |       |       |  |                     |        |                         
|                                         |  | (Dollars in thousands)
|                                         |  |                       
|As of December 31, 2002:                 |  |                        |        |                   |  |                              |       |       |  |                     |        |                          |  |  |      |   |  |                    |        |  |  |  |       |  
|Total Capital (to Risk-Weighted Assets)  |  | $                      | 60,563 |                   |  |                              | 12.23 | %     |  | $                   | 39,601 |                          |  |  | 8.00 | % |  | $                  | 49,501 |  |  |  | 10.00 | %
|Tier I Capital (to Risk-Weighted Assets) |  |                        | 54,373 |                   |  |                              | 10.98 | %     |  |                     | 19,800 |                          |  |  | 4.00 | % |  |                    | 29,701 |  |  |  | 6.00  | %
|Tier I Capital (to Average Assets)       |  |                        | 54,373 |                   |  |                              | 8.95  | %     |  |                     | 24,314 |                          |  |  | 4.00 | % |  |                    | 30,392 |  |  |  | 5.00  | %
|As of December 31, 2001:                 |  |                        |        |                   |  |                              |       |       |  |                     |        |                          |  |  |      |   |  |                    |        |  |  |  |       |  
|Total Capital (to Risk-Weighted Assets)  |  | $                      | 46,722 |                   |  |                              | 11.53 | %     |  | $                   | 32,405 |                          |  |  | 8.00 | % |  | $                  | 40,503 |  |  |  | 10.00 | %
|Tier I Capital (to Risk-Weighted Assets) |  |                        | 41,655 |                   |  |                              | 10.28 | %     |  |                     | 16,203 |                          |  |  | 4.00 | % |  |                    | 24,304 |  |  |  | 6.00  | %
|Tier I Capital (to Average Assets)       |  |                        | 41,655 |                   |  |                              | 9.21  | %     |  |                     | 18,090 |                          |  |  | 4.00 | % |  |                    | 22,613 |  |  |  | 5.00  | %

The company is also subject to these capital requirements. At December 31,
2002, the companys total capital to risk-weighted assets, Tier I capital to
risk-weighted assets and Tier I capital to average assets were 13.78%, 12.07%
and 9.84%, respectively.

(15) DERIVATIVES

The following table sets forth certain information concerning the companys
interest rate swaps at December 31, 2002:

|                                       |  |                        |        |  
|-------------------------------------- |  | ---------------------- | ------ | -
|Type                                   |  | (Dollars in thousands)
|                                       |  |                       
|Receive fixed swaps (notional amounts) |  | $                      | 35,000 |  
|Receive rate                           |  |                        | 6.46   | %
|Pay rate (daily average prime)         |  |                        | 4.25   | %
|Fair value                             |  | $                      | 1,253  |  
|Deferred gain from early termination   |  |                        | 156    |  

|                           |  |   |         |  
|-------------------------- |  | - | ------- | -
|Year-to-date Activity      |  |   |         |  
|                           |  |   |         |  
|Balance, December 31, 2001 |  | $ |        |  
|Additions                  |  |   | 50,000  |  
|Maturities/amortizations   |  |   |        |  
|Sales/terminations         |  |   | (15,000 | )
|                           |  |   |         |  
|Balance, December 31, 2002 |  | $ | 35,000  |  
|                           |  |   |         |  

|                  |  |   |        | 
|----------------- |  | - | ------ | 
|Maturity Schedule |  |   |        | 
|                  |  |   |        | 
|One to five years |  | $ | 35,000 | 

Page 63



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000



---

(15) DERIVATIVES (Continued)

The $35.0 million notional amount of derivatives used in interest rate risk
management is used to hedge prime rate-based commercial loans. The company
does not utilize derivatives for trading purposes.

Although off-balance sheet derivative financial instruments do not expose the
company to credit risk equal to the notional amount, such agreements generate
credit risk to the extent of the fair value gain in an off-balance sheet
derivative financial instrument if the counterparty fails to perform. Such
risk is minimized through the creditworthiness of the counterparties and the
consistent monitoring of these agreements. The counterparties to these
arrangements were primarily large commercial banks and investment banks. Where
appropriate, master netting agreements are arranged or collateral is obtained
in the form of rights to securities. At December 31, 2002, the companys
interest rate swaps reflected an unrealized gain of $1.4 million which included
a deferred gain from the early termination of an interest rate swap in the
amount of $156,000. The unrealized gain is included in other assets in the
accompanying consolidated balance sheet. The recognized portion of the gain
from early termination, which was $52,000 for 2002, is included in interest
income in the accompanying consolidated statement of operations. The
unrecognized gain at December 31, 2002 will be included in income over a
seventeen month period, with $113,000 expected to be recognized in income in
2003.

Other risks associated with interest-sensitive derivatives include the effect
on fixed rate positions during periods of changing interest rates. Indexed
amortizing swaps notional amounts and maturities change based on certain
interest rate indices. Generally, as rates fall the notional amounts decline
more rapidly, and as rates increase notional amounts decline more slowly. At
December 31, 2002, the company had no indexed amortizing swaps outstanding.
Under unusual circumstances, financial derivatives also increase liquidity
risk, which could result from an environment of rising interest rates in which
derivatives produce negative cash flows while being offset by increased cash
flows from variable rate loans. Such risk is considered insignificant due to
the relatively small derivative positions held by the company.

Late in 2000, the company purchased an off-balance sheet financial contract, an
interest rate floor, to assist in managing interest rate risk. An interest
rate floor is an option contract for which an initial premium is paid and for
which no ongoing interest rate risk is present. The ability of the counter
party to meet its obligation under the terms of the contract is the primary
risk involved with an interest rate floor. The company has controlled the
credit risk associated with this instrument through a thorough analysis of the
creditworthiness of the counterparty.

For the interest rate floor, the notional principal amount is used to express
the volume of transaction; however, the amount potentially subject to credit
risk is much smaller. The companys direct credit exposure is limited to the
net receivable amount on the transaction, which is generally paid quarterly.
The carrying amount of the financial instrument used for interest rate risk
management is included in other assets. The fair value is based upon quoted
market prices of similar instruments. The notional amount of the interest rate
floor contract held by the company at December 31, 2000 was $20 million. Its
fair value approximated its amortized cost of $42,000 at that date. During
2001, the company sold the above contract. The company recognized income
aggregating $383,000 on this floor contract in 2001, including the gain
realized upon its disposal, in non-interest income. The company held no
derivative instruments at December 31, 2001.

(16) OFF-BALANCE SHEET RISK

The company is a party to financial instruments with off-balance sheet risk in
the normal course of business to meet the financing needs of its customers.
These financial instruments include commitments to extend credit and standby
letters of credit. Those instruments involve, to varying degrees, elements of
credit and interest rate risk in excess of the amount recognized in the balance
sheets. The contract or notional amounts of those instruments reflect the
extent of involvement the company has in particular classes of financial
instruments. The company uses the same credit policies in making commitments
and conditional obligations as it does for on-balance-sheet instruments.

Page 64



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000



---

(16) OFF-BALANCE SHEET RISK (Continued)

Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of conditions established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Since some of the commitments are expected to expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The company evaluates each customers
creditworthiness on a case-by-case basis. The amount of collateral obtained,
if deemed necessary by the company, upon extension of credit is based on
managements credit evaluation of the borrower. Collateral obtained varies but
may include real estate, stocks, bonds, and certificates of deposit.

A summary of the contract amount of the companys exposure to off-balance sheet
risk as of December 31, 2002 is as follows (amounts in thousands):

|                                                                    |                                                  |  |   |        | 
|------------------------------------------------------------------- | ------------------------------------------------ |  | - | ------ | 
|Financial instruments whose contract amounts represent credit risk: |                                                  |  |   |       
|                                                                    | Loan commitments and undisbursed lines of credit |  | $ | 99,706 | 
|                                                                    | Undisbursed standby letters of credit            |  |   | 11,090 | 
|                                                                    | Construction contracts outstanding               |  |   | 445    | 

(17) DISCLOSURES ABOUT FAIR VALUES OF FINANCIAL INSTRUMENTS

Financial instruments include cash and due from banks, interest-bearing
deposits with banks, federal funds sold, investment securities, loans, deposit
accounts, federal funds purchased and other borrowings. Fair value estimates
are made at a specific moment in time, based on relevant market information and
information about the financial instrument. These estimates do not reflect any
premium or discount that could result from offering for sale at one time the
companys entire holdings of a particular financial instrument. Because no
active market readily exists for a portion of the companys financial
instruments, fair value estimates are based on judgments regarding future
expected loss experience, current economic conditions, risk characteristics of
various financial instruments, and other factors. These estimates are
subjective in nature and involve uncertainties and matters of significant
judgment and, therefore, cannot be determined with precision. Changes in
assumptions could significantly affect the estimates.

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



| |  | Cash and Due from Banks, and Federal Funds Sold
| |  | -----------------------------------------------



| |  |  | The carrying amounts for cash and due from banks, and federal funds sold
approximate fair value because of the short maturities of those
instruments.
| |  |  | -----------------------------------------------------------------------------------------------------------------------------------------------------



| |  | Investment Securities
| |  | ---------------------



| |  |  | Fair value for investment securities equals quoted market price if such
information is available. If a quoted market price is not available,
fair value is estimated using quoted market prices for similar
securities.
| |  |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Page 65



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000



---

(17) DISCLOSURES ABOUT FAIR VALUES OF FINANCIAL INSTRUMENTS (Continued)



| |  | Loans
| |  | -----



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



| |  | Investment in Life Insurance
| |  | ----------------------------



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



| |  | Deposits
| |  | --------



| |  |  | The fair value of demand deposits is the amount payable on demand at the
reporting date. The fair value of time deposits is estimated based on
discounting expected cash flows using the rates currently offered for
deposits of similar remaining maturities.
| |  |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | Borrowings
| |  | ----------



|
|
|



| |  | Accrued Interest
| |  | ----------------



| |  |  | The carrying amounts of accrued interest approximate fair value.
| |  |  | ----------------------------------------------------------------



| |  | Financial Instruments with Off-Balance Sheet Risk
| |  | -------------------------------------------------



| |  |  | With regard to financial instruments with off-balance sheet risk
discussed in Note 16, it is not practicable to estimate the fair value
of future financing commitments. The fair value of the interest rate
swap equals quoted market price.
| |  |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Page 66



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000



---

(17) DISCLOSURES ABOUT FAIR VALUES OF FINANCIAL INSTRUMENTS (Continued)

The carrying amounts and estimated fair values of the companys financial
instruments, none of which are held for trading purposes, are as follows at
December 31, 2002 and 2001:

|                                  |                                          |  |                |         |            |  |          |         |            |  |   |         |  |  |   |         | 
|--------------------------------- | ---------------------------------------- |  | -------------- | ------- | ---------- |  | -------- | ------- | ---------- |  | - | ------- |  |  | - | ------- | 
|                                  |                                          |  | 2002           |         | 2001      
|                                  |                                          |  |                |         |           
|                                  |                                          |  | Carrying       |         | Estimated  |  | Carrying |         | Estimated 
|                                  |                                          |  | amount         |         | fair value |  | amount   |         | fair value
|                                  |                                          |  |                |         |            |  |          |         |           
|                                  |                                          |  | (In thousands)
|Financial assets:                 |                                          |  |                |         |            |  |          |         |            |  |   |         |  |  |   |        
|                                  | Cash and due from banks                  |  | $              | 16,632  |            |  | $        | 16,632  |            |  | $ | 18,878  |  |  | $ | 18,878  | 
|                                  | Federal funds sold                       |  |                | 11,084  |            |  |          | 11,084  |            |  |   | 22,926  |  |  |   | 22,926  | 
|                                  | Investment securities available for sale |  |                | 96,930  |            |  |          | 96,930  |            |  |   | 30,678  |  |  |   | 30,678  | 
|                                  | Investment securities held to maturity   |  |                | 44,749  |            |  |          | 45,319  |            |  |   | 34,529  |  |  |   | 35,225  | 
|                                  | Loans, net                               |  |                | 415,596 |            |  |          | 416,631 |            |  |   | 354,888 |  |  |   | 355,888 | 
|                                  | Investment in life insurance             |  |                | 2,751   |            |  |          | 2,751   |            |  |   | 2,072   |  |  |   | 2,072   | 
|                                  | Accrued interest receivable              |  |                | 3,269   |            |  |          | 3,269   |            |  |   | 2,079   |  |  |   | 2,079   | 
|Derivative financial instruments: |                                          |  |                |         |            |  |          |         |            |  |   |         |  |  |   |        
|                                  | Interest rate swaps                      |  |                | 1,253   |            |  |          | 1,253   |            |  |   |        |  |  |   |        | 
|Financial liabilities:            |                                          |  |                |         |            |  |          |         |            |  |   |         |  |  |   |        
|                                  | Deposits                                 |  |                | 449,216 |            |  |          | 449,481 |            |  |   | 392,851 |  |  |   | 393,282 | 
|                                  | Short-term borrowings                    |  |                | 40,706  |            |  |          | 40,706  |            |  |   | 19,980  |  |  |   | 19,980  | 
|                                  | Long-term borrowings                     |  |                | 55,000  |            |  |          | 53,393  |            |  |   | 25,000  |  |  |   | 25,085  | 
|                                  | Convertible preferred securities         |  |                | 17,250  |            |  |          | 18,458  |            |  |   |        |  |  |   |        | 
|                                  | Accrued interest payable                 |  |                | 1,019   |            |  |          | 1,019   |            |  |   | 601     |  |  |   | 601     | 

Page 67



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000



---

(18) PARENT COMPANY FINANCIAL DATA

Southern Community Financial Corporations condensed balance sheets as of
December 31, 2002 and 2001, and its related condensed statements of operations
and cash flows for the years then ended are as follows:

Condensed Balance Sheets
December 31, 2002 and 2001
(Amounts in thousands)

|                      |                                            |                                            |   |        |        |      |   |        |        | 
|--------------------- | ------------------------------------------ | ------------------------------------------ | - | ------ | ------ | ---- | - | ------ | ------ | 
|                      |                                            |                                            |   | 2002   |        | 2001
|                      |                                            |                                            |   |        |        |     
|Asset:                |                                            |                                            |   |        |        |      |   |       
|                      | Cash on deposit in subsidiary              |                                            | $ | 67     |        |      | $ |       |       
|                      | Investment in subsidiary                   |                                            |   | 56,835 |        |      |   | 42,451 |       
|                      | Receivable from subsidiary                 |                                            |   | 6,320  |        |      |   |       |       
|                      | Investment securities available for sale   |                                            |   | 70     |        |      |   |       |       
|                      | Other assets                               |                                            |   | 1,497  |        |      |   |       |       
|                      |                                            |                                            |   |        |        |      |   |       
|                      |                                            | Total assets                               |   | $      | 64,789 |      |   | $      | 42,451 | 
|                      |                                            |                                            |   |        |        |      |   |       
|Liabilities:          |                                            |                                            |   |        |        |      |   |       
|                      | Convertible junior subordinated debentures |                                            | $ | 17,250 |        |      | $ |       |       
|                      |                                            |                                            |   |        |        |      |   |       
|Stockholders equity: |                                            |                                            |   |        |        |      |   |       
|                      | Common stock                               |                                            |   | 43,123 |        |      |   | 40,285 |       
|                      | Retained earnings                          |                                            |   | 1,830  |        |      |   | 1,362  |       
|                      | Accumulated other comprehensive income     |                                            |   | 2,586  |        |      |   | 804    |       
|                      |                                            |                                            |   |        |        |      |   |       
|                      |                                            | Total stockholders equity                 |   |        | 47,539 |      |   |        | 42,451 | 
|                      |                                            |                                            |   |        |        |      |   |       
|                      |                                            | Total liabilities and stockholders equity |   | $      | 64,789 |      |   | $      | 42,451 | 
|                      |                                            |                                            |   |        |        |      |   |       

Condensed Statements of Operations
Years Ended December 31, 2002 and 2001
(Amounts in thousands)

|                               |            |   |        |       |  |   |       |       | 
|------------------------------ | ---------- | - | ------ | ----- |  | - | ----- | ----- | 
|Equity in income of subsidiary |            | $ | 3,890  |       |  | $ | 2,105 |      
|Interest income                |            |   | 171    |       |  |   |      |      
|Other income                   |            |   | 90     |       |  |   |      |      
|Interest expense               |            |   | (1,131 | )     |  |   |      |      
|Other expense                  |            |   | (154   | )     |  |   |      |      
|Income tax benefit             |            |   | 348    |       |  |   |      |      
|                               |            |   |        |       |  |   |       |      
|                               | Net income |   | $      | 3,214 |  |   | $     | 2,105 | 
|                               |            |   |        |       |  |   |       |      

Page 68



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##### 



SOUTHERN COMMUNITY FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002, 2001 and 2000



---

(18) PARENT COMPANY FINANCIAL DATA (Continued)

Condensed Statements of Cash Flows
Years Ended December 31, 2002 and 2001
(Amounts in thousands)

|                        |                                                                                      |                      |         |         |    |      |   |        |   | 
|----------------------- | ------------------------------------------------------------------------------------ | -------------------- | ------- | ------- | -- | ---- | - | ------ | - | 
|                        |                                                                                      |                      |         | 2002    |    | 2001
|                        |                                                                                      |                      |         |         |    |     
|Operating activities:   |                                                                                      |                      |         |         |    |      |   |       
|                        | Net income                                                                           |                      | $       | 3,214   |    |      | $ | 2,105  |  
|                        | Equity in income of subsidiary                                                       |                      |         | (3,890  | )  |      |   | (2,105 | )
|                        | Amortization of debt issuance costs                                                  |                      |         | 33      |    |      |   |       |  
|                        | Increase in receivable from parent                                                   |                      |         | (316    | )  |      |   |       |  
|                        | Increase in other assets                                                             |                      |         | (203    | )  |      |   |       |  
|                        |                                                                                      |                      |         |         |    |      |   |       
|                        |                                                                                      |                      | (1,162  | )       |    |      |  |       
|                        |                                                                                      |                      |         |         |    |      |   |       
|Investing activities:   |                                                                                      |                      |         |         |    |      |   |       
|                        | Investment in and loans to subsidiary                                                |                      |         | (14,716 | )  |      |   |       |  
|                        | Purchase of investments                                                              |                      |         | (70     | )  |      |   |       |  
|                        |                                                                                      |                      |         |         |    |      |   |       
|                        |                                                                                      |                      | (14,786 | )       |    |      |  |       
|                        |                                                                                      |                      |         |         |    |      |   |       
|Financing activities:   |                                                                                      |                      |         |         |    |      |   |       
|                        | Proceeds from convertible junior subordinated
debentures, net of debt issuance costs |                      |         | 15,923  |    |      |   |       |  
|                        | Proceeds from exercise of stock options                                              |                      |         | 105     |    |      |   |       |  
|                        | Cash paid in lieu of fractional shares on
5% stock dividend                          |                      |         | (13     | )  |      |   |       |  
|                        |                                                                                      |                      |         |         |    |      |   |       
|                        |                                                                                      |                      | 16,015  |         |    |      |  |       
|                        |                                                                                      |                      |         |         |    |      |   |       
|                        |                                                                                      | Net increase in cash |         |         | 67 |      |   |        |  | 
|Cash, beginning of year |                                                                                      |                      |        |         |    |      |  |       
|                        |                                                                                      |                      |         |         |    |      |   |       
|                        |                                                                                      | Cash, end of year    |         | $       | 67 |      |   | $      |  | 
|                        |                                                                                      |                      |         |         |    |      |   |       

Page 69



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##### 



Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

None.

PART III

Item 10. Directors and Executive Officers of the Registrant

Incorporated by reference from the companys definitive proxy statement, to be
filed with the Securities and Exchange Commission with respect to the Annual
Meeting of Shareholders to be held on April 24, 2003.

Item 11. Executive Compensation

Incorporated by reference from the companys definitive proxy statement, to be
filed with the Securities and Exchange Commission with respect to the Annual
Meeting of Shareholders to be held on April 24, 2003.

Item 12. Security Ownership of Certain Beneficial Owners and Management

Incorporated by reference from the companys definitive proxy statement, to be
filed with the Securities and Exchange Commission with respect to the Annual
Meeting of Shareholders to be held on April 24, 2003.

The following table sets forth equity compensation plan information at December
31, 2002.

Equity Compensation Plan Information

|                                                           |  |                      |           |                   |  |                         |      |                         |  |                      |         | 
|---------------------------------------------------------- |  | -------------------- | --------- | ----------------- |  | ----------------------- | ---- | ----------------------- |  | -------------------- | ------- | 
|                                                           |  |                      |           |                   |  |                         |      |                         |  | Number of securities
|                                                           |  | Number of securities |           |                   |  |                         |      | remaining available for
|                                                           |  | to be issued         |           | Weighted-average  |  | future issuance under  
|                                                           |  | upon exercise of     |           | exercise price of |  | equity compensation    
|                                                           |  | outstanding          |           | outstanding       |  | plans                  
|                                                           |  | options, warrants    |           | options, warrants |  | (excluding securities  
|Plan Category                                              |  | and rights           |           | and rights        |  | reflected in column(a))
|                                                           |  |                      |           |                   |  |                        
|                                                           |  | (a)                  |           | (b)               |  | (c)                    
|                                                          
|Equity compensation
plans approved by
security holders     |  |                      | 1,435,129 |                   |  | $                       | 4.88 |                         |  |                      | 123,315 | 
|Equity compensation
plans not approved
by security holders |  | NA                   |           | NA                |  | NA                     
|                                                           |  |                      |           |                   |  |                         |      |                         |  |                      |         | 
|Total                                                      |  |                      | 1,435,129 |                   |  | $                       | 4.88 |                         |  |                      | 123,315 | 
|                                                           |  |                      |           |                   |  |                         |      |                         |  |                      |         | 

Item 13. Certain Relationships and Related Transactions

Incorporated by reference from the companys definitive proxy statement, to be
filed with the Securities and Exchange Commission with respect to the Annual
Meeting of Shareholders to be held on April 24, 2003.

Item 14. Controls and Procedures

The companys management, including the Chief Executive Officer and Chief
Financial Officer, has evaluated the effectiveness of the design and operation
of the companys disclosure controls and procedures within 90 days prior to the
filing of this annual report, and, based on their evaluation, the Chief
Executive Officer and Chief Financial Officer have concluded that these
disclosure controls and procedures are effective. There were no significant
changes in the companys internal controls or in other factors that could
significantly affect these controls subsequent to the date of their evaluation.

Page 70



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##### 



PART IV

Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K



|(a)(1) |  | Financial Statements. The following financial statements and
supplementary data are included in Item 8 of this report.
|------ |  | ----------------------------------------------------------------------------------------------------------------------

|                                                                                                                |  |                |       | 
|--------------------------------------------------------------------------------------------------------------- |  | -------------- | ----- | 
|Financial Statements                                                                                            |  | Form 10-K Page
|                                                                                                                |  |               
|Independent Auditors Report                                                                                    |  |                | 42    | 
|Consolidated Balance Sheets as of December 31, 2002 and 2001                                                    |  |                | 43    | 
|Consolidated Statements of Operations for the years ended
December 31, 2002, 2001 and 2000                      |  |                | 44    | 
|Consolidated Statements of Comprehensive Income for the years ended
December 31, 2002, 2001 and 2000            |  |                | 45    | 
|Consolidated Statements of Changes in Stockholders Equity for the years ended
December 31, 2002, 2001 and 2000 |  |                | 46    | 
|Consolidated Statements of Cash Flows for the years ended
December 31, 2002, 2001 and 2000                      |  |                | 47    | 
|Notes to Consolidated Financial Statements                                                                      |  |                | 48-69 | 



|(a)(2) |  | Financial Statement Schedules. All applicable financial statement
schedules required under Regulation S-X have been included in the Notes to the Consolidated Financial Statements.
|------ |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|      
|(a)(3) |  | Exhibits. The exhibits required by Item 601 of Regulation S-K are listed below.                                                                                                    

|              |  |                                                                                                                                                                                                                                
|------------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit No.   |  | Description                                                                                                                                                                                                                    
|              |  |                                                                                                                                                                                                                                
|Exhibit 3.1:  |  | Articles of Incorporation (incorporated by reference to Exhibit
3(i) to the Current Report on Form 8K dated October 1, 2001)                                                                                                   
|Exhibit 3.2:  |  | Bylaws (incorporated by reference to Exhibit 3(ii) to the Current Report on Form 8K dated October 1, 2001)                                                                                                                     
|Exhibit 3.3:  |  | Amendment to Articles of Incorporation (incorporated by reference to Exhibit 3.3 to the Annual Report on Form 10K
for the year ended December 31, 2001 (2001 Annual Report))                                                 
|Exhibit 4.1:  |  | Specimen certificate for Common Stock of Southern Community Financial Corporation (incorporated by reference to
Exhibit 4 to the Current Report on Form 8K dated October 1, 2001)                                              
|Exhibit 4.2:  |  | Form of 7.25% Convertible Junior Subordinated Debenture (incorporated by reference to Exhibit 4.2 to the
Registration Statement on Form S-2 dated November 28, 2001, Registration No. 333-74084 (the Registration
Statement))
|Exhibit 4.3:  |  | Form of Certificate for 7.25% Trust Preferred Security of Southern Community Capital Trust I (incorporated by
reference to Exhibit 4.6 to Amendment Number One to the Registration Statement dated January 10, 2002)           
|Exhibit 10.1: |  | Incentive Stock Option Plan of Southern Community Financial Corporation (incorporated by reference to Exhibit
10.1 to Amendment Number One to the Registration Statement dated
January 10, 2002)                               
|Exhibit 10.2: |  | Non-Statutory Stock Option Plan of Southern Community Financial Corporation (incorporated by reference to Exhibit
10.2 to Amendment Number One to the Registration Statement dated
January 10, 2002)                           

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##### 



|              |  |                                                                                                                                                                  
|------------- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit No.   |  | Description                                                                                                                                                      
|              |  |                                                                                                                                                                  
|Exhibit 10.3: |  | Indenture with respect to the Companys 7.25% Convertible Junior Subordinated Debentures (incorporated by
reference to Exhibit 10.3 to the 2001 Annual Report)   
|Exhibit 10.4: |  | Amended and Restated Trust Agreement of Southern Community Capital Trust I (incorporated by reference to Exhibit
10.4 to the 2001 Annual Report)                 
|Exhibit 10.5: |  | Guarantee Agreement for Southern Community Capital Trust I
(incorporated by reference to Exhibit 10.5 to the 2001
Annual Report)                                 
|Exhibit 10.6: |  | Agreement as to Expenses and Liabilities with respect to Southern Community Capital Trust I (incorporated by
reference to Exhibit 10.6 to the 2001 Annual Report)
|Exhibit 21:   |  | Subsidiaries of the Registrant                                                                                                                                   
|Exhibit 23:   |  | Consent of Dixon Odom PLLC                                                                                                                                       
|Exhibit 99.1: |  | Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                                                                                          



|(b) |  | Current Reports on Form 8-K filed during the fourth quarter of 2002.
|--- |  | --------------------------------------------------------------------

|        |  |                   |  |                                                                                              
|------- |  | ----------------- |  | ---------------------------------------------------------------------------------------------
|Type    |  | Date Filed        |  | Reporting Purpose                                                                            
|        |  |                   |  |                                                                                              
|Item 5. |  | November 22, 2002 |  | To report appointment of Richard A. Brenner to
the companys board of directors.             
|Item 5. |  | December 9, 2002  |  | To announce a stock repurchase program of up
to 100,000 shares of the companys common
stock.

Page 72



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##### 



SIGNATURES

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

|                     |  |                                                                                               |                    
|-------------------- |  | --------------------------------------------------------------------------------------------- | -------------------
|                     |  | SOUTHERN COMMUNITY
FINANCIAL CORPORATION                                                     
|                     |  |                                                                                              
|Date: March 20, 2003 |  | By:                                                                                           | /s/ F. Scott Bauer 
|                     |  |                                                                                              
|                     |  | F. Scott Bauer
President and Chief Executive Officer                                         
|                     |  |                                                                                              
|                     |  |                                                                                              
|Date: March 20, 2003 |  | By:                                                                                           | /s/ Richard M. Cobb
|                     |  |                                                                                              
|                     |  | Richard M. Cobb
Executive Vice President, Chief Operating
Officer and Chief Financial Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.

|                                           |  |                            |  |               
|------------------------------------------ |  | -------------------------- |  | --------------
|SIGNATURE                                  |  | TITLE                      |  | DATE          
|                                           |  |                            |  |               
|                                          
|/s/ F. Scott Bauer                         |  | Chairman of the Board      |  | March 20, 2003
|                                           |  |                            |  |               
|F. Scott Bauer                             |  |                            |  |               
|                                           |  |                            |  |               
|                                           |  | Vice Chairman of the Board |  | March 20, 2003
|                                           |  |                            |  |               
|Don Gray Angell                            |  |                            |  |               
|                                           |  |                            |  |               
|                                           |  |                            |  |               
|                                           |  |                            |  |               
|/s/ Richard A. Brenner

Richard A. Brenner |  | Director                   |  | March 20, 2003
|                                           |  |                            |  |               
|                                           |  |                            |  |               
|                                           |  |                            |  |               
|/s/ Jeff T. Clark

Jeff T. Clark           |  | Director                   |  | March 20, 2003
|                                           |  |                            |  |               
|                                           |  |                            |  |               
|                                           |  |                            |  |               
|/s/ Richard M. Cobb

Richard M. Cobb       |  | Director                   |  | March 20, 2003
|                                           |  |                            |  |               
|                                           |  |                            |  |               
|                                           |  |                            |  |               
|/s/ Matthew G. Gallins

Matthew G. Gallins |  | Director                   |  | March 20, 2003
|                                           |  |                            |  |               
|                                           |  |                            |  |               
|                                           |  |                            |  |               
|/s/ Billy D. Prim

Billy D. Prim           |  | Director                   |  | March 20, 2003

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##### 



|                                                 |  |          |  |               
|------------------------------------------------ |  | -------- |  | --------------
|SIGNATURE                                        |  | TITLE    |  | DATE          
|                                                 |  |          |  |               
|                                                
|/s/ Annette Scippio                              |  | Director |  | March 20, 2003
|                                                 |  |          |  |               
|Annette Scippio                                  |  |          |  |               
|                                                 |  |          |  |               
|                                                 |  |          |  |               
|                                                 |  |          |  |               
|/s/ Durward A. Smith, Jr.

Durward A. Smith, Jr. |  | Director |  | March 20, 2003
|                                                 |  |          |  |               
|                                                 |  |          |  |               
|                                                 |  |          |  |               
|William G. Ward                                  |  | Director |  | March 20, 2003
|                                                 |  |          |  |               
|                                                 |  |          |  |               
|                                                 |  |          |  |               
|/s/ Anthony H. Watts

Anthony H. Watts           |  | Director |  | March 20, 2003
|                                                 |  |          |  |               
|                                                 |  |          |  |               
|                                                 |  |          |  |               
|/s/ James G. Chrysson

James G. Chrysson         |  | Director |  | March 20, 2003
|                                                 |  |          |  |               
|                                                 |  |          |  |               
|                                                 |  |          |  |               
|/s/ Dianne M. Neal

Dianne M. Neal               |  | Director |  | March 20, 2003
|                                                 |  |          |  |               
|                                                 |  |          |  |               
|                                                 |  |          |  |               
|/s/ Nolan G. Brown

Nolan G. Brown               |  | Director |  | March 20, 2003

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##### 



CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER

Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

I, F. Scott Bauer, certify that:



|(1) |  | I have reviewed this annual report on Form 10-K of Southern Community
Financial Corporation, a North Carolina holding company (the
registrant);                                                                                                                                                                        
|--- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|(2) |  | Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the periods covered
by this annual report;
|   
|(3) |  | Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual
report;                    
|   
|(4) |  | The registrants other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and
have:                                                                                                    



| | (a) |  | designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report is
being prepared;
| | --- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | (b) |  | evaluated the effectiveness of the registrants disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this annual report (the Evaluation Date); and                                                                                                  
|
| | (c) |  | presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;                                                                                                                        



|(5) |  | The registrants other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrants auditors and the audit
committee of the registrants board of directors:
|--- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | (a) |  | all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrants ability to
record, process, summarize and report financial data and have
identified for the registrants auditors any material weaknesses in
internal controls; and
| | --- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | (b) |  | any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrants
internal controls;                                                                                                                                            



|(6) |  | The registrants other certifying officer and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and
material weaknesses.
|--- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                     |  |                                                     |                   
|-------------------- |  | --------------------------------------------------- | ------------------
|Date: March 20, 2003 |  | By:                                                 | /s/ F. Scott Bauer
|                     |  |                                                    
|                     |  | F. Scott Bauer
Chairman and Chief Executive Officer

Page 75



---



##### 



CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER

Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

I, Richard M. Cobb, certify that:



|(1) |  | I have reviewed this annual report on Form 10-K of Southern Community
Financial Corporation, a North Carolina holding company (the
registrant);                                                                                                                                                                        
|--- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|(2) |  | Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the periods covered
by this annual report;
|   
|(3) |  | Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual
report;                    
|   
|(4) |  | The registrants other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and
have:                                                                                                    



| | (a) |  | designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report is
being prepared;
| | --- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | (b) |  | evaluated the effectiveness of the registrants disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this annual report (the Evaluation Date); and                                                                                                  
|
| | (c) |  | presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;                                                                                                                        



|(5) |  | The registrants other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrants auditors and the audit
committee of the registrants board of directors:
|--- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | (a) |  | all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrants ability to
record, process, summarize and report financial data and have
identified for the registrants auditors any material weaknesses in
internal controls; and
| | --- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | (b) |  | any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrants
internal controls;                                                                                                                                            



|(6) |  | The registrants other certifying officer and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and
material weaknesses.
|--- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                     |                                                                                               |     |                    
|-------------------- | --------------------------------------------------------------------------------------------- | --- | -------------------
|Date: March 20, 2003 |                                                                                               | By: | /s/ Richard M. Cobb
|                     |                                                                                              
|                     | Richard M. Cobb
Executive Vice President, Chief Operating Officer
and Chief Financial Officer

Page 76