**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

 

**FORM 10-KSB/A**

** **

**ANNUALREPORT PURSUANT TO SECTION 13 OR 15 (d)**

**OF THESECURITIES EXCHANGE ACT OF 1934**

 

**For thefiscal year ended December 31, 2005**

 

**Commissionfile number 000-50645**

 

**THEBANK HOLDINGS**

(Exact name of Registrantas specified in its charter)

 

| **NEVADA**                                                                                | ** ** | **90-0071778**                  |
|-------------------------------------------------------------------------------------------|------------|---------------------------------|
| State of Incorporation                                                                    |       | IRS Employer  Identification No |
|                                                                                      |       |                            |
| **9990 Double R Boulevard, Reno, Nevada 89521**                                           |
| Address of principal  executive offices       Zip Code |
|                                                                                      |       |                            |
| **775-853-8600**                                                                          |
| Registrant’s telephone  number, including area code                                  |

 

Securities registered pursuant to Section 12(b) of theAct:  **None**

 

Securities registered pursuant to Section 12(g) of theAct**:****  Common Stock, $0.01 Par Value, Warrantsto Purchase Common Stock**

 

**Indicate by check mark whether the registrant (1)has filed all reports required to be filed by Section 13 or 15 (d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter 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** | **ý** | ** ** | **NO** | **o** |
|------------|---------|------------|------------|--------|-------|

 

**Check if disclosure of delinquent filers pursuantto Item 405 of Regulation S-B is not contained herein, and will not becontained, to the best of Registrant’s knowledge, in definitive proxy orinformation statements incorporated by reference in Part III of this Form 10-KSBor any amendment to this form 10-KSB.**

** **

**Indicate by check mark whether the registrant isan accelerated filer (as defined in Rule 12b-2 of the Act)**

 
| ** ** | **YES** | **o** | ** ** | **NO** | **ý** |
|------------|---------|-------|------------|--------|------------|

 

**Indicate by check mark whether the registrant isan Shell Company (as defined in Rule 12b-2 of the Act)**

 
| ** ** | **YES** | **o** | ** ** | **NO** | **ý** |
|------------|---------|-------|------------|--------|------------|

 

**For the year ending December 31, 2005 theRegistrant’s revenues were $17,938,000.**

 

**As of March 21, 2006, theaggregate market value of the voting stock held by non – affiliates of theRegistrant was approximately $44.2 million based on the NASDAQ closing price onthat date of $18.85 per share.**

 

**Shares of Common Stock held byeach officer and director and each person owning more than five percent of theoutstanding Common Stock have been excluded in that such persons may be deemedto be affiliates. This determination of the affiliate status is not necessarilya conclusive determination for other purposes. The number of shares of CommonStock of the registrant outstanding as of March 21, 2006 was 3,124,266 parvalue $0.01. Documents Incorporated by Reference:  Portions of the definitive proxy statementfor the 2006 Annual Meeting of Shareholders to be filed with Securities andExchange Commission pursuant to SEC Regulation 14A are incorporated byreference in Part III, Items 9-12.**

 

 

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** **

**FORM 10-KSB/A**

** **

**Explanatory Note**

 

The Bank Holdings is filing this Amendment No. 1 to its Annual Reporton Form 10-KSB, originally filed with the Securities and Exchange Commission(“SEC”) on March 31, 2006 for the purpose of amending and restating Item 6,“Management’s Discussion and Analysis of Financial Condition and Results ofOperations” to correct certain typographical errors contained therein; torevise the Report of Independent Registered Public Accounting Firm by McGladrey& Pullen LLP, certified public accountants, dated March 16, 2005 and March29, 2006, to include a revision inadvertently omitted from the original filing;to amend and correct the “Consolidated Statements of Stockholders’ Equity forthe Years Ended December 31, 2004, 2003 and 2002,” to omit unnecessarylanguage; to amend and correct Note 13 to “The Bank Holdings, Notes toConsolidated Financial Statements, December 31, 2005,” to correct an error to anumber contained therein; and to amend Exhibit 23.1. to include languagepreviously inadvertently omitted.

 

 

No other amendments or changes have been made to the Company’s annualreport on Form 10-KSB for the year ended December 31, 2005. Informationnot affected by this Amendment No. 1 is unchanged and reflects disclosuremade at the time of the original filing on Form 10-K, as amended. This Form10-K/A should be read in conjunction with the original Form 10-K, as amended,and the filings made with the Securities and Exchange Commission subsequent tothe filing of the original Form 10-K, including any amendments to such filings.

 

 

##### **TABLE OF CONTENTS**

#####  

| ** **     | ** **                                                                                      | **Page**   |
|----------------|-------------------------------------------------------------------------------------------------|------------|
| **Part I**     |                                                                                            | **1**      |   |
|           |                                                                                            |       |
| Item 1.        | Description  of Business                                                                        | 1          |   |
|           |                                                                                            |       |   |
| Item 1A.       | Risk Factors                                                                                    | 18         |   |
|           |                                                                                            |       |   |
| Item 2.        | Description  of Properties                                                                      | 19         |   |
|           |                                                                                            |       |   |
| Item  3.       | Legal  Proceedings                                                                              | 20         |   |
|           |                                                                                            |       |   |
| Item  4.       | Submission  of Matters to a Vote of Security Holders                                            | 21         |   |
|           |                                                                                            |       |   |
| **Part II**    |                                                                                            | **22**     |   |
|           |                                                                                            |       |   |
| Item 5.        | Market  for Common Equity and Related Shareholder Matters                                       | 22         |   |
|           |                                                                                            |       |   |
| Item 6.        | Management’s  Discussion and Analysis of Financial Condition and Results of Operations     | 24         |   |
|           |                                                                                            |       |   |
| Item  7.       | Consolidated Financial Statements                                                               | 50         |   |
|           |                                                                                            |       |   |
| Item  8.       | Changes in and Disagreements with  Accountants on Accounting and Financial Disclosure           | 84         |   |
|           |                                                                                            |       |   |
| Item  8A.      | Controls and Procedures                                                                         | 84         |   |
|           |                                                                                            |       |   |
| Item  8B.      | Other Information                                                                               | 84         |   |
|           |                                                                                            |       |   |
| **Part III**   |                                                                                            | **85**     |   |
|           |                                                                                            |       |   |
| Item  9.       | Directors and Executive Officers of the  Registrant                                             | 85         |   |
|           |                                                                                            |       |   |
| Item  10.      | Executive Compensation                                                                          | 85         |   |
|           |                                                                                            |       |   |
| Item  11.      | Security Ownership of Certain Beneficial  Owners and Management and Related Stockholder Matters | 85         |   |
|           |                                                                                            |       |   |
| Item  12.      | Certain Relationships and Related  Transactions                                                 | 85         |   |
|           |                                                                                            |       |   |
| Item  13.      | Exhibits                                                                                        | 86         |   |
|           |                                                                                            |       |   |
| Item  14.      | Principal Accountant Fees and Services                                                          | 88         |   |
|           |                                                                                            |       |   |
| **Signatures** | **90**                                                                                          |       |
|           |                                                                                            | ** ** |   |
| **Appendix**   | **1-15**                                                                                        |       |

 

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**PART I**

 

**ITEM 1.****                            ****BUSINESS**

 

**The Company**

 

**The BankHoldings**

 

The Bank Holdings is a bank holding companyincorporated in Nevada on January 17, 2003 and registered under the BankHolding Company Act of 1956, as amended. We conduct operations through our principalsubsidiary, Nevada Security Bank, a Nevada state-chartered commercial bank. Weand Nevada Security Bank are both headquartered in Reno, Nevada at 9990 DoubleR Boulevard. We acquired all of the outstanding shares of Nevada Security Bankon August 29, 2003. The Company’s only other direct subsidiary is The BankHoldings Statutory Trust I, a Connecticut statutory trust which was formed inNovember, 2005 solely to facilitate the issuance of variable rate capital trustpass through securities. This additional regulatory capital has enabled theCompany to follow previously established expansion plans without an impairmentof risk-based capital ratios. Pursuant to FASB Interpretation No. 46 *Consolidation of Variable Interest Entities*(FIN 46),**The Bank Holdings Statutory Trust**Iis not reflected on a consolidated basis in the financial statements of theCompany. The Bank Holdings has only one employee who is not also an employee ofNevada Security Bank. The Company exists primarily for the purpose of holdingthe stock of the Bank and of other such subsidiaries it may acquire orestablish.

 

The Company’s principal sources of income arefrom interest earning assets held in portfolio, as well as dividends from theBank, which are currently restricted. The Company intends to exploresupplemental sources of income in the future.

 

At December 31, 2005, the Company hadconsolidated assets of $384.6 million, deposits of $338.2 million andshareholder’s equity of $28.7 million. During the quarter ended March 31, 2004,the Company issued 1,552,500 shares of its $.01 par value common stock. 850,000shares were sold by the Company at a sales price of $11.00 per share. 702,500shares were sold by D.A. Davidson & Co. for a net sales price of $10.23 pershare. Gross proceeds amounted to $16.5 million and direct, incremental costsof issuance were approximately $400,000 which resulted in an increase ofcapital in the amount of $16.1 million.

 

References herein to the “Company” includethe Company and its consolidated subsidiaries, unless the context indicatesotherwise.

 

The Company’s website is:www.thebankholdings.com.

 

**The Bank**

 

**NevadaSecurity Bank**

 

Nevada Security Bank was incorporated underthe laws of the State of Nevada on February 26, 2001, and was licensed by theNevada Commissioner of Financial Institutions and commenced operations as aNevada state-chartered bank on December 27, 2001. The Bank’s website is:www.nevadasecuritybank.com.

 

Nevada Security Bank (NSB) operates from itshead office in Reno, and its branch offices in Incline Village, and northwestReno, Nevada, as well as Roseville, California. Incline Village is located onthe north shore of Lake Tahoe, Nevada, approximately 25 miles south of Reno,Nevada. Roseville is located in the Sacramento, California environs, about 124miles southwest of Reno, Nevada. That branch is separately branded as SilveradoBank, a division of NSB. Silverado Bank also focuses on government guaranteedloans through the

 

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Small Business Administration, or SBA. Theaddresses of our current full-service branch offices are as follows:

 
| **Reno:**     |   | 9990 Double R Boulevard   | ** ** | **Incline Village:** |   | 910 Tahoe Boulevard, Suite  101   |
|---------------|--------|---------------------------|------------|----------------------|--------|-----------------------------------|
|          |   | Reno, Nevada 98521        |       |                 |   | Incline Village, Nevada  89451    |
|          |   | (775) 853-8600            |       |                 |   | (775) 832-8100                    |
|          |   | Date of opening: 12/27/01 |       |                 |   | Date of opening: 3/6/02           |
|          |   |                      |       |                 |   |                              |
|          |   |                      |       |                 |   |                              |
| **Northwest** |   | 1680 Robb Drive           | ** ** | **Roseville:**       |   | 2270 Douglas Blvd., Ste  220      |
| **Reno:**     |   | Reno, Nevada 89523        |       |                 |   | Roseville, California  95991-4239 |
|          |   | (775) 746-9800            |       |                 |   | (916) 787-1900                    |
|          |   | Date of opening: 10/11/04 |       |                 |   | Date of opening: 3/18/05          |

 

As an independent community commercial bank,Nevada Security Bank offers a full range of consumer and commercial bankingservices primarily to the business and professional community and individualslocated in  two primary areas; WashoeCounty, Nevada and Placer County, California. Nevada Security Bank has a fullcomplement of lending activities, including commercial and industrial, realestate construction, real estate mortgage, as well as agricultural and consumerloans, with particular emphasis on short and medium-term obligations. NevadaSecurity Bank’s loan portfolio is not concentrated in any one industry,although approximately 78% of Nevada Security Bank’s loans are secured by realestate. A loan may be secured (in whole or in part) by real estate even thoughthe purpose of the loan is not to facilitate the purchase or development ofreal estate.

 

As of December 31, 2005, the principal areasin which we directed our lending activities, and the percentage of our totalloan portfolio for which each of those areas was responsible, were asfollows:  (i) loans secured by realestate 78.1%; (ii) commercial and industrial (including SBA) loans, 13.8%, and(iii) consumer loans 8.1%.

 

Nevada Security Bank offers a wide range ofdeposit instruments including personal and business checking accounts andsavings accounts, interest-bearing negotiable order of withdrawal accounts,money market accounts and time certificates of deposit. Most of Nevada SecurityBank’s deposits are attracted from individuals and from small and medium-sizedbusiness-related sources. Its deposits are insured under the Federal Deposit InsuranceAct up to applicable limits, and subject to regulations by that federal agency.The Bank is subject to periodic examinations of its operations and verificationof compliance with applicable laws and regulations issued by the FDIC and theNevada Financial Institutions Division.

 

As of December 31, 2005 the Bank had 4,196 depositaccounts with balances totaling approximately $338.2 million, compared to 3,549deposit accounts with balances totaling approximately $188.3 million atDecember 31, 2004 and 2,732 deposit accounts with balances totalingapproximately $148.7 million at December 31, 2003. We attract deposits throughour customer oriented product mix, competitive pricing, and convenientlocations where all are provided with the highest level of customer service. Further,we offer shared ATM and point-of-sale (POS) networks to allow customer accessto national and international funds transfer networks.

 

In addition to the loan and deposit servicesNevada Security Bank also offers a wide range of specialized services designedto attract and meet the needs of commercial customers and personal accountholders. These services include cashiers’ checks, travelers’ checks and foreigndrafts. Nevada Security Bank does not operate a trust department; however, ithas made an arrangement with a private trust company to offer trust services toits customers on request. Most of Nevada Security Bank’s business originatesfrom within Washoe County, Nevada; however, Placer County, California is asubstantial source of additional business through Silverado

 

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Bank, a division of Nevada Security Bank.Neither Nevada Security Bank’s business nor liquidity is seasonal, and therehas been no material effect upon Nevada Security Bank’s capital expenditures,earnings or competitive position as a result of federal, state or localenvironmental regulation.

 

The Company has not engaged in any materialresearch activities relating to the development of new products or services duringthe last two fiscal years, however, a substantial investment of time and intellectualcapital has been directed to the improvement of existing Bank services duringthe last twenty-four months. Specifically, during 2004 we opened a third branchoffice in northwest Reno, negotiated and completed the purchase of CNA Trust inCosta Mesa, California, received approval to open the Bank’s fourth branch inthe Spanish Springs area, and relocated the CNA Costa Mesa office to Roseville,California under the name of Silverado Bank, a division of Nevada Security Bank.In addition, we completed the design and implementation of the Company’swebsite, Silverado Bank’s website, and a company intranet. During 2005 weopened the upgraded Silverado Bank office, negotiated the purchase of Big SkyProperty Exchange in Bozeman, Montana and the merger of Granite Exchange, LLC.into Granite Exchange Inc.; and embarked on the identification of other likebusinesses which could increase core deposits, generate additional fee income,and decrease the Company’s cost of funds while supporting future loan growth. Further,the officers and employees of the Bank are continually engaged in marketingactivities, including the evaluation and development of new products andservices, among which are “free checking” and more comprehensive electronicbanking capabilities to enable the Bank to retain and improve its competitiveposition in its service areas. For example, alternatives for future electronicbanking delivery systems are currently being evaluated in an effort to keeppace with evolving technology, and to continue to provide superior service toour various individual customers and entities.

 

We hold no patents or licenses (other thanlicenses required by appropriate bank regulatory agencies or cities in which weconduct business), franchises or concessions. We are not dependent on a singlecustomer or group of related customers for a material portion of our deposits,nor is a material portion of our loans concentrated within a single industry orgroup of related industries, except as noted in “Management’s Discussion andAnalysis of Financial Condition and Results of Operations.”  The amounts expended in compliance with newgovernment and regulatory initiatives related to anti-terrorism, corporateresponsibility, and customer privacy have increased over the past few years,and the amount specifically related to Sarbanes-Oxley Section 404 compliance isexpected to significantly increase during 2006 and subsequent years.

 

Our mission is to be an organization ofexcellence by:

 

•                                          Providing quality banking products andservices, offered personally and professionally;

•                                          Committing our resources, energy andleadership to our communities;

•                                          Creating value for our shareholders;

•                                          Conducting our business with integrity andrespect for all; and

•                                          Fulfilling potential opportunities for growthand development

 

Our business strategy is to increaseshareholder and franchise value by continuing to expand our geographicfootprint through new branches, regional and/or loan production offices, and/orstrategic acquisitions as they may become available. We expect to achieve thesegoals with our core group of experienced bankers, meeting the needs of ourconstituent shareholder, customer, and employee groups. This will beaccomplished by understanding our customers’ needs and expectations andaddressing each of them in a focused and responsive fashion, on a timely basis.

 

Further, we expect to constantly refine andredefine our asset and liability portfolios through growth and product linediversification, increase our base of higher yielding assets as the economiccycle strengthens, and improve our efficiency ratio as we leverage our talentsand capital.

 

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**Competition**

 

The banking business in northern Nevada andnorthern California generally, and in the market areas served by NevadaSecurity Bank specifically, is highly competitive with respect to both loansand deposits. Nevada Security Bank competes for loans and deposits with othercommercial banks, savings and loan associations, finance companies, moneymarket funds, credit unions and other financial institutions, including anumber that are much larger than Nevada Security Bank. As of June 30, 2005, themost recent date for which data is available from the FDIC, there were 83banking offices, including 50 offices of three major chain banks (Bank ofAmerica, US Bank and Wells Fargo), operating within Nevada Security Bank’sprimary market areas in Washoe County. These three major chain banks werereported to have held 35.0% of the deposits in Washoe County at June 30, 2005. Further,the single Charles Schwab Bank NA, office alone holds an additional 42.0% ofthe county’s reported total deposits. Nevada Security Bank’s share of suchmarket at that date was reported to be 1.47% of the county’s $11.2 billiondeposit base (2.53% exclusive of Schwab), as compared to 1.73% of the county’s$9.1 billion deposit base on June 30, 2004 (2.77% exclusive of Schwab), andcompared to 0.73% of the county’s $5.1 billion deposit base at June 30, 2003. AtJune 30, 2005 the Bank was the second largest independent bank headquartered innorthern Nevada. Of the $2.1 billion change in the county’s deposit basebetween June 30, 2004 and 2005, $1.3 billion or 61% was represented by theSchwab office. There has been increased competition for deposit and loanbusiness over the last several years as a result of deregulation. Many of themajor commercial banks operating in Nevada Security Bank’s market areas offercertain services, such as trust and international banking services, whichNevada Security Bank does not offer directly. Additionally, banks with largercapitalization have larger lending limits and are thereby able to serve largercustomers. At December 31, 2005, the legal lending limit for Nevada SecurityBank was approximately $8.1 million.

 

To a great extent, the super-regional statebanks and multi-state chain banks also have the advantage of geographicallydiffused name recognition and may actively pursue wide-ranging advertisingcampaigns and branding tactics which are not available to a local communityinstitution, due to economies of scale.

 

Further, other competitors have enteredbanking markets with focused products targeted at specific highly profitablecustomer segments. Many competitors are able to compete across geographicboundaries that are blocked to us and provide customers with alternatives totraditional banking services and nearly all significant products. These competitivetrends are likely to continue.

 

In addition to competition from insureddepository institutions, principal competitors for deposits and loans have beenmortgage brokerage companies, insurance companies, investment brokerage houses,credit card companies and even retail establishments offering investmentvehicles such as mutual funds, annuities and money market funds, as well astraditional bank-like services such as check access to money market funds, orcash advances on credit card accounts.

 

In order to compete with the other financialinstitutions in its principal marketing areas, Nevada Security Bank reliesprincipally upon local promotional activities, personal contacts by itsofficers, directors and employees, and close connections with its communities.

 

The Bank primarily targets its generalcommercial banking services to businesses, professional concerns, developersand individuals residing in or doing business in the greater Reno/Sparks, and InclineVillage communities in northern Nevada, and the Roseville community in northernCalifornia. As an independent community bank, management emphasizes qualityservice, efficiency and personal attention to the needs of its customers. TheBank’s wide range of deposit accounts is designed to attract businesses,professionals and individuals as depositors. Management has hired competent andprofessional banking staff in its branches to focus on the financial needs ofits customers, and various promotional opportunities have been made availableto customers through newspaper advertising and flyers.

 

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The Bank’s full complement of lendingproducts includes commercial lines of credit and term loans, credit lines toindividuals, checking overdraft credit lines, professional loans, SBA loans,equipment loans, accounts receivable financing and real estate and constructionloans. The Bank offers attractive and competitive programs for lot loans,owner-builders of personal residences, and commercial term real estate loanfinancing. Consumer loans offered include auto loans, home improvement loans,and home equity lines of credit. To accommodate borrowers with loan requestswhich exceed the Bank’s legal lending limit, the Bank has establishedparticipation arrangements with correspondent banks to facilitate approval andfunding. Management has hired a professional and competent lending staffcomprised of five commercial and real estate lenders with substantial years ofknowledge, experience and expertise in the Reno/Sparks and Incline Villagemarkets, and four such individuals in the Roseville, California market.

 

These individuals have expertise in consumer,real estate and commercial lending, in addition to current knowledge ofgovernment lending programs, and all areas of deposit management facilities. Whencompeting one-on-one with the chain banks, we feel our strength lies in ourcapabilities at the individual level.

 

The Bank offers other services including aninternet banking alternative, cash management, credit cards, wire transfers,ATM networks, courier, night depository facilities, safe deposit boxes, etc. Allservices stress convenient, personal attention and efficient, timelypresentation for the Bank’s clientele base.

 

In certain instances, we have been unable tocompete for deposit acquisition business due solely to our lack of extensiveand well known operating history. In these situations, there are fewalternatives available to us. However, we may have other specialized servicesto overcome some objections to our relatively short four full years of operatinghistory, such as those available from correspondent banks, the highlytechnological alternative delivery channels available through our website, andthe ever-present capabilities of our well-seasoned and extraordinarily capablestaff.

 

The Bank’s Board of Directors, management andstaff are active in local civic, charitable and community organizations andevents, soliciting business referrals and generating profitable businessopportunities for the Bank. The Bank relies on its independent status,flexibility and timely response to provide greater personal service tocustomers. The Bank emphasizes personal contacts with potential customers bymanagement, the Board of Directors and staff to develop local promotionalactivities and to develop specialized or streamlined services. The Bank pridesitself on being a local bank for local people and businesses.

 

**Subsequent Event**

 

During February, 2006, the Company announcedthe execution of definitive agreements in which the Company would: 1) purchaseall of the outstanding stock of Big Sky Property Exchange of Bozeman, Montana,and 2) merge Granite Exchange, LLC of Roseville, California into GraniteExchange Inc., a subsidiary of The Bank Holdings.

 

Both Big Sky Property Exchange and GraniteExchange Inc. are “qualified intermediaries” facilitating tax-deferred realestate transactions under Section 1031 of the Internal Revenue Code. Bothtransactions have since been approved by the Federal Reserve Bank and area expectedto close during the Second Quarter of 2006.

 

**Employees**

 

As of December 31, 2005, the Company had 56full-time and 3 part-time employees. On a full-time equivalent basis, theCompany’s staff level was 57.2 at December 31, 2005, as compared to 43.9 at December31, 2004 and 38.2 at December 31, 2003. Staff was added during 2005 primarily dueto the Company’s newest branch located in Roseville, Ca., however, otherprofessional staff were added at all other locations. None of our employees arerepresented by a union or covered by a collective bargaining agreement. Managementof the Company believes its employee relations are satisfactory.

 

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**Recent Accounting Pronouncements**

 

**FASB 115**

On November 25, 2003, the Financial Accounting Standards Board (“FASB”)Emerging Issues Task Force (EITF) ratified a consensus decision on newdisclosure requirements related to unrealized losses on investment securitiesapplicable to fiscal years ending after December 15, 2003 requiringinstitutions covered by FAS 115 to include said disclosure in 2003 annualreports. Unrealized losses on investment securities must be summarized in tableformat, distinguishing between securities in a continuous unrealized lossposition for 12 months or more and securities in a continuous unrealized lossposition for 12 months or less, including aggregate unrealized losses ofsecurities whose fair values are below book values as of the reporting date andthe aggregate fair value of securities whose fair values are below book valuesas of the reporting date. Additional information recommended for inclusion innarrative form includes the nature of the investment, the cause(s) ofimpairment(s), the number of investment positions that are in an unrealizedloss position, and the severity and duration of impairment(s).

 

Subsequently, the March 17-18, 2004 EITF meeting provided furtherguidance for evaluating whether an investment is other-than-temporarilyimpaired and was effective for other-than-temporary impairment evaluations madein reporting periods after June 15, 2004. However, the guidance contained inparagraphs 10 - 20 has been delayed by FSP EITF Issue 03-1-1, “Effective Dateof Paragraphs 10 - 20 of EITF Issue No. 03-1, The Meaning of Other-Than-TemporaryImpairment and its Application to Certain Investments,” posted September 30,2004. The delay of the effective date for paragraphs 10 - 20 supersededconcurrent with the final issuance of proposed FSP EITF Issue 03-1-a, “ImplicationGuidance for the Application of Paragraph 16 of EITF Issue No. 03-1, TheMeaning of Other-than-Temporary Impairment and its Application to CertainInvestments.”  The disclosures continueto be effective in annual financial statements for fiscal years ending afterDecember 31, 2003, for investments accounted for under Statements 115 and 124.

 

On November 3, 2005 FASB staff personnel issued FASB Staff Position (“FSP”)115-1 and 124-1; *TheMeaning of Other-than-Temporary Impairment and its Application to CertainInvestments*. This FASaddresses the determination as to when an investment is considered impaired,whether that impairment is other-than-temporary and the measurement of animpairment loss. This FSP also includes accounting considerations subsequent tothe recognition of an other-than-temporary impairment and requires certaindisclosure about unrealized losses than have not been recognized as other thantemporary losses. This FSP nullifies certain requirements of Issue 03-1,specifically the requirements of paragraphs 10 – 18 of Issue 03-01. The FSPcarries forward the disclosure requirements included in paragraphs 21 and 22 ofIssue 03-01 and related examples, and also references existingother-than-temporary impairment guidance. This FSP provides a 3 stepapplication guidance. Step 1. Determine whether an investment is Impaired. Impairmentshall be assessed at the individual security level and generally is consideredimpaired if the fair value of the investment is less than its cost. Step 2. Determinewhether the impairment is other-than-temporary. Apply other guidance that ispertinent to the determination of whether the impairment isother-than-temporary, such as paragraph 16 of Statement 115, paragraph 6 ofOpinion 18 and EITF issue No 99-20 “*Recognition of Interest Incomeand Impairment on Purchased and Retained Beneficial Interest in SecuritizedFinancial Assets*”. Step 3. If the impairment is other thantemporary, recognize an impairment loss equal to the difference between theinvestments’ cost and its fair value.

 

**FASB 123(R)**

In December 2004, FASB published FASB Statement No. 123 (Revised 2004),*Share-Based Payment*, FAS 123(R). FAS 123(R) requires thatthe compensation cost relating to share-based payment transactions, includinggrants of employee stock options, be recognized in financial statements. Thatcost will be measured based on the fair value of the equity or liabilityinstruments issued. FAS 123 (R) permits entities to use any option-pricingmodel that meets the fair value objective in the Statement.

 

In October, 2005 the FASB staff issued FSP123(R)-2 *Practical Accommodation to the Application of GrantDate in FASB Statement 123(R).*This FSP is in response to inquiriesfrom constituents to provide guidance on the application of grant date asdefined in FASB 123 (revised 2004), Share-Based Payment. As an

 

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accommodation, in determining the grant dateof an award subject to Statement 123(R), assuming all other criteria in thegrant date definition have been met, a mutual understanding of the key termsand conditions of an award to an individual employee shall be presumed to existat the date the award is approved in accordance with the relevant corporategovernance requirements (that is, by the Board or management with the relevantauthority) if both of the following conditions are met:  (1) The award is a unilateral grant and, therefore, the recipient does nothave the ability to negotiate the key terms and conditions of the award withthe employer and,  (2) The key terms andconditions of the award are expected to be communicated to an individualrecipient within a relatively short time period form the date of approval. Thisguidance shall be applied upon initial adoption of Statement 123(R). An entitythat adopted Statement 123(R) prior to the issuance of this FSP and did notapply the provisions of this FSP shall apply the guidance in this FSP to thefirst reporting period after the date this FSP is posted to the FASB website.

 

In November 2005 the FASB staff issued FSP123(R)-3 *Transition Election Related to Accounting for theTax Effects of Share-Based Payment Awards.*This FSP provides apractical transition election related to accounting for the tax effects ofshare based payment awards to employees. Because discussions with constituentshave revealed that some entities do not have, and may not be able to re-create,information about the net excess tax benefits that would have qualified as suchand those entities adopted Statement 123 for recognition purposes, this FSPprovides an elective alternative transition method. That method comprises (a) acomputational component that establishes a beginning balance of the APIC poolrelated to employee compensation and (b) a simplified method to determine thesubsequent impact on the APIC pool of employee awards that are fully vested andoutstanding upon the Adoption of Statement 123(R). An entity shall followeither the transition guidance for the APIC pool in Paragraph 81 of Statement123(R) or the alternative transition method described in this FSP.

 

In March, 2005 the Securities and ExchangeCommission (“SEC”) issued Staff Accounting Bulletin (“SAB”) No. 107. Theinterpretations in this bulletin express views of the staff regarding theinteraction between FASB 123(R) *Share-Based Payments*,and certain Securities and Exchange Commission rules and regulations andprovide the staff’s views regarding the valuation of share-based paymentarrangements for public companies. In particular, this SAB provides guidance ona number of issues related to share-based payment transactions including themodifications of employee share options prior to adoption of Statement 123R(SAB Topic 14K). The staff believes that an acceptable interpretation ofStatement 123(R) is that modification to accelerate the vesting of shareoptions would result in the recognition of the remaining amount of compensationcost in the period the modification is made, so long as the acceleration ofvesting permits employees to exercise the share options in a circumstance whenthey would not otherwise have been able to do so absent the modification. Thestaff believes that since the remaining unrecognized compensation cost isaccelerated and recognized at the date of modification, no compensation costwould be recognized for these modified share options in the income statement inthe periods after adoption of Statement 123(R), absent any furthermodifications. In December, the directors of The Bank Holdings approved theacceleration of non-qualified stock options granted under The Bank HoldingsStock Option Plan of 2002 as amended. The Company has granted “Non-Qualified”and “Incentive” stock options under the Plan to recognize the contributions ofvarious members of the founder’s group, directors, and officer staff. Suchoptions were granted to be exercised over a five year term; however, the Boarddetermined that Statement No. 123(R) would unduly penalize the reportedearnings of the four-year old Company. The cost of implementing FAS 123(R) wasprojected at $1 million over the next three years. In order to implement theacceleration, each relevant stock option agreement was amended. The form of theamendment is attached as an exhibit to this report on Form 10-KSB.

 

Statement 123(R) is effective in the beginning of thefirst quarter of 2006. As of the effective date, the Company will apply theStatement using a modified version of prospective application. Under thattransition method, compensation cost is recognized for (1) all awards grantedafter the required effective date and to awards modified, cancelled, orrepurchased after that date and (2) the portion of prior awards for which therequisite service has not been rendered, based on the grant-date fair value ofthose awards calculated for

 

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pro forma disclosures under FAS 123. The impact ofthis Statement on the Company in 2006 and beyond will depend upon variousfactors, among them being our future compensation strategy. The pro formacompensation costs presented in this document and in prior filings for theCompany have been calculated using a Black-Scholes option pricing model and maynot be indicative of amounts which should be expected in future periods.

 

**FASB 154**

In May 2005, the FASB issued Statement ofAccounting Standards No. 154 (“SFAS 154”) *Accounting Changes andError Corrections.*This statement provides guidelines on theaccounting for and reporting of accounting changes and error corrections. Itestablishes, unless impracticable, retrospective application as the requiredmethod for reporting a change in accounting principle in the absence ofexplicit transition requirements specific to the newly adopted accountingprinciple. SFAS 154 is effective for fiscal years beginning after December 15,2005.

 

The list of recent accounting pronouncements notedabove, while not an exhaustive list, includes those which we believe will, ormay, have the greatest likelihood of application to the Company’s consolidatedbalance sheets and/or consolidated statements of operations. We believe that adoptionof these standards will not have a material impact on our financial condition,results of operations, earnings per share or cash flow, however, no absoluteassurance can be given that this in fact will occur.

 

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**Regulation and Supervision**

 

The following discussion sets forth certainof the material elements of the significant regulatory framework provided byfederal and state regulatory agencies applicable to bank holding companies andtheir subsidiaries and provides certain specific information relevant to theCompany. The regulatory framework is intended primarily for the protection ofdepositors and the insurance funds administered by the FDIC and not for theprotection of security holders. To the extent that the following informationdescribes statutory and regulatory provisions, it is qualified in its entiretyby reference to the particular statutory and regulatory provisions. A change inapplicable status, regulations or regulatory policy may have a material effecton our business. The following discussion of statutes and regulations is only abrief summary and does not purport to be complete. This discussion is qualifiedin its entirety by reference to such statutes and regulations. No assurance canbe given that such statues or regulations will not change in the future.

 

**The Company**

 

The Company is subject to the periodicreporting requirements of Section 13 of the Securities Exchange Act of 1934(the “Exchange Act”) which require the Company to file annual, quarterly andother current reports with the Securities and Exchange Commission (the “SEC”). TheCompany is also subject to additional regulations including, but not limitedto, the proxy and tender offer rules promulgated by the SEC under Sections 13and 14 of the Exchange Act; the reporting requirements of directors, executiveofficers and principle shareholders regarding transactions in the Company’sCommon Stock and short–swing profits rules promulgated by the SEC under Section16 of the Exchange Act; and certain additional reporting requirements by principalshareholders of the Company promulgated by the SEC under Section 13 of theExchange Act.

 

The Company is a bank holding company withinthe meaning of the Bank Holding Company Act of 1956 and is registered as suchwith the Federal Reserve Board. A bank holding company is required to file withthe Federal Reserve Board annual reports and other information regarding itsbusiness operations and those of its subsidiaries. It is also subject toexamination by the Federal Reserve Board and is required to obtain FederalReserve Board approval before acquiring, directly or indirectly, ownership orcontrol of any voting shares of any bank if, after such acquisition, it woulddirectly or indirectly own or control more than 5% of the voting stock of thatbank, unless its already owns a majority of the voting stock of that bank.

 

The Federal Reserve Board has by regulationdetermined certain activities in which a bank holding company may or may notconduct business. A bank holding company must engage, with certain exceptions,in the business of banking or managing or controlling banks or furnishingservices to or performing services for its subsidiary banks. The permissibleactivities and affiliations of certain bank holding companies have recentlybeen expanded. (See “Financial Modernization Act” below.)

 

The Company and Bank are deemed to beaffiliates of each other within the meaning set forth in the Federal ReserveAct and are subject to Sections 23A and 23B of the Federal Reserve Act. Thismeans, for example, that there are limitations on loans by the Bank toaffiliates, and that all affiliate transactions must satisfy certainlimitations and otherwise be on terms and conditions at least as favorable tothe Bank as would be available for non-affiliates.

 

The Federal Reserve Board has a policy thatbank holding companies must serve as a source of financial and managerialstrength to their subsidiary banks. It is the Federal Reserve Bank’s positionthat bank holding companies should stand ready to use their available resourcesto provide adequate capital to their subsidiary banks during periods offinancial stress or adversity. Bank holding companies should also maintain thefinancial flexibility and capital-raising capacity to obtain additionalresources for assisting their subsidiary banks.

 

The Federal Reserve Board also has theauthority to regulate bank holding company debt, including the authority toimpose interest rate ceilings and reserve requirements on such debt. Undercertain circumstances, the Federal Reserve Board may require the Company tofile written notice and obtain its approval prior to purchasing or redeemingThe Company’s equity securities.

 

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**The Bank**

 

As a Nevada state–chartered bank whoseaccounts are insured by the FDIC up to a maximum of $100,000 per depositor, theBank is subject to regulation, supervision and regular examination by the NevadaFinancial Institutions Division (the “FID”) and the FDIC. In addition, whilethe Bank is not a member of the Federal Reserve System, it is subject tocertain regulations of the Federal Reserve Board. The regulations of theseagencies govern most aspects of the Bank’s business, including the making ofperiodic reports by the Bank and the Bank’s activities relating to dividends,investments, loans, borrowings, capital requirements, certain check-clearingactivities, branching, mergers and acquisitions, reserves against deposits andnumerous other areas. Supervision, legal action and examination of the Bank bythe DFI and FDIC is generally intended to protect depositors and is notintended for the protection of shareholders.

 

The earnings and growth of the Bank arelargely dependent on its ability to maintain a favorable differential or “spread”between the yield on its interest-earning assets and the rate paid on itsdeposits and other interest-bearing liabilities. As a result, the Bank’sperformance is influenced by general economic conditions, both domestic andforeign, the monetary and fiscal policies of the federal government, and thepolicies of the regulatory agencies, particularly the Federal Reserve Board. TheFederal Reserve Board implements national monetary policies (such as seeking tocurb inflation and combat recession) by its open market operations in UnitedStates Government securities, by adjusting the required level of reserves forfinancial institutions subject to its reserve requirements and by varying the discountrate applicable to borrowings by banks that are members of the Federal ReserveSystem. The actions of the Federal Reserve Board in these areas influence thegrowth of bank loans, investments and deposits and also affect interest ratescharged on both loans and deposits. The nature and impact of any future changesin monetary policies cannot be predicted.

 

**Capital Adequacy Requirements**

 

The Company and the Bank are subject to theregulations of the Federal Reserve Board and the FDIC, respectively, governingcapital adequacy. The Bank and the Company currently exceed all regulatoryminimums. Those regulations incorporate both risk-based and leverage capitalrequirements. Each of the federal regulators has established risk-based andleverage capital guidelines for the banks or bank holding companies itregulates, which set total capital requirements and define capital in terms of “corecapital elements,” or Tier 1 capital; and “supplemental capital elements,” orTier 2 capital. Tier 1 capital is generally defined as the sum of the corecapital elements less goodwill and certain other deductions, notably theunrealized net gains or losses (after tax adjustments) on available for saleinvestment securities carried at fair market value. The following items aredefined as core capital elements:  (i)common shareholders’ equity; (ii) qualifying non-cumulative perpetual preferredstock and related surplus (not to exceed 25% of tier 1 capital); and (iii)minority interest in the equity of consolidated subsidiaries. Supplementarycapital elements include:  (i) allowancefor loan and lease losses (but not more than 1.25% of an institution’s risk-weightedassets); (ii) perpetual preferred stock and related surplus not qualifying ascore capital; (iii) hybrid capital instruments, perpetual debt and mandatoryconvertible debt instruments; and (iv) term subordinated debt and intermediate-termpreferred stock and related surplus. The maximum amount of supplemental capitalelements which qualifies as Tier 2 capital is limited to 100% of Tier 1capital, net of goodwill.

 

The minimum required ratio of qualifyingcapital to total risk-weighted assets is 8.0% (“Total Risk-Based Capital Ratio”),at least one-half of which must be in the form of Tier 1 capital, and theminimum required ratio of Tier 1 capital to total risk-weighted assets is 4.0%(“Tier 1 Risk-Based Capital Ratio”). Risk-based capital ratios are calculatedto provide a measure of capital that reflects the degree of risk associatedwith a banking organization’s operations for both transactions reported on thebalance sheet as assets, and transactions, such as letters of credit andrecourse arrangements, which are recorded as off-balance sheet items. Under therisk-based capital guidelines, the nominal dollar amounts of assets and credit-equivalentamounts of off-balance sheet items are multiplied by one of several riskadjustment percentages, which range from 0% for assets with low credit risk,such as certain U.S. Treasury securities, to 100% for assets with relativelyhigh credit risk, such as business loans. As of December 31, 2005 and 2004, theBank’s Total Risk-Based Capital ratios were

 

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12.51% and 15.60%, respectively, and its Tier1 Risk-Based Capital Ratios were 11.42% and 14.55%, respectively.

 

The risk-based capital requirements also takeinto account concentrations of credit (i.e., relatively large proportions ofloans involving one borrower, industry, location, collateral or loan type) andthe risks of “non-traditional” activities (those that have not customarily beenpart of the banking business). The regulations require institutions with highor inordinate levels of risk to operate with higher minimum capital standards,and authorize the regulators to review an institution’s management of suchrisks in assessing an institution’s capital adequacy.

 

Additionally, the risk-based capitalregulations also include exposure to interest rate risk as a factor that theregulators will consider in evaluating a bank’s capital adequacy. Interest raterisk is the exposure of a bank’s current and future earnings and equity capitalarising from adverse movements in interest rates. While interest rate risk isinherent in a bank’s role as financial intermediary, it introduces volatilityto earnings and to the economic value of the bank.

 

The FDIC and the Federal Reserve Board alsorequire the maintenance of a leverage capital ratio designed to supplement risk-basedcapital guidelines. Banks and bank holding companies that have received thehighest rating of the five categories used by regulators to rate banks and arenot anticipating or experiencing any significant growth must maintain a ratioof Tier 1 capital (net of all intangibles) to adjusted total assets (“Leverage CapitalRatio”) of at least 3%. All other institutions are required to maintain aleverage ratio of at least 100 to 200 basis points above the 3% minimum, for aminimum of 4% to 5%. Pursuant to federal regulations, banks must maintaincapital levels commensurate with the level of risk to which they are exposed,including the volume and severity of problem loans; federal regulators may,however, set higher capital requirements when a bank’s particular circumstanceswarrant. The Bank’s Leverage Capital Ratio was 8.96% and 9.91% on December 31,2005 and 2004 respectively. As of December 31, 2005, the Company’s leveragecapital ratio was 10.06%, as compared to 11.01% at December 31, 2004. Both ofthese ratios exceeded regulatory minimums, and since the most recent balancesheet date, management does not believe conditions or events have changed theinstitution’s category.

 

For more information on the Company’scapital, see Part II, Item 7, Management’s Discussion and Analysis of FinancialCondition and Results of Operation–Capital Resources. Risk–based capital ratiorequirements are discussed in greater detail in the following section.

 

**Prompt Corrective ActionProvisions**

 

Federal law requires each federal bankingagency to take prompt corrective action to resolve the problems of insuredfinancial institutions, including but not limited to those that fall below oneor more prescribed minimum capital ratios. The federal banking agencies have byregulation defined the following five capital categories:  “well–capitalized” (Total Risk–Based CapitalRatio of 10%; Tier 1 Risk-Based Capital Ratio of 6%; and Leverage Ratio of 5%);“adequately capitalized” (Total Risk–Based Capital Ratio of 8%; Tier 1Risk-Based Capital Ratio of 4%; and Leverage Ratio of 4%) (or 3% if the institutionreceives the highest rating from its primary regulator); “undercapitalized”(Total Risk–Based Capital Ratio of less than 8%; Tier 1 Risk-Based CapitalRatio of less than 4%; and Leverage Ratio of less than 4%) (or 3% if theinstitution receives the highest rating from its primary regulator); “significantlyundercapitalized” (Total Risk–Based Capital Ratio of less than 6%; Tier 1Risk-Based Capital Ratio of less than 3%; and Leverage Ratio of less than 3%);and “critically undercapitalized” (tangible equity to total assets less than2%). A bank may be treated as though it were in the next lower capital categoryif after notice and the opportunity for a hearing, the appropriate federalagency finds an unsafe or unsound condition or practice so warrants, but nobank may be treated as “critically undercapitalized” unless its actual capitalratio warrants such treatment.

 

At each successively lower capital category,an insured bank is subject to increased restrictions on its operations. Forexample, a bank is generally prohibited from paying management fees to anycontrolling persons or from making capital distributions if to do so would makethe bank “undercapitalized.”  Assetgrowth and branching restrictions apply to undercapitalized banks, which arerequired to submit written capital

 

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restoration plans meeting specifiedrequirements (including a guarantee by the parent holding company, if any). “Significantlyundercapitalized” banks are subject to broad regulatory authority, includingamong other things, capital directives, forced mergers, restrictions on therates of  interest they may pay ondeposits, restrictions on asset growth and activities, and prohibitions onpaying bonuses or increasing compensation to senior executive officers withoutFDIC approval. Even more severe restrictions apply to criticallyundercapitalized banks. Most importantly, except under limited circumstances,not later than 90 days after an insured bank becomes critically undercapitalizedthe appropriate federal banking agency is required to appoint a conservator orreceiver for the bank.

 

In addition to measures taken under theprompt corrective action provisions, insured banks may be subject to potentialactions by the federal regulators for unsafe or unsound practices in conductingtheir businesses or for violations of any law, rule, regulation or anycondition imposed in writing by the agency or any written agreement with theagency. Enforcement actions may include the issuance of cease and desistorders, termination of insurance of deposits (in the case of a bank), theimposition of civil money penalties, the issuance of directives to increasecapital, formal and informal agreements, or removal and prohibition ordersagainst “institution–affiliated” parties.

 

**Safety and Soundness Standards**

 

The federal banking agencies have alsoadopted guidelines establishing safety and soundness standards for all insureddepository institutions. Those guidelines relate to internal controls, informationsystems, internal audit systems, loan underwriting and documentation,compensation and interest rate exposure. In general, the standards are designedto assist the federal banking agencies in identifying and addressing problemsat insured depository institutions before capital becomes impaired. If aninstitution fails to meet these standards, the appropriate federal bankingagency may require the institution to submit a compliance plan and instituteenforcement proceedings if an acceptable compliance plan is not submitted.

 

**Premiums for Deposit Insurance**

 

The FDIC regulations also implement arisk–based premium system, whereby insured depository institutions are requiredto pay insurance premiums depending on their risk classification. Under this system,insured banks are categorized into one of three capital categories (wellcapitalized, adequately capitalized, and undercapitalized) and one of threesupervisory categories based on federal regulatory evaluations. The threesupervisory categories are:  Financiallysound with only a few minor weaknesses (Group A), demonstrated weaknesses thatcould result in significant deterioration (Group B), and poses a substantialprobability of loss (Group C). The capital ratios used by the FDIC to definewell capitalized, adequately capitalized and undercapitalized are the same inthe FDIC’s prompt corrective action regulations. The current base assessmentrates (expressed as cents per $100 of deposits) are summarized as follows:

 
| ** **             | ** ** | **Group A** | ** ** | **Group B** | ** ** | **Group C** | ** ** |
|------------------------|------------|------------------|------------|------------------|------------|------------------|------------|
| Well Capitalized       |       | 0                |       | 3                |       | 17               |       |
| Adequately Capitalized |       | 3                |       | 10               |       | 24               |       |
| Undercapitalized       |       | 10               |       | 24               |       | 27               |       |

 

In general, while the FDIC’s Bank InsuranceFund (“BIF”) maintains a reserve ratio of 1.25% or greater, no depositinsurance premiums are required. If the BIF reserve ratio were to fall belowthat level, all insured banks would be required to pay premiums. In February2006, the FDIC Reform Act of 2005 was signed into law. Included in thislegislation are provisions to merge the BIF and the Savings Association InsuranceFund into one fund (the “Deposit Insurance Fund”), increase insurance coveragefor retirement accounts to $250,000 and index deposit insurance levels forinflation.

 

In addition, banks must pay an amount towardthe retirement of the Financing Corporation bonds issued in the 1980’s toassist in the recovery of the savings and loan industry. This amount fluctuatesbut for the first quarter of 2006 was 1.32 cents per $100 of insured deposits.

 

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**Community Reinvestment Act**

 

The Bank is subject to certain requirementsand reporting obligations involving Community Reinvestment Act (“CRA”)activities. The CRA generally requires the federal banking agencies to evaluatethe record of a financial institution in meeting the credit needs of its localcommunities, including low and moderate income neighborhoods. The CRA furtherrequires the agencies to take into account a financial institution’s record ofmeeting its community credit needs when evaluating applications for, amongother things, domestic branches, consummating mergers or acquisitions, orholding company formations. In measuring a bank’s compliance with its CRAobligations, the regulators utilize a performance–based evaluation system whichbases CRA ratings on the bank’s actual lending service and investmentperformance, rather than on the extent to which the institution conducts needsassessments, documents community outreach activities or complies with otherprocedural requirements. In connection with its assessment of CRA performance,the FDIC assigns a rating of “outstanding,” “satisfactory,” or “substantialnoncompliance.”

 

The Bank was examined for CRA compliance inNovember 2003 when it received an “Outstanding” CRA Assessment rating.

 

**Other Consumer Protection Lawsand Regulations**

 

The bank regulatory agencies are increasinglyfocusing attention on compliance with consumer protection laws and regulations.Examination and enforcement has become intense, and banks have been advised tocarefully monitor compliance with various consumer protection laws andregulations. The federal Interagency Task Force on Fair Lending issued a policystatement on discrimination in home mortgage lending describing three methodsthat federal agencies will use to prove discrimination:  overt evidence of discrimination, evidence ofdisparate treatment, and evidence of disparate impact. In addition to CRA andfair lending requirements, the Bank is subject to numerous other federalconsumer protection statutes and regulations. Due to heightened regulatoryconcern related to compliance with consumer protection laws and regulationsgenerally, the Bank may incur additional compliance costs or be required toexpend additional funds for investments in the local communities it serves.

 

**Interstate Banking and Branching**

 

The Riegle – Neal Interstate Banking andBranching Efficiency Act of 1994 (the “Interstate Banking Act”) regulates theinterstate activities of banks and bank holding companies and establishes aframework for nationwide interstate banking and branching. Since June 1, 1997,a bank in one state has generally been permitted to merge with a bank inanother state without the need for explicit state law authorization. However,states were given the ability to prohibit interstate mergers with banks intheir own state by “opting–out” (enacting state legislation applying equalityto all out-of-state banks prohibiting such mergers) prior to June 1, 1997.

 

Since 1995, adequately capitalized and managedbank holding companies have been permitted to acquire banks located in anystate, subject to two exceptions:  first,any state may still prohibit bank holding companies from acquiring a bank whichis less that five years old; and second, no interstate acquisition can beconsummated by a bank holding company if the acquirer would control more than10% of the deposits held by insured depository institutions nationwide or 30% ormore of the deposits held by insured depository institutions in any state inwhich the target bank has branches.

 

A bank may establish and operate de novobranches in any state in which the bank does not maintain a branch if thatstate has enacted legislation to expressly permit all out-of-state banks toestablish branches in that state.

 

The changes effected by the InterstateBanking Act have increased competition in the environment in which the Bankoperates to the extent that out–of–state financial institutions directly orindirectly enter the Bank’s market areas. It appears that the InterstateBanking Act has contributed to the accelerated consolidation of the banking industry.While many large out-of-state banks have already entered the Nevada market as aresult of this

 

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legislation, it is not possible to predict theprecise impact of this legislation on the Bank and the Company and thecompetitive environment in which they operate.

 

**Financial Modernization Act**

 

In November 1999, the Gramm-Leach-Bliley Act,or the GLB Act, became law, significantly changing the regulatory structure andoversight of the financial services industry. Effective March 11, 2000, the GLBAct repealed the provisions of the Glass-Steagall Act that restricted banks andsecurities firms from affiliating. It also revised the BHCA to permit a “qualifying”bank holding company, called a financial holding company, to engage in a fullrange of financial activities, including banking, insurance, securities, andmerchant banking activities. It also permits qualifying bank holding companiesto acquire many types of financial firms without the FRB’s prior approval.

 

The GLB Act thus provides expanded financialaffiliation opportunities for existing bank holding companies and permits otherfinancial services providers to acquire banks and become bank holding companieswithout ceasing any existing financial activities. Previously, a bank holdingcompany could only engage in activities that were “closely related to banking.”  This limitation no longer applies to bankholding companies that qualify to be treated as financial holding companies. Toqualify as a financial holding company, a bank holding company’s subsidiarydepository institutions must be well-capitalized, well-managed and have atleast a “satisfactory” Community Reinvestment Act examination rating. “Nonqualifying”bank holding companies are limited to activities that were permissible underthe BHCA as of November 11, 1999.

 

Also effective on March 11, 2000, the GLB Actchanged the powers of national banks and their subsidiaries, and made similar changesin the powers of state banks and their subsidiaries. National banks may nowunderwrite, deal in and purchase state and local revenue bonds. A subsidiary ofa national bank may now engage in financial activities that the bank cannotitself engage in, except for general insurance underwriting and real estatedevelopment and investment. In order for a subsidiary of a national bank toengage in these new financial activities, the national bank and its depositoryinstitution affiliates must be “well capitalized,” have at least “satisfactory”general, managerial and Community Reinvestment Act examination ratings, andmeet other qualification requirements relating to total assets, subordinateddebt, capital, risk management, and affiliate transactions. Subsidiaries ofstate banks can exercise the same powers as national bank subsidiaries if theysatisfy the same qualifying rules that apply to national banks, except thatstate-chartered banks do not have to satisfy the statutory managerial and debtrating-requirements of national banks.

 

The GLB Act also reformed the overallregulatory framework of the financial services industry. In order to implementits underlying purposes, the GLB Act preempted state laws that would restrictthe types of financial affiliations that are authorized or permitted under theGLB Act, subject to specified exceptions for state insurance laws andregulations. With regard to securities laws, effective May 12, 2001, the GLBAct removed the blanket exemption for banks from being considered brokers ordealers under the Securities Exchange Act of 1934 and replaced it with a numberof more limited exemptions. Thus, previously exempted banks may become subjectto the broker-dealer registration and supervision requirements of theSecurities Exchange Act of 1934. The exemption that prevented bank holdingcompanies and banks that advise mutual funds from being considered investmentadvisers under the Investment Advisers Act of 1940 was also eliminated.

 

Separately, the GLB Act imposes customer privacyrequirements on any company engaged in financial activities. Under theserequirements, a financial company is required to protect the security andconfidentiality of customer nonpublic personal information. Also, for customerswho obtain a financial product such as a loan for personal, family or householdpurposes, a financial company is required to disclose its privacy policy to thecustomer at the time the relationship is established and annually thereafter,including its policies concerning the sharing of the customer’s nonpublicpersonal information with affiliates and third parties. If an exemption is notavailable, a financial company must provide consumers with a notice of itsinformation sharing practices

 

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that allows the consumer to reject thedisclosure of its nonpublic personal information to third parties. Thirdparties that receive such information are subject to the same restrictions asthe financial company on the reuse of the information. Finally, a financialcompany is prohibited from disclosing an account number or similar item to athird party for use in telemarketing, direct mail marketing or other marketingthrough electronic mail.

 

**Sarbanes-Oxley Act**

 

During July 2002, President Bush signed intolaw the Sarbanes-Oxley Act of 2002. The purpose of the Sarbanes-Oxley Act is toprotect investors by improving the accuracy and reliability of corporatedisclosures made pursuant to the securities laws, and for other purposes.

 

The Sarbanes-Oxley Act amends the SecuritiesExchange Act of 1934 to prohibit a registered public accounting firm fromperforming specified nonaudit services contemporaneously with a mandatory audit.The Sarbanes-Oxley Act also vests the audit committee of an issuer withresponsibility for the appointment, compensation, and oversight of anyregistered public accounting firm employed to perform audit services. Itrequires each committee member to be a member of the board of directors of theissuer, and to be otherwise independent. The Sarbanes-Oxley Act furtherrequires the chief executive officer and chief financial officer of an issuerto make certain certifications as to each annual or quarterly report.

 

In addition, the Sarbanes-Oxley Act requiresofficers to forfeit specific bonuses and profits under certain circumstances. Specifically,if an issuer is required to prepare an accounting restatement due to thematerial noncompliance of the issuer as a result of misconduct with anyfinancial reporting requirement under the securities laws, the chief executiveofficer and chief financial officer of the issuer shall be required toreimburse the issuer for (1) any bonus or other incentive-based or equity-basedcompensation received by that person from the issuer during the 12-month periodfollowing the first public issuance or filing with the SEC of the financialdocument embodying such financial reporting requirement; and (2) any profitsrealized from the sale of securities of the issuer during that 12-month period.

 

The Sarbanes-Oxley Act also instructs the SECto require by rule:

 

•                                          disclosure of all material off-balance sheettransactions and relationships that may have a material effect upon thefinancial status of an issuer; and

 

•                                          the presentation of pro forma financialinformation in a manner that is not misleading, and which is reconcilable withthe financial condition of the issuer under generally accepted accountingprinciples.

 

The Sarbanes-Oxley Act also prohibits insidertransactions in the company’s stock held within its pension plans during lockout periods, and any profits on such insider transactions are to be disgorged. Inaddition, there is a prohibition of company loans to its executives, except incertain circumstances. The Sarbanes-Oxley Act also provides for a mandatedinternal control report and assessment with the annual report and anattestation and a report on such report by the company’s auditor. The SEC alsorequires the company to issue a code of ethics for senior financial officers ofthe company. Further, the Sarbanes-Oxley Act adds a criminal penalty of finesand imprisonment of up to 10 years for securities fraud. As noted in the recentaccounting pronouncements, the effective date for implementation fornon-accelerated filers is July 15, 2007.

 

**Sarbanes-OxleyAct Section 404**

 

In March, 2005, and again in September, 2005 theSecurities and Exchange Commission (SEC) further extended the compliance datesfor non-accelerated filers, regarding amendments to its rules under theSecurities Exchange Act of 1934 that were adopted on June 5, 2003, pursuant toSection 404 of the Sarbanes-Oxley Act. The amendments require a company toinclude in its annual reports a report by management on the company’s internalcontrol over financial reporting and an accompanying auditors report.

 

The Commission extended the original Section 404compliance dates for all issuers in February 2004. Under the latestextension,  a company that is notrequired to file its annual and quarterly reports on an accelerated basis mustbegin to comply with the internal control over financial reporting requirementsfor its first fiscal year ending on or after July 15, 2007**.**Thisis a one-year extension from the previously established July 15, 2006 extendedcompliance date for non-accelerated filers. The Commission similarly hasextended the compliance date for these companies relating to requirementsregarding evaluation of internal control over financial reporting andmanagement certification requirements.

 

The SEC Advisory Committee is recommending relaxingthe Sarbanes-Oxley Act of 2002 (“SOX”) requirements for smaller companies sincemany small and mid-sized public companies increasingly have said they face adisproportionate burden complying with Section 404 of the Act. At issue is the requirementfor public companies to include in their annual reports a management statementattesting to the effectiveness of their internal controls over financialreporting. This provision requires every company to include an independentauditor’s report validating internal findings. The proposed recommendations –which the Advisory Committee plans to submit to the SEC for approval in April,2006 – would significantly reduce the effort and expense smaller companies bearto comply with regulations.

 

The following is a summary of some of the possible SOXchanges the SEC will consider in April. The reform addresses mainly Section404. Other sections, including Section 302 (management’s quarterlycertification of internal controls) and Section 906 (management’s annualcertification of financial statements) will continue as previously required.Under the draft regulations, micro-cap (market capitalization less than $128million) public companies will be exempt from formal requirements. Small cap(market capitalization over $128 million but less than $787 million) publiccompanies will not be required to have an external audit of internal controls,subject to certain conditions. Large companies would continue under theprevious guidelines.

 

**Regulation W**

 

The FRB on October 31, 2002 approved a finalRegulation W that comprehensively implements sections 23A and 23B of theFederal Reserve Act. Sections 23A and 23B and Regulation W restrict loans by adepository

 

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institution to its affiliates, assetpurchases by a depository institution from its affiliates, and othertransactions between a depository institution and its affiliates. Regulation Wunifies in one public document the FRB’s interpretations of sections 23A and23B. Regulation W had an effective date of April 1, 2003.

 

**Regulatory Capital Treatment of Equity Investments**

 

In December of 2001 and January of 2002, theOCC, the FRB and the FDIC adopted final rules governing the regulatory capitaltreatment of equity investments in nonfinancial companies held by banks, bankholding companies and financial holding companies. The final rules becameeffective on April 1, 2002. The new capital requirements apply symmetrically toequity investments made by banks and their holding companies in nonfinancialcompanies under the legal authorities specified in the final rules. Amongothers, these include the merchant banking authority granted by theGramm-Leach-Bliley Act and the authority to invest in small business investmentcompanies (“SBICs”) granted by the Small Business Investment Act. Coveredequity investments will be subject to a series of marginal Tier 1 capitalcharges, with the size of the charge increasing as the organization’s level ofconcentration in equity investments increases. The highest marginal chargespecified in the final rules requires a 25 percent deduction from Tier 1capital for covered investments that aggregate more than 25 percent of anorganization’s Tier 1 capital. Equity investments through SBICs will be exemptfrom the new charges to the extent such investments, in the aggregate, do notexceed 15 percent of the banking organization’s Tier 1 capital. The new chargeswould not apply to individual investments made by banking organizations priorto March 13, 2000. Grandfathered investments made by state banks under section24(f) of the Federal Deposit Insurance Act also are exempted from coverage.

 

**USA Patriot Act**

 

The terrorist attacks in September 2001, haveimpacted the financial services industry and led to federal legislation thatattempts to address certain issues involving financial institutions. OnOctober 26, 2001, President Bush signed into law the Uniting andStrengthening America by Providing Appropriate Tools Required to Intercept andObstruct Terrorism Act of 2001 (“USA Patriot Act”).

 

Part of the USA Patriot Act is theInternational Money Laundering Abatement and Financial Anti-Terrorism Act of2001 (“IMLA”). IMLA authorizes the Secretary of the Treasury, in consultationwith the heads of other government agencies, to adopt special measuresapplicable to banks, bank holding companies, and/or other financialinstitutions. These measures may include enhanced recordkeeping and reportingrequirements for certain financial transactions that are of primary moneylaundering concern, due diligence requirements concerning the beneficialownership of certain types of accounts, and restrictions or prohibitions oncertain types of accounts with foreign financial institutions.

 

Among its other provisions, IMLA requireseach financial institution to: (i) establish an anti-money laundering program;(ii) establish due diligence policies, procedures and controls with respect toits private banking accounts and correspondent banking accounts involvingforeign individuals and certain foreign banks; and (iii) avoid establishing,maintaining, administering, or managing correspondent accounts in the UnitedStates for, or on behalf of, a foreign bank that does not have a physicalpresence in any country. In addition, IMLA contains a provision encouragingcooperation among financial institutions, regulatory authorities and lawenforcement authorities with respect to individuals, entities and organizationsengaged in, or reasonably suspected of engaging in, terrorist acts or moneylaundering activities. IMLA expands the circumstances under which funds in abank account may be forfeited and requires covered financial institutions torespond under certain circumstances to requests for information from federalbanking agencies within 120 hours. IMLA also amends the BHCA and the BankMerger Act to require the federal banking agencies to consider theeffectiveness of a financial institution’s anti-money laundering activitieswhen reviewing an application under these acts. IMLA became effective July 23,2002.

 

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**Merchant Banking Investments**

 

The FRB and the Secretary of the Treasury inJanuary 2001, jointly adopted a final rule governing merchant bankinginvestments made by financial holding companies. The rule implements provisionsof the Gramm-Leach-Bliley Act discussed below that permit financial holdingcompanies to make investments as part of a bona fide securities underwriting ormerchant or investment banking activity. The rule provides that a financialholding company may not, without FRB approval, directly or indirectly acquireany additional shares, assets or ownership interests or make any additionalcapital contribution to any company the shares, assets or ownership interestsof which are held by the financial holding company subject to the rule if theaggregate carrying value of all merchant banking investments held by thefinancial holding company exceeds:

 

•                                          30 percent of the Tier 1 capital of thefinancial holding company, or

 

•                                          after excluding interests in private equityfunds, 20 percent of the Tier 1 capital of the financial holding company.

 

A separate final rule will establish thecapital charge of merchant banking investments for the financial holdingcompany.

 

**Amendments to Regulation H and Yfor Trust Preferred Securities.**

 

The Federal Reserve Board issued a final ruleon March 1, 2005 that amends Regulation H and Regulation Y to limit restrictedcore capital elements (including trust preferred securities) which count asTier 1 capital to 25 percent of all core capital elements, net of goodwill lessany associated deferred tax liability. Internationally active bank holdingcompanies, defined as those with consolidated assets greater than $250 billionor on-balance-sheet foreign exposure greater than $10 billion, will be subjectto a 15 percent limit, but they may include qualifying mandatory convertiblepreferred securities up to the generally applicable 25 percent limit. Amountsof restricted core capital elements in excess of these limits generally may beincluded in Tier 2 capital. The final rule provides a five-year transitionperiod, ending March 31, 2009, for application of the quantitative limits.

 

On November 3, 2005 the Company and its newly formed Connecticutstatutory trust subsidiary, The Bank Holdings Statutory Trust I (the “Trust”)entered into a purchase agreement pursuant to which it was agreed that theTrust would issue $15 million of floating interest rate trust preferredsecurities (the “Trust Preferred Securities”) to Merrill Lynch International. TheTrust Preferred Securities were issued and sold in a private placement exemptfrom registration under the Securities Exchange Act of 1933, as amended.

 

The Trust Preferred Securities will be redeemable at the Company’soption on or after December 15, 2010. In addition, the Trust PreferredSecurities require quarterly distributions of interest by the Trust to theHolders of the Trust Preferred Securities at a floating rate equal to the threemonth London Interbank Offered Rate (“LIBOR”) plus 1.42%, which rate thereafterwill be reset until maturity.

 

The Trust used the proceeds of the sale of the Trust PreferredSecurities to purchase $15 million of the Company’s floating rate juniorsubordinated debentures (the “Debentures”). Like the Trust PreferredSecurities, the Debentures bear interest at a floating rate equal to the threemonth LIBOR plus 1.42%.

 

The Debentures will mature on December 15, 2035, but may be redeemed bythe Company at its option at any time on or after December 15, 2010.

 

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**Other Pending and ProposedLegislation**

 

Other legislative and regulatory initiativeswhich could affect the Company, the Bank and the banking industry in general arepending, and additional initiatives may be proposed or introduced before theUnited States Congress, the Nevada legislature and other governmental bodies inthe future. Such proposals, if enacted, may further alter the structure,regulation, and competitive relationship among financial institutions, and maysubject the Bank to increased regulation, disclosure, and reportingrequirements. In addition, the various banking regulatory agencies often adoptnew rules and regulations to implement and enforce existing legislation. Itcannot be predicted whether, or in what form, any such legislation orregulations may be enacted or the extent to which the business of the Companyor the Bank would be affected thereby.

 

**Other Information Concerning theCompany**

 

The Company holds no material patents,trademarks, licenses, franchises or concessions. No expenditures were made bythe Company since inception on material research activities relating to thedevelopment of services or the improvement of existing services. Based uponpresent business activities, compliance with federal, state and localprovisions regulating discharge of materials into the environment will have nomaterial effects upon the capital expenditures, earnings and competitiveposition of the company.

 

We are subject to certain of theinformational requirements of the Securities Exchange Act of 1934, as amended,referred to as the Exchange Act. In accordance with the Exchange Act, we fileannual and quarterly reports and other information with the Securities andExchange Commission, or SEC. Copies may be obtained at the prescribed ratesfrom the public reference room maintained by the SEC at 450 Fifth Street, N.W.,Washington, D.C. 20549 and be inspected without charge and copied at theprescribed rates at the SEC’s regional office at Northwestern Atrium Center,500 West Madison Street, Suite 1400, Chicago, Illinois 60661. The public mayalso obtain information on the operation of the public reference room bycalling the SEC at 1-800-SEC-0330. An electronic version of our filings may beviewed at the SEC’s website: www.sec.gov, CIK or ticker symbol 1234383. Additionally,this site also provides access to any other report or other information we filewith the SEC.

 

**ITEM 1A. RISK FACTORS**

 

This Annual Report on Form 10-KSB includesforward-looking statements and information and is subject to the “safe harbor”provisions of Section 27A of the Securities Act of 1933 and Section 21E of theSecurities Exchange Act of 1934. These forward-looking statements (which involveThe Bank Holdings’ (the “Company’s”) plans, beliefs and goals, refer toestimates or use similar terms) involve certain risks and uncertainties thatcould cause actual results to differ materially from those in theforward-looking statements.

 

Although we believe that the anticipated results or other expectationsreflected in our forward–looking statements are based on reasonableassumptions, we can give no assurance that those results or expectations willbe attained. Forward–looking statements involve risks, uncertainties andassumptions (some of which are beyond our control), and as a consequence actualresults may differ materially from those expressed in forward–lookingstatements. Factors that could cause actual results to differ from forward-lookingstatements include, but are not limited to the following, as well as thosediscussed elsewhere herein:

 

•                    changesin the extensive laws, regulations and policies governing financial institutionholding companies and their subsidiaries could alter our business environmentor affect our operations;

 

•                    generaleconomic or industry conditions could be less favorable than expected,resulting in a deterioration in credit quality, a change in the allowance forloan losses or a reduced demand for credit or fee–based products and services;

 

•                    concentrationsof real estate loans could subject us to increased risk in the event of a realestate recesion or natural disaster;

 

•                    changesin the domestic interest rate environment could reduce net interest income and couldincrease credit losses;

 

•                    theconditions of the securities markets could change, which could adverselyaffect, among other things, the value or credit quality or our assets, theavailability and terms of funding necessary to meet our liquidity needs and ourability to originate loans and leases;

 

•                    competitivepressures could intensify and affect our profitability, including as a resultof continued industry consolidation, the increased availability of financialservices from non–banks, technological developments such as the internet, orbank regulatory reform;

 

•                    lossof key personnel, social or demographic displacements;

 

•                    thepotential need to adapt to industry changes in information technology systems,on which we are highly dependent, could present operational issues or requiresignificant capital spending;

 

•                    operationalrisks and interruptions including data processing systems failure or fraud;

 

•                    ourinvestments in our businesses and in related technology could requireadditional incremental spending, and might not produce expected deposit andloan growth and anticipated contributions to our earnings;

 

•                    acquisitionsmay result in large one–time charges to income, may not produce revenueenhancements or cost savings at levels or within time frames originallyanticipated and may result in unforeseen integration difficulties;

 

•                    wemay have difficulty managing our growth, which depends on monitoring andmanaging expanded operations, staffing, and customer relations;

 

•                    weoperate in a competitive environment dominated by larger financial serviceproviders who have lower cost structures and offer a wider panoply of services;

 

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•                    actsor threats of terrorism or actions taken by the United States or othergovernments as a result of such acts or threats, including possible militaryaction, could further adversely affect business and economic conditions in theUnited States generally and in our principal markets, which could have anadverse effect on our financial performance and that of our borrowers and onthe financial markets and the price of our common stock;

 

You should not place undue reliance on anyforward–looking statements. Forward–looking statements speak only as of thedate they are made, and we undertake no obligation to update them in light ofnew information or future events except to the extent required by federalsecurities laws.

 

**ITEM 2.****                            ****PROPERTIES**

 

Nevada Security Bank operates from fourlocations, the principal location being 9990 Double R Boulevard, Reno, Nevada, 89521where the administrative functions and regular branch activities of the bankoccur. The Bank Holdings is also located at this address.

 

Nevada Security Bank leases the first floorof this free-standing facility under an agreement dated October 2, 2001, whichnotes the use of approximately 9,300 square feet for a ten-year term beginningat the issuance of a certificate of occupancy. Nevada Security Bank tookpossession on December 6, 2002 and may extend the lease for four, five-yearperiods if not in default under the terms of the agreement at each renewalperiod. The lease payment under this agreement is approximately $9,600 permonth with annual escalations for each of the first four years; beginning inyear five there is a fixed annual escalation of 2.5%.

 

Nevada Security Bank also leases part of thesecond floor of this free-standing facility under an agreement dated May 1,2005, which notes the use of approximately 1,686 square feet for a seven-yearsix month term the expiration of which is coterminous with the lease on thefirst floor. Nevada Security Bank took possession on May 1, 2005 and the leaseterms are the same as the lease for the first floor. The lease payment underthis agreement is approximately $2,765 per month with annual escalations foreach of the first four years; beginning in year five there is a fixed annualescalation of 2.5%.

 

The Bank Holdings leases part of the secondfloor of the same facility under an agreement dated November 17, 2003, whichnotes the use of approximately 4,028 square feet for an eight year eight monthterm which is also

 

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coterminous with the Bank’s leases. The BankHoldings took possession on April 9, 2004 and may extend the lease for four,five-year periods if not in default under the terms of the agreement at eachrenewal period. The lease payment under this agreement is approximately $5,720per month with annual escalations for each of the first three years; beginningin year four there is a fixed annual escalation of 2.5%.

 

Nevada Security Bank’s Incline Village branchoffice operates in approximately 4,200 square feet in an office at thenortheast end of the Raley’s Shopping Center located at 910 Tahoe Boulevard,Incline Village, Nevada, 89451. Nevada Security Bank renovated this propertyand took possession on March 6, 2003 under a five-year lease dated February 26,2001 that contains two renewal periods of five years each if the bank is not indefault under the terms of the lease at each renewal period. The bank and thelessors of the property have agreed to both extensions of the lease, under therenewal terms as were previously documented. The lease payment under thisagreement is approximately $7,056 per month with annual consumer price index(CPI) adjustments.

 

Nevada Security Bank’s office in NorthwestReno operates in approximately 3,500 square feet in a newly constructed freestanding building in the McQueen’s Crossings shopping center development. NevadaSecurity Bank occupies this facility under a lease agreement dated October 7,2003 within a land area of about 46,000 square feet. The location consists of abuilding, three drive-up lanes, one of which houses an ATM, and one bypass lane.The term of the lease is twenty years, commencing October 11, 2004, with twoten year extensions available if the tenant is not in default under the termsof the lease. The lease payment under this agreement is approximately $11,250per month for the first five years, with escalations thereafter.

 

In addition, Nevada Security Bank opened abranch office at 2270 Douglas Blvd., Suite 220 Roseville, California under thename Silverado Bank, a division of Nevada Security Bank. The Roseville facilityis newly renovated and operates under a lease dated October 6, 2004 withpremises of approximately 5,968 square feet. The term of the lease is fiveyears, commencing with occupancy in March 2005, with one five year extensionavailable if the tenant is not in default under the terms of the lease. Thelease payment under this agreement is approximately $12,533 per month for thefirst year, with escalations thereafter.

 

The approved but unopened Spanish Springsbranch office in Sparks, Nevada will open late in the first quarter of 2006, ina temporary location. The permanent location has been delayed due to site completionactivities. When open it will be housed in a free standing building in ashopping center development, which is currently pending governmental sitedevelopment approval.

 

Nevada Security Bank’s total occupancyexpense for the years ended December 31, 2005 and 2004, was approximately $1,532,000and $1,330,000 respectively. Management believes that existing facilities are adequatelycovered by insurance and sufficient for our present purposes and anticipatedgrowth in the foreseeable future.

 

**ITEM 3.****                            ****LEGAL PROCEEDINGS**

 

With the exception of the matters disclosedbelow, in the normalcourse of business, the Company is involved in various legal proceedings. Inthe opinion of management, any liability resulting from such proceedings wouldnot have a material adverse effect on the Company’s financial condition orresults of operation.

 

In November, 2004, Dot1Web, Inc., Thomas R.Creal, court appointed receiver for Dot1Web, Inc. and Robert DeMaio filed anaction against Nevada Security Bank, the Company’s sole subsidiary. The BankHoldings is not a party to this lawsuit. The central allegation against theBank is the alleged wrongful dishonor of certain checks drawn on the account ofPlaintiff. The Plaintiffs alleged that, as a result of the dishonor, they lostpotential investors who were planning on assisting them with $20,000,000 incapital investment and Mr. Demaio also personally lost nearly $80,000,000 inthe value of stock he held in Dot1Web, Inc.

 

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On March 10, 2006, in the Second JudicialDistrict Court of the State of Nevada, in and for the County of Washoe, anorder was issued dismissing the plaintiff’s complaint with prejudice.

 

**ITEM 4.****                            ****SUBMISSION OF MATTERS TO A VOTEOF SECURITY HOLDERS**

 

No matters were submitted to a vote of thesecurity holders during the fourth quarter of the period covered by thisreport.

 

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**PART II**

 

**ITEM 5.****                            ****MARKET FOR COMMON EQUITY AND RELATEDSHAREHOLDER MATTERS**

 

**(a)  Market Information**

 

Between December 27, 2001 the date the Bankopened for business, and March 22, 2004, there were no trades in the Bank’sstock, of which management is aware, and there appeared to be no active tradingmarket.

 

The Company’s Common Stock was listed on the NASDAQSmall Cap Market on March 23, 2004. Prior to that, Nevada Security Bank’sCommon Stock was listed on the Over-The-Counter Bulletin Board (OTCBB). OurCommon Stock trades on the NASDAQ Stock Market® under the symbol TBHS and theCUSIP number of such common stock is 88331E104.

 

Our warrants were also listed on the NASDAQSmall Cap Market on March 23, 2004. The Warrants trade under the symbol TBHSW,the CUSIP number for them is 88331E112 and are exercisable between March 22,and May 21, 2006. The following table summarizes trades of the Company’s CommonStock, setting forth the approximate high and low sales prices and volume oftrading for the periods indicated, based upon information provided by publicsources.

 
| **Calendar Quarter** | ** ** | **Sale Price of the Company’s  Common Stock (per share)** | ** ** | **Approximate Trading** | ** ** |
|----------------------|------------|----------------------------------------------------------------|------------|-------------------------|------------|
| **Ended**            | ** ** | **High**                                                       | ** ** | **Low**                 | ** ** | **Volume in Shares** | ** ** |
| March 31, 2004 (1)   |       | $                                                              | 15.94      |                    | $          | 13.24 |   | 319,770 |   |
| June 30, 2004        |       | 16.90                                                          |       | 13.50                   |       | 217,439 |   |
| September 30, 2004   |       | 17.24                                                          |       | 15.50                   |       | 51,343 |   |
| December 31, 2004    |       | 20.70                                                          |       | 15.75                   |       | 97,508 |   |
| March 31, 2005       |       | 20.47                                                          |       | 17.55                   |       | 114,194 |   |
| June 30, 2005        |       | 19.48                                                          |       | 16.10                   |       | 173,475 |   |
| September 30, 2005   |       | 19.48                                                          |       | 18.10                   |       | 302,974 |   |
| December 31, 2005    |       | 18.95                                                          |       | 17.24                   |       | 255,136 |   |
|                      |            |                                                                |            |                         |            |  |  |  |  |

 

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(1) Trading commenced March 23, 2004.

 

Management is aware of the followingsecurities dealers who make a market in the Company’s stock:  D.A. Davidson & Co., Two CenterpointeDr., Suite 400, Lake Oswego, OR  97035, phonenumber 800-249-2610 attn: Cindy Burg; Howe Barnes Investments Inc., 135 SouthLaSalle Street, Chicago, IL  60603, phonenumber 312-655-3000; attn: Glenn Harris, and Mitchell Securities Corporation ofOregon, 121 S.W. Morrison St., Suite 1060, Portland, OR  97204, phone number 800-224-2226 attn: MitchAlmy, (the “Securities Dealers”).

 

The Company has not made any repurchases ofits stock during the fourth quarter of the period covered by this report.

 

**(b)  Holders**

 

On March 21, 2006 there were approximately 594shareholders of record at the Company’s stock transfer agent, while street nameholders totaled about 672. Total shareholders approximate 1,266.

 

On March 21, 2005 there were approximately 654shareholders of record at the Company’s stock transfer agent, while street nameholders totaled about 659. At that date, total shareholders approximated 1,313.

 

**(c)  Dividends**

 

As a bank holding company which currently hasno significant assets other than our 100% ownership of

 

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Nevada Security Bank, our ability to pay cashdividends depends upon the dividends we receive from Nevada Security Bank. Thedividend practice of Nevada Security Bank, like our dividend practice, willdepend upon its earnings, financial condition and other relevant factors,including applicable regulatory orders and restrictions with respect todividends.

 

Nevada Security Bank’s ability to pay cashdividends to us is also subject to certain legal limitations. Under Nevada law,a bank cannot declare a cash dividend or make a distribution of its net profitsuntil (a) the bank’s surplus fund equals its initial stockholders’ equity(excluding the amount of the initial surplus fund) and (b) ten percent of theprevious year’s net profits have been carried to the surplus fund. Additionally,no distribution may be made if it would result in the bank’s stockholders’equity (including the reserve for loan losses) being less than 6% of the bank’saverage total daily deposit liabilities for the preceding 60 days or if itwould reduce the stockholders’ equity below the initial stockholders’ equity orbelow minimum applicable regulatory capital requirements under federal law. Also,under Nevada law applicable to Nevada Security Bank, and to Nevada corporationsgenerally, no distribution may be made if, after giving effect to it, thecorporation would be unable to pay its debts as they become due in the usualcourse of business or the sum of the corporation’s assets would be less thanthe sum of its liabilities plus the amount (if any) that would be needed tosatisfy the rights of holders of any preferred stock of the corporation,assuming the corporation were to be dissolved at the time of the distribution.

 

Stock dividends are not subject to the Nevadalaw restrictions or distributions, as described above, because a corporation’sassets, liabilities and total stockholders’ equity do not change as a result ofthe stock dividend.

 

During the fourth quarter of 2005, theCompany declared a five percent (5%) stock dividend payable to shareholders asof December 28, 2005.

 

Shareholders are entitled to receivedividends only when and if declared by our board of directors and we have nointention to pay cash dividends in the foreseeable future. Instead, anyearnings which may be generated will be retained for the purpose of increasingour capital and reserves in order to facilitate growth.

 

During any period in which the Company hasdeferred payment of interest otherwise due and payable on its subordinated debtsecurities, it may not make any dividends or distributions with respect to itscapital stock (see “Item 6 Management’s Discussion and Analysis of FinancialCondition and Results of Operations – Capital Resources”).

 

**(d)  Securities Authorized for Issuance underEquity Compensation Plans**

 

The following table provides information asof December 31, 2005, with respect to options outstanding and available underour Stock Option Plan, which is our only equity compensation plan other than anemployee benefit plan meeting the qualification requirements of Section 401(a)of the Internal Revenue Code:

 

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| **Equity Compensation Plan Information**                    | ** ** |
|-------------------------------------------------------------|------------|
| **Plan Category**                                           | ** ** | **Number of Securities to  be issued upon exercise  of outstanding options,  warrants and rights** | ** ** | **Weighted-average  exercise price of  outstanding options,  warrants and rights** | ** ** | **Number of Securities  remaining available for  future issuance under  equity compensation  plans (excluding  securities reflected in  column (a))** | ** ** |
| Equity Compensation plans approved by security  holders     |       | 488,985 |   | $ | 12.79 |   | 115,590 |   |
| Equity compensation plans not approved by security  holders |       | — |   | — |   | — |   |
|                                                        |       |   |   |   |   |   |   |
| Total                                                       |       | 488,985 |   | $ | 12.79 |   | 115,590 |   |

 

**ITEM 6.****                            ****MANAGEMENT’S DISCUSSION ANDANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS**

 

The “summary selected financial data” thatfollows is derived from the audited Consolidated Financial Statements of theCompany and from our internal accounting system. The selected financial datashould be read in conjunction with the audited Consolidated FinancialStatements and Notes thereto, and Management’s Discussion and Analysis ofFinancial Condition and Results of Operations in Item 7 below. Statisticalinformation that follows is generally based on average daily amounts.

 

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**SummarySelected Consolidated Financial Data**

 
| ** **                            | ** ** | **Year Ended December 31,**                       | ** ** |
|---------------------------------------|------------|---------------------------------------------------|------------|
| ** **                            | ** ** | **2005**                                          | ** ** | **2004** | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                            | ** ** | **(Dollars in thousands, except per share data)** | ** ** |
| **Condensed Income Statement**        |       |                                              |       |   |   |   |   |   |   |
| Interest Income                       |       | $                                                 | 17,166     |   | $ | 10,536 |   | $ | 5,250 |   | $ | 1,948 |   |
| Interest Expense                      |       | 7,344                                             |       | 3,669 |   | 1,893 |   | 759 |   |
| Net Interest Income                   |       | 9,822                                             |       | 6,867 |   | 3,357 |   | 1,189 |   |
| Provision for Loan Losses             |       | 1,069                                             |       | 764 |   | 602 |   | 220 |   |
| Non-interest income                   |       | 772                                               |       | 420 |   | 893 |   | 77 |   |
| Non-interest expense                  |       | 8,823                                             |       | 6,242 |   | 4,213 |   | 2,811 |   |
| Provision for income taxes (1)        |       | (710                                              | )          | — |   | — |   | — |   |
| Net Income (Loss)                     |       | $                                                 | 1,412      |   | $ | 281 |   | $ | (565 | ) | $ | (1,765 | ) |
|                                  |       |                                              |       |   |   |   |   |   |   |
| **Period End Data**                   |       |                                              |       |   |   |   |   |   |   |
| Assets                                |       | 384,632                                           |       | 246,842 |   | 166,149 |   | 79,676 |   |
| Loans, gross                          |       | 245,185                                           |       | 160,708 |   | 82,671 |   | 25,005 |   |
| Securities                            |       | 83,821                                            |       | 69,128 |   | 74,763 |   | 47,992 |   |
| Deposits                              |       | 338,198                                           |       | 188,341 |   | 148,747 |   | 67,270 |   |
| Other borrowed funds                  |       | 15,464                                            |       | 30,500 |   | 6,125 |   | 15 |   |
| Shareholders’ Equity             |       | 28,702                                            |       | 27,376 |   | 10,853 |   | 11,995 |   |
|                                  |       |                                              |       |   |   |   |   |   |   |
| **Average Balance Sheet**             |       |                                              |       |   |   |   |   |   |   |
| Assets                                |       | 293,580                                           |       | 233,439 |   | 121,017 |   | 46,903 |   |
| Loans, gross                          |       | 201,267                                           |       | 122,454 |   | 50,214 |   | 8,318 |   |
| Securities                            |       | 69,668                                            |       | 90,242 |   | 59,998 |   | 25,333 |   |
| Deposits                              |       | 245,322                                           |       | 199,305 |   | 108,163 |   | 34,209 |   |
| Shareholders’ Equity             |       | 28,061                                            |       | 23,090 |   | 11,188 |   | 12,573 |   |
|                                  |       |                                              |       |   |   |   |   |   |   |
| **Asset Quality**                     |       |                                              |       |   |   |   |   |   |   |
| Non-performing assets (2)             |       | —                                            |       | — |   | — |   | — |   |
| Allowance for loan losses             |       | 2,655                                             |       | 1,586 |   | 822 |   | 220 |   |
| Net Charge-offs                       |       | —                                            |       | — |   | — |   | — |   |
| Non-performing assets to total assets |       | —                                            |       | — |   | — |   | — |   |
| Allowance for loan losses to loans    |       | 1.08                                              | %          | 0.99 | % | 0.99 | % | 0.88 | % |
| Net Charge-offs to average loans      |       | —                                            |       | — |   | — |   | — |   |
|                                  |       |                                              |       |   |   |   |   |   |   |
| **Per Common Share**                  |       |                                              |       |   |   |   |   |   |   |
| Basic income (loss) per share         |       | 0.47                                              |       | 0.10 |   | (0.38 | ) | (1.20 | ) |
| Diluted income (loss) per share       |       | 0.43                                              |       | 0.10 |   | (0.38 | ) | (1.20 | ) |
| Book value per share at year end      |       | 9.19                                              |       | 9.21 |   | 7.72 |   | 8.53 |   |
| Period end common shares outstanding  |       | 3,124,266                                         |       | 2,972,330 |   | 1,405,930 |   | 1,405,930 |   |
| Average shares outstanding - basic    |       | 2,974,104                                         |       | 2,746,791 |   | 1,476,227 |   | 1,476,130 |   |
| Average shares outstanding - diluted  |       | 3,279,863                                         |       | 2,838,988 |   | 1,476,227 |   | 1,476,130 |   |
|                                  |       |                                              |       |   |   |   |   |   |   |
| **Financial Ratios**                  |       |                                              |       |   |   |   |   |   |   |
| Return on average assets              |       | 0.48                                              | %          | 0.12 | % | (0.47 | )% | (3.76 | )% |
| Return on average equity              |       | 5.03                                              | %          | 1.22 | % | (5.05 | )% | (14.04 | )% |
| Net interest margin (3)               |       | 3.49                                              | %          | 3.12 | % | 2.91 | % | 2.65 | % |
| Tier 1 leverage capital ratio         |       | 10.06                                             | %          | 11.01 | % | 7.06 | % | 15.17 | % |

 

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(1)          The Company removed the valuation allowance ondeferred tax assets, and incurred franchise taxes on its allocated Californiaincome.

(2)          Non-performing assets consists of loans 90days or more delinquent and still accruing interest, investments or loans placed on non-accrualstatus, and other real estate owned.

Forall periods presented, there are none.

(3)          Net interest income calculated on a fully-taxableequivalent basis divided by average interest earning assets.

 

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Thisdiscussion presents management’s analysis of the financial condition andresults of operations of The Bank Holdings and Nevada Security Bank for each ofthe periods ended December 31, 2005, 2004, and 2003 and includes thestatistical disclosures required by SEC Guide 3 (“Statistical Disclosure byBank Holding Companies”). The discussion should be read in conjunction with thefinancial statements of The Bank Holdings and Nevada Security Bank and thenotes related thereto which appear elsewhere in this document.

 

**CriticalAccounting Policies**

 

TheCompany’s financial statements are prepared in accordance with accountingprinciples generally accepted in the United States. The financial informationcontained within these statements is, to a significant extent, based onapproximate measures of the financial effects of transactions and events thathave already occurred. Critical accounting policies are those that involve themost complex and subjective decisions and assessments, and have the greatestpotential impact on the Company’s stated results of operations. In Management’sopinion, the Company’s critical accounting policies deal with the followingareas:  the establishment of the Company’sallowance for loan losses, as explained in detail in the “Provision for LoanLosses” and “Allowance for Loan Losses” sections of this discussion andanalysis; loan origination costs, which are estimated and aggregated by loantype based on a regular evaluation of expenses (primarily salaries andbenefits) associated with successful loan originations and are allocated toindividual loans as they are booked, but can actually vary significantly forindividual loans depending on the characteristics of such loans; income taxes,especially with regard to the ability of the Company to recover deferred taxassets, as discussed in the “provision for income taxes” and “other assets”sections of this discussion and analysis; goodwill, which is evaluated annuallyfor impairment based on changes in the market value of subsidiaryorganizations; and equity-based compensation, which is discussed in greaterdetail in Footnote 1 “Basis of Presentation” to the financial statementscontained herein, under the caption “Stock Compensation Plan”. Criticalaccounting areas are evaluated on an ongoing basis to ensure that the Company’sfinancial statements incorporate the most recent expectations with regard tothese areas.

 

Ourallowance for loan loss methodology incorporates a variety of riskconsiderations, both quantitative and qualitative in establishing an allowancefor loan loss that management believes is appropriate at each reporting date. Quantitativefactors include our historical loss experience, peer bank loss experience,delinquency and charge-off trends, collateral values, changes in nonperformingloans, loan concentrations and other factors. Qualitative factors include thegeneral economic conditions in our state locations, and in particular, thestate of certain industries in northern Nevada and northern California. Sizeand complexity of individual credits in relation to loan structure, existingloan policies and pace of portfolio growth are other qualitative factors thatare considered in the methodology. As we add new products and increase thecomplexity of our loan portfolio, we enhance our methodology accordingly. Managementmay report a materially different amount for the provision for loan losses inthe statement of operations to change the balance of the allowance for loanlosses if its assessment of the above factors were different. This discussionand analysis should be read in conjunction with our financial statements andthe accompanying notes presented elsewhere herein as well as the portion ofthis Management’s Discussion and Analysis section entitled “Provision for LoanLosses” and “Allowance for Loan Losses”. Although management believes thelevels of the allowance as of December 31, 2005 and 2004 were adequate toabsorb probable losses inherent in the loan portfolio, a decline in localeconomic conditions, or other factors, could result in increasing losses thatcannot be reasonably predicted at this time.

 

**Summaryof Performance**

 

Aspreviously noted and also as reflected in the Consolidated Statements ofOperations, for the year ended December 31, 2005, the Company generated net incomeof approximately $1.4 million and for the years ended December 31, 2004 and 2003,the Company generated net income of approximately $281,000, and a net loss ofapproximately $565,000, respectively.

 

TheCompany earns income from two primary sources; net interest income generated bythe successful employment of earning assets less the costs of interest-bearingliabilities, and net non-interest income, which is generated by service chargesand fees charged for services provided, less the operating costs of providingthe

 

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fullrange of banking services to our customers. Income on bank owned life insuranceand pre-underwriting loan fees, gains on sale of securities and unrealizedgains or losses on the Company’s trading account comprise other areas ofnon-interest income.

 

**2005over 2004**

 

Thestrong improvement in results of operations for the year ended December 31,2005 when compared to the results of the comparable 2004 period, are primarilydue to increases in volumes held of interest earning assets, and interestbearing liabilities. Total assets increased $137.8 million or 55.8% whencomparing December 31, 2005 to 2004, and average total assets increased about$60.1 million or 25.8% over the same period.

 

TheCompany’s income from operations was approximately $1.4 million for the yearended December 31, 2005 as compared to $281,000 for the comparable period in2004. This was a change of approximately $1.1 million from the previous period.The income per basic share was $.47 for 2005, as compared to $0.10 for 2004. TheCompany’s return on averages assets (ROAA) was 0.48% and the return on averageequity (ROAE) was 5.03%, as compared to 0.12% and 1.22% respectively, for 2004.

 

Therewere a number of monetary and non-monetary events that occurred during the year2005 that had an impact on the reported performance of the Company. Themonetary events that prompted significant changes in the Company’s reportedperformance include the substantial growth of assets under management, theactions of the FOMC and the concomitant increases in short-term funding costsover the past year, the elimination of the allowance for deferred tax assets,and the addition of $15.5 million in trust preferred securities at the holdingcompany level. Significant non-monetary events include the opening of theSilverado Bank division in Roseville, California, the addition of executivecompensation plans in the form of Bank Owned Life Insurance (“BOLI”) and thecontinued growth of personnel over the intervening year. In addition, the Bank’sdefense against the DOT1web allegations diverted management’s attention and addedto professional expenses over 2005, such litigation expense which is notexpected to continue beyond the first quarter of 2006.

 

**2004over 2003**

 

Thestrong improvement in results of operations for the year ended December 31, 2004when compared to the results of the comparable 2003 period, are primarily dueto increases in volumes held of interest earning assets, primarily loans, and interestbearing liabilities, primarily deposits. Total assets increased approximately $80.7million or 48.6% when comparing December 31, 2004 to 2003, and average totalassets increased about $112 million or 93% over the same period.

 

TheCompany’s income from operations was approximately $281,000 for the year ended December31, 2004 as compared to a loss of $565,000 for the comparable period of 2003. Thiswas a change of approximately $846,000 from the previous period. The income perbasic share was $0.10 for 2004, as compared to a loss of $0.38 for 2003. TheCompany’s return on average assets (ROAA) was .12% and the return on averageequity (ROAE) was 1.22%, as compared to (0.47%) and (5.05%) respectively, for2003.

 

Significantevents that occurred during 2004 included several factors having to do withbalance sheet growth and repositioning. The first is related to the newlyinterpreted FAS 115 which disallowed the sale of AFS investments withouttainting the entire AFS portfolio. In addition, the purchased SBA loans hadseveral payoffs which negatively impacted interest income. Stock based employeecompensation influenced reported earnings as well, due to limited tradingactivity and the utilization of a thirty day average price calculation forstock option expense purposes.

 

Twoother areas of influence include the purchasing of a California bank charterand the opening of the Bank’s third branch, and the costs incurred in eachactivity. The most significant single event on the company’s activities for theyear 2004 has to be the secondary offering and the initial public trading ofthe Company’s stock on NASDAQ. Without the approximate $16 million ofadditional capital and the preparatory accounting, audit and legal costs, theCompany would not have been enabled to continue along the path set for it bythe organizers, board and management of the Company.

 

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**Resultsof Operations**

 

**2005over 2004**

 

TheCompany’s net income for the year ended December 31, 2005 was $1.4 million ascompared to $281,000 for the year ended December 31, 2004. The Company’s basicincome per share for the twelve months ended December 31, 2005 was $.47 ascompared to $.10 per share for the prior year ended December 31, 2004, whilethe Company’s return on average equity was 5.03% and 1.22% for the sameperiods, and return on average assets was 0.48% and 0.12%, respectively for2005 and 2004.

 

Theprimary contribution to the Company’s earnings improvement in 2005 whencompared to 2004 was a $3.0 million increase in net interest income. This wasbrought about by average earning assets approximately 28% greater than theprior period, and the Company’s net interest margin increase of 37 basis pointsto 3.49% for 2005, from 3.12% for the year ended December 31, 2004. Theincrease in the net interest margin was due more to continuing increased volumesand a redistribution of assets held, rather than any marked increase ininterest earned on investment or loan portfolio assets. The second most notablearea of change in the Company’s reported results when one compares 2005 to2004, is the removal of the valuation reserve in the Company’s deferred taxasset. The Company’s prior tax-loss carry-forwards have been substantiallydecreased by the results of 2005 operations. However, the lack of historicalloan losses has impaired the Company’s ability to recognize the tax effect ofthe provisions for loan losses, and as a result a substantial deferred taxasset remains on the books and records of both the Bank and the Company.

 

Otherchanges include a $305,000 increase in the Company’s provision for loan losses,for the year ended December 31, 2005, when compared to the same period of 2004.The provision for loan losses was $1.1 million for 2005 and $764,000 for 2004,an increase of 40%. The provision is determined pursuant to a periodiccomprehensive analysis of the allowance for loan losses. The allowance isdescribed in more detail in the Allowance for Loan Losses discussion sectionand (see Appendix 8 & 9) herein.

 

Non-interestincome for the year ended December 31, 2005 was $772,000 as compared to$420,000 in 2004 an increase of $352,000 or 84%. A substantial portion of theincrease in 2005 was due to the BOLI increase in cash surrender value. Thisfavorable increase in non-interest income was more than off-set by an increaseof $2.6 million in non-interest expenses which negatively affected the Company’snet non-interest margin.

 

Whileat the current time the Company has a tax loss carry forward on a consolidatedbasis, the valuation allowance was removed from the Company’s deferred taxassets and net tax benefits in the amount of ($710,000) were recorded for theyear of 2005.

 

**2004over 2003**

 

TheCompany’s net income for the year ended December 31, 2004 was $281,000 ascompared to the loss of $565,000 for the year ended December 31, 2003. TheCompany’s basic income per share for the twelve months ended December 31, 2004was $0.10 as compared to a loss of $.38 per share for the prior year endedDecember 31, 2003.

 

Theprimary contribution to the Company’s earnings improvement in 2004 whencompared to 2003 was a $3.5 million increase in net interest income. This wasbrought about by average earning assets approximately 91% greater than theprior period. The Company’s net interest margin increased by 21 basis points to3.12% for 2004, from 2.91% for the year ended December 31, 2003. The slightincrease in the net interest margin was due more to continuing increasedvolumes and a redistribution of assets held, rather than any marked increase ininterest earned on investment or loan portfolio assets. There was a $162,000increase in the Company’s provisions for loan losses, for the year endedDecember 31, 2004, when compared to the same period of 2003. The provision forloan losses was $764,000 for 2004 and $602,000 for 2003, an increase of 27%. Theprovision is determined pursuant to a periodic comprehensive analysis of theallowance for loan losses. The allowance is described in more detail (seeAppendix 8 & 9) herein.

 

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Therewere a number of events that occurred during the year 2004 that had an impacton the financial performance of the company. The first event was therepositioning of the balance sheet in preparation for the implementation of theEmerging Issues Task Force Issue no. 03-1, “*The Meaning of Other-Than-TemporaryImpairment and Its Application to Certain Investments,”* (OTTI) as itrelates to FASB 115 *Accounting for CertainInvestments in Debt and Equity Securities.*As the Company’ssubsidiary, Nevada Security Bank  hadbeen in existence for only three years on that date and had has placed excessfunds in an investment portfolio purchased during a low ebb in the interestrate cycle which we anticipated would be reduced in an orderly fashion throughthe reduction of Available-for-Sale securities to fund loan growth. By thisorderly sale of investment volumes matched to loan growth volumes, the Bank’sloss on sale of debt securities in a rising interest rate environment wouldhave been offset by a much higher reinvestment rate in approximately aconcurrent quarterly period. By this method, the Bank would not have excessidle funds, nor would it be unable to meet the usual and customary liquidityneeds of a growing loan portfolio.

 

AtJune 30, 2004, the reported accumulated comprehensive loss was $1.251 million. Yieldson the 10 year Treasury notes were approximately 4.90% in mid June, and fell toabout 4.23% even as the Fed raised the federal funds rate by three-quarters ofa percentage point during that period. Long term yields generally mirror thefinancial market expectations for short-term interest rates, and this outlookallowed the Company to reduce its Available-for-Sale portfolio from about $50million at June 30, 2004 to approximately $15.5 million as of December 31, 2004at a net cost (loss on sale) of about $111,000. As a result of these sales andchanges in money market conditions, the accumulated net comprehensive loss atDecember 31, 2004 was $363,000. The Company determined that, given theuncertainty surrounding the implementation of OTTI rules and the Bank’s needfor liquidity to fund a growing loan portfolio, a reduction in the AFSportfolio during a period of relatively attractive prices in the fixed incomemarkets, was warranted.

 

Anotherevent was the unexpected early payoff of several SBA whole loans and SBA loaninvestment pools held by the Company. These government guaranteed loans werepurchased to enhance asset portfolio returns over investment securities, and toprovide variable rate yields over a term of likely increases in overall marketrates. However, unanticipated prepayments caused the Company to accelerate theamortization of over $176,000 in premium during the year.

 

Duringthe year, the Company completed the acquisition of CNA Trust Corporation, aCosta Mesa based California financial institution. The professional costsassociated with this transaction approximated $125,000. This acquisition allowedthe Company’s subsidiary, Nevada Security Bank greater access to the I-80corridor between the Sacramento and Reno markets, and over time, should enhancethe Bank’s loan and deposit volumes. After relocation of this office toRoseville, California during March of 2005, this office, branded as SilveradoBank, a division of Nevada Security Bank grew quite substantially and met management’sexpectations for business volumes.

 

Inaddition, another item concerned the stock based employee compensation expensereported in net income for the year ended December 31, 2004. Due to the lack ofan active trading market in the Company’s stock, the limited number of sharesexchanged daily, as well as substantial price volatility, it was determinedthat using a thirty (30) day average market closing price would be the mostrepresentative of the common stock’s fair market value. Accordingly, theCompany has recognized the difference between the market price on the day ofthe grant and the lower average closing price for the thirty (30) dayspreceding the grant date as compensation which has been reflected in thestatement of operations. This amounted to $83,000 for the year ended December31, 2004.

 

Otheractivities concerned the opening of the Bank’s newest branch in northwest Reno.The Company expensed significant costs to prepare the opening of the branchwhich increases Nevada Security Bank’s footprint in the Reno market. Inaddition, during the year the Company reworked the local area network (“LAN”),telephone, and data infrastructure in preparation for new branches, and therelocated loan production office.

 

Oneof the most significant events was the initial and continuing costs associatedwith the Company’s stock becoming publicly traded. The increased costs inaccounting, legal, and auditing have had an impact on the

 

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Company’soverhead, and with the required implementation of the Sarbanes-Oxley Act, mostnotably Section 404, these expenses will continue to have a substantive ongoingimpact to the Company’s cost of operations.

 

Non-interestincome for the year ended December 31, 2004 was $473,000 lower in 2004 than theyear ended December 31, 2003, primarily due to the change from gains takenduring 2003, to losses on sales of investment securities during 2004. This decreasein non-interest income was coupled with a $2.0 million unfavorable variance innon-interest expenses, which negatively affected the Company’s net non-interestincome. As a portion of such expenses personnel costs increased $719,000 or 35.5%as the Company added more experienced management to its employee base alongwith the new Northwest branch, and occupancy expense rose by $434,000 or 48.4%as a result of the increased space for the Company’s headquarters, new branchoffice and the increased space for the loan production office when comparingresults for the years ended December 31, 2004 to 2003.

 

Atthe current time, the Company has a tax loss carry forward on a consolidatedbasis, and no tax accrual or expense has been recorded for any of the periodsreported within the body of this report.

 

**NetInterest Income and Net Interest Margin**

 

TheCompany’s net interest margin depends on the yields, volumes, and mix of itsearning assets components as compared to the rates, volume and mix of variousfunding sources. The Company’s net interest margin is its net interest incomeexpressed as a percentage of average earning assets. The Average Balances andRates Table, (see Appendix 1), reflects the Company’s average balance sheetvolumes of assets, liabilities, and stockholders equity; the amount ofassociated interest income or interest expense; net interest income; theaverage rate or yield for each category of interest earning asset or interestbearing liability; and the net interest margin for the periods noted.

 

**2005over 2004**

 

Netinterest income before the provision for loan losses for the year endedDecember 31, 2005 was $9.8 million, as compared to $6.9 million for the sameperiod in 2004. This represents an increase of about $3.0 million or about 43%.As previously noted, net interest income is the difference between the interestincome and fees earned on loans and investments, and the interest expense paidon deposits and other borrowings. The amount by which interest income exceedsinterest expense depends on two factors: the volume and mix of earning assetsas compared to that of interest portfolios. The Company’s net interest marginis the net interest income expressed as a percentage of earning assts. Themargin for 2005, 2004, and 2003, is reflected in Appendix 1 and reflects thechanges in interest rates earned and rates paid on loans, investments,deposits, and borrowed funds held by the Company during the periods underreview.

 

TheCompany’s net interest margin has been impacted by three over-riding conditions.The first is the continued rising interest rate environment of the last year orso brought about the actions of the Federal Open Market Committee, the secondhas been the continued improving general economic conditions of the local andregional markets, and the third is the continuing extremely competitive loan anddeposit pricing of the major banks in the Company’s market. As a result, the Company’snet interest margin was 3.49%, and its interest rate spread was 2.87% for theyear ended December 31, 2005.

 

TheCompany’s 3.37% earnings rate on its investment portfolio for the year endedDecember 31, 2005 as compared to 3.09% for the same periods in 2004 and 2003 wasan increase of 28 basis points or 9.06%. This earning rate was favorablyimpacted by the increasing rate environment coupled with current periodpurchases, heavy refinancing in the mortgage backed portfolio, and the risinginterest rates on liquid overnight funds sold on a daily basis.

 

TheCompany’s rates earned on its loan portfolio over the same periods increased105 basis points to 7.19% or an increase of about 17%. The significant increasein loans outstanding and the change in mix contributed to the increase in loaninterest income over the periods under review. While the prime rate rose eighttimes from

 

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5.0%to 7.0% during 2005, the overall earnings rate of 7.19% for the year endedDecember 31, 2005 was noticeably improved from the 6.14% rate earned for theyear ended December 31, 2004.

 

Asa result of the foregoing, the Company’s gross interest earnings asset rate forthe year ended December 31, 2005 was 6.10%, as compared to 4.79% for the sameperiod of 2004, and 4.55% for 2003.

 

Interestexpense for 2005 was impacted by the rapidly escalating short-term interestrate environment previously noted, however, and the Company’s interest paidrate on all interest bearing liabilities was 3.23% for the year ended December31, 2005 as compared to 2.06% for the same period in 2004, and 2.01% for 2003. Althoughthe Company’s overall net interest margin increased to 3.49% for the year endedDecember 31, 2005 as compared to 3.12% for the same period in 2004, and 2.91%for 2003, prior to the fourth quarter of 2005, the Company’s net interestmargin had not been as adversely affected by rising short-term interest rateson the liability side of the balance sheet.

 

Althoughactual earning rates increased on the Company’s investments and loan portfoliosover the year ended December 31, 2005 when compared to the same period in 2004,the change in asset mix combined with significant volume increases on totalearning assets resulted in the most impact on interest income. As a result, theCompany’s net interest margin increased by 37 basis points during the yearended December 31, 2005 when compared to the same period of 2004, and 21 basispoints over the year ended December 31, 2003 when compared to the same periodin 2002.

 

TheChanges in Net Interest Income Table (see Appendix 2) presents informationregarding interest income and interest expense for each major category ofinterest-earning assets and interest-bearing liabilities. The table sets forthchanges in interest income and expense attributable to changes in averagebalances (volume) or changes in average interest rates (rates). The calculationis as follows:  (i) changes in rate(changes in rate multiplied by prior year volume), (ii) change in volume(change in volume multiplied by prior year rate) and (iii) changes in both rateand volume (change in rate multiplied by change in volume). Changes in interestincome and expense that are not due solely to volume or rate changes arecombined with the volume/rate change category.

 

Interestbearing liability rate changes are shown to have brought about the decline of $575,000in net interest income for the year ended December 31, 2005 relative to thesame period of 2004. While the rate effect is negative, total interest incomeon a volume basis was substantially overshadowed this negative effect and netinterest income rose by $3.0 million over the period due to positive variances inloan portfolio volumes.

 

TheCompany’s net interest margin is also impacted by changes in the mix ofinterest earning assets and interest bearing liabilities, as well as by changesin the relative level of non - earning assets (including cash and due frombanks). On the asset side of the balance sheet, the relative increase in the loanvolume as compared to investments volume as a portion of average earningsassets, as well as the change in the loan to deposit ratio had a positiveimpact on the weighted average yield on earning assets.

 

Forthe twelve months ended December 31, 2005 the average yield on the investmentportfolio was 3.37%, while the average yield on the loan portfolio was 7.19%for a combined weighted yield of 6.10% on $281 million of average earningassets.

 

Forthe same period, the interest costs on deposit liabilities was 3.17% and 3.87%on other interest bearing liabilities, for a combined weighted average cost of 3.23%on $228 million of total average interest bearing liabilities.

 

**2004over 2003**

 

Netinterest income before the provision for loan losses for the year ended December31, 2004 was $6.9 million, as compared to $3.4 million for the same period of2003. This represents an increase of about $3.5 million, or about 105%. Aspreviously noted, net interest income is the difference between the interestincome and fees earned on loans and investments, and the interest expense paidon deposits and other borrowings. The amount by which interest income exceedsinterest expense depends on two factors: the volume and mix of

 

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earningassets as compared to that of interest bearing deposits and borrowings, and theinterest rates earned versus the interest rates paid on each of the balancesheet portfolios. The Company’s net interest margin is the net interest incomeexpressed as a percentage of earning assets. The margin for 2004, and 2003, isreflected in Appendix 1 and reflects the changes in the rates earned and ratespaid on loans, investments, deposits, and borrowed funds held by the Companyduring the periods under review.

 

TheCompany’s net interest margin was impacted by three over-riding conditions. Thefirst is the pervasive low interest rate environment of the last few yearsbrought about by the actions of the Federal Open Market Committee, the secondhas been the slowly improving general economic conditions of the local andregional markets, and the third is the extremely competitive loan pricing ofthe major banks in the Company’s market. As a result, the Bank’s net interestmargin was 3.12%, and its interest rate spread was 2.73% for the year endedDecember 31, 2004.

 

TheCompany’s 3.09% earnings rate on its investment portfolio for the year ended December31, 2004 and also 2003, as compared to 3.68% for 2002, was unfavorably impactedby the low interest rate environment, heavy refinancing in its mortgage backedportfolio, and the low rate on liquid overnight funds sold on a daily basis. Theincrease in earnings for the investment portfolio is almost entirely due tochanges in volume.

 

TheCompany’s rates earned on its loan portfolio over the same periods fell by thesame magnitude. The significant increase in loans outstanding and the change inmix contributed to the reduction in rates over the periods under review. Whilethe prime rate rose twice during the intervening period, the overall earningsrate of 6.14% for the year ended December 31, 2004 was not as noticeablyreduced from the 6.44% rate earned for the year ended December 31, 2003. Aspreviously noted, premiums of $176,000 were amortized into loan income duringthe year ended December 31, 2004. This amount represented a reduction of 14basis points in the earnings rate for the period. The portfolio rate for theyear ended December 31, 2002 was 7.23%.

 

Asa result of the foregoing variances, the Company’s gross earnings rate for theyear ended December 31, 2004 was 4.79%, as compared to 4.55% for the sameperiod of 2003, and 4.34% for 2002.

 

Interestexpense rates for the periods noted above were impacted by the marginally higherinterest rate environment previously noted, however, and the Company’s interestrate paid on all interest bearing liabilities was 2.06% for the year ended December31, 2004 as compared to 2.01% for the same period in 2003, and 2.59% for 2002. TheCompany’s overall net interest margin increased to 3.12% for the year ended December31, 2004, as compared to 2.91% for the same period in 2003, and 2.65% for 2002.

 

Althoughactual earnings rates declined on the Company’s investments and loan portfoliosover the year ended December 31, 2004 when compared to the same period in 2003,the change in asset mix resulted in a slight increase on total earning assets. Asa result, the Company’s net interest margin increased by 21 basis points overthe year ended December 31, 2004 when compared to the same period of 2003, and26 basis points over the year ended December 31, 2003 when compared to the sameperiod in 2002.

 

TheChanges in Net Interest Income Table (see Appendix 2) presents informationregarding interest income and interest expense for each major category ofinterest-earning assets and interest-bearing liabilities. The table sets forthchanges in interest income and expense attributable to changes in average balances(volume) or changes in average interest rates (rates). The calculation is asfollows:  (i) changes in rate (changes inrate multiplied by prior year volume), (ii) change in volume (change in volumemultiplied by prior year rate) and (iii) changes in both rate and volume(change in rate multiplied by change in volume). Changes in interest income andexpense that are not due solely to volume or rate changes are combined with thevolume/rate change category.

 

Ratechanges are shown to have caused a drop of $23,000 in net interest income forthe year ended December 31, 2004 relative to the same period of 2003. While therates are lower, total interest income on a volume basis was substantiallyenhanced by approximately $3.5 million over the period due to over-ridingpositive variances in both investment and loan portfolio volumes.

 

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TheCompany’s net interest margin is also impacted by changes in the mix ofinterest earning assets and interest bearing liabilities, as well as by changesin the relative level of non - earning assets (including cash and due frombanks). On the asset side of the balance sheet, the relative increase in theloan to deposit ratio had a positive impact on the weighted average yield onearning assets.

 

Forthe twelve months ended December 31, 2004 the average yield on the investmentportfolio was 3.09%, while the average yield on the loan portfolio was 6.14%for a combined weighted yield of 4.79% on $220 million of average earning assets.

 

Forthe same period, the interest costs on deposit liabilities was 2.05% and 2.19%on interest bearing liabilities, for a combined weighted average cost of 2.06%on $178 million total average interest bearing liabilities.

 

**Non–InterestIncome and Non–Interest Expense**

 

**2005over 2004**

 

TheCompany’s results reflected a higher level of non-interest income in the yearended December 31, 2005 than that ended December 31, 2004. Please refer toNon-Interest Income and Non-Interest Expense Table Appendix 3 for additionalspecific information. The overall ratio of non-interest income to averageearning assets increased to 0.27% from 0.19% for the year ended December 31,2005 as compared to December 31, 2004, and 0.77% for 2003. The Company’snon-interest income, exclusive of BOLI and securities items, as a percentage ofaverage earning assets, was 0.14% for the year ended December 31, 2005, ascompared to 0.20% for 2004 and 0.34% for 2003. The primary difference betweenthe reported results has been the previous extent of SBA loan pre-underwritingfees that have declined over the past three years as that area has had lesserstaff available for such endeavors. The generation of additional servicecharges and fee income is an area that is in need of additional managementattention. It is anticipated that the recent “1031” company acquisitions mayhelp enhance the results previously reflected in this area.

 

Totalnon-interest expenses increased to $8.8 million in the year ended December 31,2005 from $6.2 million in the period ended December 31, 2004, and $4.2 millionfor the year ended December 31, 2003. As a percentage of average earningassets, total non-interest expenses were 3.14% and 2.84% for the years endedDecember 31, 2005 and 2004, respectively, and 3.65% for 2003. The increase ofapproximately 42% for the year 2005 as compared to 2004, and the 48% increasefor 2004 over 2003 reflect the continued substantial additions to staff,offices, and data processing capabilities over time, as the Bank has continuedits expansion in both northern Nevada and northern California over the periodsunder review. Both geographic centers are anticipated to continue to grow overthe foreseeable future, as the Company solidifies its position in these twogrowth markets.

 

TheCompany’s efficiency ratio for all the periods under review declined due to theCompany’s substantial growth. The overhead efficiency ratio represents totalnon-interest expense divided by the sum of net interest income and totalnon-interest income. Neither the provision for loan losses nor realizedsecurities gains or losses is factored into the equation. The Company’soverhead efficiency ratio was 83.4% for the twelve months ended December 31,2005 versus 84.3% for the same period of 2004, and 112.3% for 2003. Generallyspeaking, a company’s efficiency ratio rises prior to growth spurts asincreases are felt in staffing levels, geographic dispersion of operatingunits, and volumes of business activity. Certainly, that has been the historyof our Company. Further, it is expected that this ratio falls as such additionsare put to full and effective use – this is always our goal. At the currenttime, however, our ratio although high reflects the continuing unabated growthof the Company.

 

Includedin the increase in non-interest income is $206,000 in service charges ondeposit accounts for the year ended December 31, 2005 while the amount for thetwelve months ended December 31, 2004 was 136,000 and $75,000 for 2003. The 2005increase was based on the more consistent collection of monthly service chargesand non-sufficient funds charges paid on higher deposit account volumes. Otherservice charges, commissions and fees are primarily comprised of wire transferand loan documentation fees, for all periods under review.

 

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Thesefees increased $26,000 to $165,000 for the twelve months ended December 31,2005 versus $139,000 for the same period in 2004, and $97,000 for 2003.

 

Pre-underwritingfees are a result of agreements with third parties whereby the Company performscertain pre-underwriting activities on SBA loans which are funded by the thirdparty. These activities are primarily conducted in the Roseville, Californiaoffice. This office may contribute some additional loan volumes to the Company,and provide additional sources of income based on sales of governmentguaranteed loans to financial intermediaries. No absolute assurance can begiven, however, that this will in fact, occur. Pre-underwriting fees for the periodsunder review decreased to $25,000 from $154,000 for the periods ending December31, 2005 and 2004, and $224,000 for 2003, respectively.

 

Increasesin the cash surrender value of bank owned life insurance amounted to $313,000for the year ended December 31, 2005. There were no such earnings reported forthe prior periods under review.

 

Thetotal amount of non-interest income for the year ended December 31, 2005 was somewhatimpacted by the transactions taken on sale of securities. Gross losses on thesale of securities amounted to $14,000 which was offset by gains on the sale oftrading equities in the amount of $26,000. In addition the Company had a netgain on the sale of fixed assets of $4,000. These activities amount to net gainson sales of $12,000 as compared to losses of $119,000 taken during thepreceding year ended December 31, 2004.

 

TheCompany has a small equity portfolio which is held as a trading account. Unrealizedgains and losses are recorded in non-interest income. The amount of net tradingincome was $47,000 for the period ending December 31, 2005, and represented 6.1%of consolidated non-interest income as compared to $110,000 and 26.2% for thesame period in 2004. The Company did not have a trading account for the yearending 2003.

 

Thelargest increase for any specific category of expenses was in salaries andemployee benefits, which were $1.5 million or 53.9% higher in the year endedDecember 31, 2005 than for the same period of 2004, and $719,000 higher in 2004than 2003. Personnel costs approximated 48% of total non-interest expense and1.5% of average earning assets during 2005 as compared to 44% of total noninterest expenses, and 1.3% of average earning assets for the same period in2004, and 48% of total non-interest expenses and 1.8% of average-earning assetsfor 2003. This reflects the Company’s addition of experienced professionalstaff during all three periods as it aligned its staffing levels to businessplan requirements. In addition to the growth of the Company, approximately$520,000 or 35% of the 2005 increase in salaries and benefits came as a resultof premium expenses on the bank owned life insurance program.

 

Thesecond greatest increase in non-interest expenses is in the data processingcosts for the Company. Data processing costs amounted to $733,000 as ofDecember 31, 2005 as compared with $369,000 at December 31, 2004 and $200,000for 2003. This was due to increased branch locations, upgrades to the Company’sIT infrastructure and web-sites as well as third party processing systemupgrades. Total data processing costs increased approximately $364,000 or 98.6%and represented 8.3% of total non-interest expense and 0.3% of average earningassets as of December 31, 2005. This compares with the increase of 2004 over 2003in the amount of $169,000 or 84.5% and costs which represented 5.9% of totalnon-interest expense and 0.2% of average earnings assets as of December 31,2004.

 

Asa result of the Company’s orientation towards being an integrated dataprovider, telephone and data communication costs have been higher than onemight anticipate in a local community institution. However, with three officesin Nevada and one in California inter-connected to Auburn, California andCharlotte, North Carolina which provide on-line capabilities, the Company’scommunication costs have indeed been high. Based on the technology supportedfocus of the Company, however, it is expected that this is likely to continueinto the future.

 

Thethird largest increase in non-interest expenses was in other professionalservices which increased $211,000 or 82.1% to $468,000 for the year endingDecember 31, 2005 as compared with $257,000 outstanding for the same period in2004. Other professional services were 5.3% and 0.2% of non-interest expensesand average earning assets, respectively for the year ended December 31, 2005. Thesame costs were 4.1% and 0.1% for the

 

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yearended in 2004. These increases were largely necessitated by the increasing roleof external professional staff evaluation of certain risk evaluated areas, aswell as by compliance with Sarbanes-Oxley, heightened asset liability and riskmanagement practices.

 

Thefourth largest increase in non-interest expenses was in the occupancy costs forthe Company. This was due to two primary factors; 1) the new California branchadded during the first quarter of 2005, and 2) the additional premises,equipment, and data processing costs initiated by additional lending andadministrative people in the main office. Total occupancy costs approximated 17%of total non-interest expense and 0.54% of average earning assets during theyear ended December 31, 2005, 21% and 0.60% for 2004, and 21% and 0.78%respectively for 2003.

 

The next largest area of non-interest expense was legaland accounting costs. These costs amounted to $515,000 or 5.8% of totalnon-interest expense and 0.2% of average earnings assets for the year endedDecember 31, 2005. Legal and accounting costs were approximately $519,000 or8.31% of total non-interest expenses and 0.2% of average earning assets during2004 and 3.87% of total non-interest expenses, as well as .14% of averageearning assets for the same period in 2003. Reported legal and accounting costshave been high primarily as a result of the Company’s continuing response to alawsuit previously filed, and the additional legal support required in thepurchases of two “1031” companies, such acquisitions which were completed inthe first quarter of 2006. Accounting costs themselves have not significantlychanged over the year 2004.

 

InAppendix 3, each of certain other non-interest expense categories are shownwith their related percentage of overall non-interest expense, so that one mayview their contribution to the overall cost structure of the company. Further,the Company’s efficiency ratio is noted, as was explained above.

 

Managementexpects that non-interest expense will moderate as a percentage of averageearning assets as the Company continues to grow and management further refinesmost areas of the Company’s cost structure, however, no assurance can be giventhat this, in fact, will occur.

 

**2004over 2003**

 

TheCompany’s results reflected a lower level of non-interest income in the yearended December 31, 2004 than that ended December 31, 2003. See Non-InterestIncome and Non-Interest Expense Table Appendix 3. The overall ratio ofnon-interest income to average earning assets decreased to 0.19% from 0.77% forthe year ended December 31, 2004 as compared to December 31, 2003, and 0.17%for 2002.

 

Totalnon-interest expenses increased to $6.2 million in the year ended December 31,2004 from $4.2 million in the period ended December 31, 2003, and $2.8 millionfor the year ended December 31, 2002. As a percentage of average earningassets, total overhead expenses were 2.84% and 3.65% for the years ended December31, 2004 and 2003, respectively, and 6.26% for 2002.

 

TheCompany’s overhead efficiency ratio for all the periods under review declineddue to the Company’s substantial growth. The overhead efficiency ratiorepresents total non-interest expense divided by the sum of net interest incomeand total non-interest income. Neither the provision for loan losses nor realizedsecurities gains or losses is factored into the equation. The Company’soverhead efficiency ratio was 84.3% for the twelve months ended December 31,2004 versus 112.3% for the same period of 2003, and 223.6% for 2002.

 

Includedin the decrease in non-interest income is $136,000 in service charges on depositaccounts for the year ended December 31, 2004 while the amount for the twelvemonths ended December 31, 2003 was 75,000 and $24,000 for 2002. The 2004increase was based on the more consistent collection of monthly service chargesand non-sufficient funds charges paid on higher deposit account volumes. Otherservice charges, commissions and fees are primarily comprised of wire transferand loan documentation fees, for all periods under review. These fees increased$42,000 to $139,000 for the twelve months ended December 31, 2004 versus $97,000for the same period in 2003, and $44,000 for 2002.

 

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Pre-underwritingfees are a result of agreements with third parties whereby the Company performscertain pre-underwriting activities on SBA loans which are funded by the thirdparty. These activities were conducted in the California loan production office.This office contributed additional loan volumes to the Company, and providedadditional sources of income based on sales of government guaranteed loans tofinancial intermediaries. Pre-underwriting fees for the periods under review decreasedto $154,000 from $224,000 for the periods ending December 31, 2004 and 2003,respectively. There were no such fees collected in 2002. The loan productionoffice opened during the last half of 2003 and operations were temporarilysuspended during the second half of 2004 due to changes in personnel, thepending office relocation, and pending merger of CNA Trust.

 

Thetotal amount of non-interest income for the year ended December 31, 2004 wassubstantially impacted by the losses taken on sale of securities. Gross losseson the sale of securities amounted to $157,000 which was partially offset bygains on the sale of securities in the amount of $46,000. In addition theCompany had a net gain on the sale of SBA loan investments of $7,000 and realizedlosses of $15,000 on the equity trading account. These activities amounted tonet losses on investments of $119,000 as compared to gains of $497,000 takenduring the preceding year ended December 31, 2003. The securities sold during2004 were taken when spreads had tightened and it appeared the bond portfoliovaluation would be adversely affected by likely FOMC activities over 2005 andsubsequent periods.

 

TheCompany has a small equity portfolio which is held as a trading account. Unrealizedgains and losses are recorded in non-interest income. The amount of net tradingincome was $110,000 for the period ending December 31, 2004, and represented26.19% of consolidated non-interest income. Realized losses on equity salesamounted to $15,000 for the year ended December 31, 2004. The Company did nothave a trading account for the years ending 2003 or 2002.

 

Thelargest increase for any specific category of expenses was in salaries andemployee benefits, which were $719,000 or 35.5% higher in the year ended December31, 2004 than for the same period of 2003, and $748,000 higher in 2003 than2002. Personnel costs approximated 44% of total non-interest expense and 1.25%of average earning assets during 2004 as compared to 48% of total non interestexpenses, and 1.75% of average earning assets for the same period in 2003, and45% of total non-interest expenses and 2.84% of average-earning assets for 2002.This reflects the Company’s addition of experienced professional staff during allthree periods as it aligned its staffing levels to business plan requirements.

 

Thesecond greatest increase in non-interest expenses is most evident in theoccupancy costs for the Company. This was due to two primary factors; 1) the newnorthwest branch added during the fourth quarter of 2004, and 2) the additionalpremises, equipment, and data processing costs initiated by moving The BankHoldings into their permanent space. Total occupancy costs approximated 21% oftotal non-interest expense and 0.60% of average earning assets during the yearended December 31, 2004, 21% and 0.78% for 2003, and 20% and 1.26% respectivelyfor 2002.

 

The third greatest area of non-interest expenseincrease has been in legal and accounting costs. These costs increased $356,000or 218% for the year ended December 31, 2004. Legal and accounting costsapproximated 8.31% of total non-interest expenses and .24% of average earningassets during 2004 and 3.87% of total non-interest expenses, as well as .14% ofaverage earning assets for the same period in 2003, and 5.73% and 0.36%respectively, for 2002. The primary increases were due to the followingfactors:  1) the costs associated withthe acquisition and merger of CNA Trust into Nevada Security Bank, and 2) substantiallyincreased expenses associated with public reporting of financial results on a morefrequent and regular basis.

 

Thefourth greatest area of non-interest expense increase has been in dataprocessing costs. Data processing expenses increased to 5.91% of totalnon-interest expenses for the year ended December 31, 2004 from 4.75% for thesame period of 2003. This amount was 0.21% of average earning assets for thetwelve months ended December 31, 2004, the same as 2003, and 3.63% and 0.23%respectively, for 2002. The Company believes that the customer base envisionedin its business plan is more oriented towards a “high-tech, soft-touch”financial services provider than has previously been the case in the northernNevada market. To this extent, the Company started its provision of bankingservices to include check truncation, image statements, on-line

 

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ATM’sand internet consumer banking, and added commercial account internet bankingupon its move to permanent facilities.

 

Asa result of the Company’s orientation towards being an integrated dataprovider, telephone and data communication costs have been higher than onemight anticipate from a local community institution. However, with threeoffices in Nevada and a loan production facility in California inter-connectedto Auburn, California and Charlotte, North Carolina which provide on-linecapabilities, the Company’s communication costs have indeed been high. Based onthe technology supported focus of the Company, however, it is expected thatthis is likely to continue into the future.

 

InAppendix 3, each of certain other non-interest expense categories are shownwith their related percentage of overall non-interest expense, so that one mayview their contribution to the overall cost structure of the company. Further,the Company’s efficiency ratio is noted, as was explained above.

 

**Provisionfor Loan Losses**

 

Creditrisk is inherent in the business of making loans. The Company sets aside anallowance for probable loan losses through periodic charges to earnings, whichare reflected in the income statement as the provision for loan losses. Specifically,the provision for loan losses represents the amount charged against currentperiod earnings to achieve an allowance for loan losses that in management’sjudgment is adequate to absorb losses inherent in the Bank’s loan portfolio. Theloan and lease loss provision is determined by conducting a regular evaluationof the adequacy of the company’s allowance for loan and lease losses, andcharging the difference, if any, to the current month’s expense. This has theeffect of creating volatility in the amount of charges to the Company’s earnings,based on loan growth, the particular types of loan growth, collateral values,debt service coverage, and various other factors. See Appendix 8 & 9 forinformation regarding the activity in The Allowance for Loan Losses. Theprovision is determined pursuant to a periodic comprehensive analysis of theallowance for loan losses, as previously described.

 

**2005over 2004 and 2003**

 

Forthe year ended December 31, 2005 the Company’s provision for loan losses was$1.1 million, which is $305,000 more than the $764,000 provided during thetwelve months ended December 31, 2004, and $467,000 more than the $602,000provided in 2003. The loan loss provision was higher in 2005 concurrent withthe larger increase in outstanding loan balances during 2005. The procedures formonitoring the adequacy of the allowance, and detailed information on theallowance, are included below in “Allowance for Loan Losses”.

 

Forthe periods under review, December 31, 2005, 2004 and 2003, there were nosubstantive changes in loan concentrations, loan quality, or loan terms, and asa result, the change in the provision for loan losses was primarily related toloan portfolio growth. See Appendix 6 regarding composition of the loanportfolio and Appendix 7 regarding the contractual maturities of the loanportfolio.

 

During2005, however, we did refine and further evaluate certain assumptions andestimation methods related to each primary loan category which reflected theloan purpose, strength of borrower, collateral (if any), the loan–to-value ratio(as appropriate), and the loan’s repayment terms and method, each of which wasdocumented and made a part of our quarterly determination of the adequacy ofthe allowance for loan losses. To the current date, there have been noreallocations of the allowance for loan losses among different parts of theportfolio.

 

Inaddition, the Bank provides an allowance for undisbursed loan commitments, suchallowance which is reported in other liabilities. At December 31, 2005, thisallowance totaled $225,000 and represented 0.09% of total gross loans. AtDecember 31, 2004 this allowance was $161,000 and represented 0.10% of totalgross loans, as compared to $75,000 and 0.09% of the total gross loans reportedat December 31, 2003.

 

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**Provisionfor Income Taxes**

 

**At December 31, 2005 the Companyhas $1.2 million of operating loss carry-forwards for federal income taxpurposes which expire in 2021 as compared to December 31, 2004 and 2003,respectively, when the Company had approximately $2.5 and $2.7 million ofoperating loss carry-forwards for federal income tax purposes. The Companyremoved its deferred tax asset valuation allowance for 2005 and accordingly reporteda net tax expense credit of $710,000. Refer to Footnote 8 of the financialstatements for further discussion and analysis of the deferred tax assets.**

** **

**FinancialCondition**

 

TheCompany is continuing its growth curve, as is evidenced by the increase intotal assets to $384.6 million at December 31, 2005 from $246.8 million atDecember 31, 2003 or total growth of about $138 million since the end of theyear 2004, and growth of about $80 million between December 31, 2004 and December31, 2003. Between December 31, 2004 and December 31, 2005, total deposits have increased$149.9 million or approximately 79.6%, investment securities (not including thetrading account) have increased over $14.7 million, or 21.3% and gross loanshave grown by over $84.5 million, an increase of approximately 52.6%. Theincrease in volumes of earning assets has kept pace with deposit growth, andthe Company’s percentage of earning assets was over 90% for all periods underreview.

 

TheCompany’s primary deposit growth has come from its four branches and aspecialized program of tax free real estate exchange deposits. At December 31,2005, these deposits totaled approximately $96 million and accounted for about 28%of the subsidiary bank’s deposits. With the addition to staff during 2005, amore formal program of cross-selling and specific marketing activities wasimplemented to further enhance deposit and loan growth.

 

**BALANCE SHEET ANALYSIS**

 

**EARNINGASSETS**

 

**InvestmentPortfolio**

 

Themajor components of the earning asset base for the Company are its investmentsecurities and loan portfolios. The detailed composition and growthcharacteristics of both of these portfolios are very significant to anyanalysis of the financial condition as well as results of operations of theCompany. The Company’s investments are analyzed in this section, while the loanportfolio is discussed in a later section of this Form 10-KSB.

 

SeeAppendix 4 for a detailed schedule for securities available for sale and heldto maturity and Appendix 5 for information regarding the contractual maturitiesof our debt securities. Actual maturities will differ from contracted scheduledmaturities because borrowers may have the right to call for redemption orprepay obligations with or without call or prepayment penalties.

 

Pursuantto SFAS No. 115, “Accounting for Certain Investments in Debt and EquitySecurities” on December 31, 1993, the Company classified its investments into threeprimary portfolios; “available for sale”, “held to maturity”, and “trading”.

 

Theinvestment portfolio serves several purposes: 1) it provides liquidity tomitigate uneven cash flows from the loan and deposit activities of customers;2) it provides a source of pledged assets for securing public deposits andborrowed funds; 3) it is a large base of assets, the maturity and interest ratecharacteristics of which can be changed more readily than the loan portfolio tobetter match changes in the deposit base and other funding sources of theCompany; 4) it is an alternative interest-earning use of funds when loan demandis light; and 5) it may provide partially tax exempt income. During the Company’sgrowth since its inception four years ago, deposit acquisition activitiesoutpaced loan growth until the latter half of 2004. As a result, the Company’sinvestment portfolio has been the primary placement of interest earning fundsover the periods

 

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reported.With additional lending staff and capacity in the northern Nevada and northern Californiamarkets, it is believed that loan growth will continue to be strong, althoughno absolute assurance can be given that this will, in fact, occur.

 

TheCompany’s investment portfolio is primarily composed of six subsets: (1) liquidfunds, which includes “Fed Funds Sold”, temporary overnight sales of excessfunds to correspondent banks, and money market funds with maturities of lessthan 30 days. These items are not detailed as an element within the Company’s reportedlonger-term securities portfolio; (2) US Treasury and Agency issues forliquidity; (3) state, county and municipal obligations which may providelimited tax free income and pledging potential; (4) mortgage-backed securitiesfor cash flow and enhanced earnings; (5) corporate bonds; and (6) other equityinvestments, some of which are readily marketable and carried in investments,and some of which are not readily marketable and are carried in other assets. Theselatter items include equity in the Federal Home Loan Bank of San Francisco andPacific Coast Bankers Bancshares, both of which are currently considered not tohave readily determinable fair market values. At December 31, 2005, the amountof FHLB stock and Pacific Coast Bankers Bancshares (“PCBB”) equity shares was$1.5 million and $100,000 respectively. The amount of FHLB stock purchased isrelated to the Company’s extent of funds borrowed from the FHLB as of eachreporting period. These restricted investments are carried at cost and the FHLBstock value is determined by ultimate recoverability of par value. The value ofPCBB stock will be ultimately determined by earnings, marketing considerations,and the number and health of banks within PCBB’s regional environs. Fordiscussion purposes, when we refer to the securities portfolio, we meaninvestment portfolio subsets 2-5, which are listed as our available-for-salesecurities and our held-to-maturity securities on our reports of condition. Therelative distribution of these groups within the overall portfolio has variedover the periods noted, especially as regards the extent of agency,mortgage-backed and corporate investments held. They may vary in volume basedon investment rates paid, perceived value in a rising or falling interest rateenvironment, and various other factors having to do with current FOMCactivities and money market conditions. The trading portfolio consists ofequity investments in listed stocks on the national exchanges. In someinstances covered call options were written against issues carried in thisportfolio.

 

Totalinvestment securities were approximately $84 million at December 31, 2005,exclusive of temporary overnight placements of about $9.3 million in liquidmoney market funds and $27.0 million in Federal Funds sold. This compares toslightly more than $69 million of investment securities and about $625,000 inliquid money market funds at December 31, 2004. The investment portfolioincreased approximately $15 million or 22% at December 31, 2005 as comparedwith the same period in 2004. The majority of the increase was represented byU.S. government sponsored agency investments during 2005.

 

Totalinvestments averaged approximately $78 million for the year ended December 31,2005, a 20% decrease from the approximately $98 million average reported atDecember 31, 2004. The most noticeable difference in the portfolio was theaddition of a greater volume of agency securities as compared to the previousperiod. The Company has been successful in modifying its balance sheetallocation activities to achieve greater earnings through loans than was possiblein prior periods. The investment portfolio for the year ended December 31, 2005comprised 28% of average earning assets, while for the year ended December 31,2004, the investment portfolio represented an even greater 44% of averageearning assets and in 2003 averaged 56%.

 

Concentrationsof investments or securities held exceeding 10% of stockholders’ equity are asfollows:  the current book value of heldto maturity pass through securities issued by FNMA and FHLMC at December 31,2005 was $23.6 million, with a market value of $22.9 million, while at December31, 2004 this amount was $23.9 million with a market value of $23.8 million. Forthe date of December 31, 2005 the amount of mortgage backed pass throughsecurities guaranteed by GNMA was $2.5 million with a market value of $2.4million, while at December 31, 2004 this was $3.4 million with a market valueof $3.4 million. Other held to maturity mortgage backed CMO’s issued orguaranteed by FNMA, FHLMC or GNMA at December 31, 2005 were $12.5 million witha market value of $12.1 million, while at December 31, 2004 this amount was $14.5million with a market value of $14.3 million.

 

Effectiveduration is a measure of duration which considers changes in cash flows and isbased on the expected price volatility of a security. Generally the greater theduration of the security or portfolio, the greater will be

 

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itspercentage price volatility. The effective duration is presented in years andis equal to the approximate percentage change in price per 100 basis pointchange in rate. The effective duration of the Company’s investment portfolio atDecember 31, 2005 is 2.38, as compared with 2.12 as of the same date in 2004. Thisincrease in duration during the year was the result of changes in market ratesof interest.

 

**LoanPortfolio**

 

Themajor component of interest earning assets is the Company’s loan portfolio. Adetailed review of the composition and characteristics of this portfolio isimportant to any analysis of the financial condition and results of operations ofthe Company.

 

Acomparative schedule of the distribution of the Company’s loans at December 31,2005 and 2004 is presented in Appendix 6, Composition of The Loan Portfolio. Theamounts shown in the table are before deferred or unamortized loan origination,extension, or commitment fees and origination costs for loans in thatparticular category. Further, the figures noted for each category are presentedas percentages, for ease of reviewer analysis. For each period reported, thereare no loans being serviced by the institution for the benefit of others. Further,no loans are considered held for sale.

 

Grossloans have increased by about $85 million, or over 52% to almost $245 millionduring the twelve months ended December 31, 2005. As one can see in Appendix 6,the most significant volume change between December 31, 2005 and December 31,2004 has been the increase of the Company’s real estate secured loan portfolio.This volume increased by about $79 million, and comprised about 93% of all loangrowth during the twelve months ended December 31, 2005. Approximately 57% of thegrowth that has occurred has been accomplished primarily in the increasedactivity levels of the Company’s Roseville, CA office. This growth portendswell for the diversification of risk within the Company’s large and growingloan portfolio. While the types of credits granted in this market are notextremely dissimilar from those granted in the northern Nevada market, the factthat these areas are separated by a mountain range and are in different statessubject to differing regional economies and governmental regulations reflectsthe added benefit of geographic risk dispersion within the Company’s overallloan portfolio. Generally speaking, volume changes have been substantial in theCompany’s loans held in the categories noted, over the periods under review.

 

AtDecember 31, 2004, our average interest earning asset base mix did not exhibitthe characteristics of average assets reported by our peers, however, with 2005loan growth this has changed and the earning asset base is more in line withour peers. While it is anticipated that loan volumes will continue to increaseas a percentage of average earning assets as we grow, there can be no absoluteassurance that this will, in fact, occur. Should the volume of loans change dramatically,a change in the relative mix of loan categories is also likely to occur. As ourloan portfolio ages and expands, it is also anticipated that our history of fewdelinquencies and no charge-offs over the past four years is likely to changeas well. While we are proud of our achievements in this regard, we are evermindful of how any given change in regulations, regional economies, interestrates, or other factors may cause a decline in the ultimate collectability ofany given credit extension.

 

**LoanMaturities**

 

Appendix7 Scheduled Contractual Maturities of the Loan Portfolio presents the maturitydistribution for each major category of our loan portfolio and the sensitivityof such loans to changes in interest rates at December 31, 2005.

 

**Off –Balance Sheet Arrangements**

 

Inthe usual course of business, the Company makes commitments to extend credit aslong as there are no violations of any conditions established in theoutstanding contractual arrangement. Commitments to extend credit were $71.2million at December 31, 2005 as compared to $51.5 million at December 31, 2004.These commitments represented about 29% and 32% of outstanding gross loans ateach of the periods noted, respectively. The Company’s stand-by letters ofcredit totaled $293,000 and $310,000 at December 31, 2005

 

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and2004, respectively. This total represented an insignificant portion of totalcommitments outstanding at December 31, 2005 and 2004.

 

Theimportance to and effect on the Company’s revenues, expenses, cash flows,liquidity, capital resources and market risk support from the unused portion ofthe commitments to provide credit cannot be reasonably predicted because thereis no guarantee that the lines of credit will ever be used. For moreinformation regarding the Company’s off-balance sheet arrangements, pleaserefer to other borrowing in this discussion, as well as Note 9 to the financialstatements.

 

**Non–PerformingAssets**

 

Wemanage asset quality and control credit risk through the application ofpolicies, practices and procedures designed to promote sound underwriting andloan monitoring, and the diversification of the loan portfolio. The loanadministration function is charged with monitoring asset quality andestablishing credit policies, practices and procedures which are consistentlyenforced. At all periods under review, we had no non-performing assets.

 

Theevaluation of these factors of risk is performed by independent third partyreview firms that employ credit professionals to determine our adherence topreviously established internal guidelines. These evaluations include manyfactors, such as loan growth, changes in the composition of the loan portfolio,delinquencies, general economic conditions that could impact the value ofcollateral, management’s general assessment of loan portfolio quality, andother trends and conditions. Further, such independent external reviews includeevaluating the financial strength of the borrowers, the value of applicablecollateral, any prior loan loss experiences, the growth in the loan portfolio,and other conditions. During the twelve months ended December 31, 2005, foursuch evaluations were conducted, as was an evaluation of the adequacy of ourloan loss allowance and the methodology employed in its adequacy testing. Inaddition, bank regulatory authorities, as part of their periodic examinationsof the Bank, review loan quality and the adequacy of the allowance for loanlosses.

 

Non-performingassets are comprised of the following:  loansfor which the Company is no longer accruing interest; loans 90 days or morepast due and still accruing interest (although loans are generally placed onnon-accrual when they become 90 days past due); loans restructured where theterms of repayment have been renegotiated resulting in a deferral of interestor principal; and other real estate owned (“OREO”). Management’s classificationof a loan as non-accrual or restructured is an indication that there isreasonable doubt as to the Company’s ability to collect principal or intereston the loan. At that point, the Company stops accruing income from the intereston the loan, reverses any uncollected interest that had been accrued but unpaid,and recognizes interest income only as cash interest payments are received andas long as the collection of all outstanding principal is not in doubt. Theseloans may or may not be collateralized, but in all cases collection efforts arecontinuously pursued. At all periods under review, the Company had nonon-performing assets.

 

**Allowancefor Loan Losses**

 

Theallowance for loan losses (ALL) is established through a provision for loanlosses based on management’s evaluation of known and inherent risks in theCompany’s loan portfolio. The allowance is increased by provisions chargedagainst current earnings, and reduced by net charge-offs. Specificallyidentifiable and quantifiable losses are immediately charged off against theallowance; recoveries are generally recorded only when cash payments arereceived subsequent to the charge off.

 

Weemploy a systematic methodology for determining the allowance for loan lossesthat includes a monthly review process and quarterly adjustment of theallowance. Our process includes a periodic review of individual loans that havebeen specifically identified as problem loans or have characteristics thatcould lead to impairment, as well as a detailed review of other loans (eitherindividually or in pools). While this methodology utilizes historical and otherobjective information, the establishment of the allowance for loan losses andthe classification of loans is also to some extent, based on management’sjudgment and experience.

 

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Peerdata for all institutions reported in the Uniform Bank Performance Report forthe State of Nevada reflects an allowance for loan losses of .99% of totalloans at December 31, 2005. This compares to the National Peer Group 2001 (allinsured commercial banks having assets less than $750 million that wereestablished in 2001) ratio of 1.17% as of the same date. For the National PeerGroup, loan losses were reported at .08% of average total outstanding, on anannualized basis, for the period ended December 31, 2005, while for the state,it was reported at .01%, for the period ended December 31, 2005 and .05% for theyear ended December 31, 2004.

 

Asreported in appendix 8 the Company’s allowance for loan losses as a percent ofgross loans was 1.08% as of December 31, 2005 and the Company had no loanlosses. Our allowance without the purchased SBA loans (which do not require areserve allocation), would have been 1.17% as of the same date. At December 31,2004 the Company’s allowance for loan losses as a percent of gross loans was 0.99%.

 

Ourmethodology incorporates a variety of risk considerations, both quantitativeand qualitative, in establishing an allowance for loan losses that managementbelieves is appropriate at each reporting date. Quantitative factors includenational peer and state peer historical loss experience, our historical lossexperience, delinquency and charge-off trends, collateral values, changes innon-performing loans, and other factors. Other factors include the strength ofthe borrower, collateral (if any), the loan-to-value ratio and other specificcriteria.

 

Qualitativefactors include the general economic environment in our markets and keyindustries in the northern Nevada and northern California markets. The way aparticular loan might be structured, the extent and nature of waivers ofexisting loan policies, the results of bank regulatory examination, modelimprecision, and the rate of portfolio growth are additional qualitativefactors that are considered. To date the Company has experienced no loanlosses.

 

Appendix8 summarizes the activity in the Allowance for Loan Losses for the periodsindicated.

 

Appendix9 provides information regarding the allocation of the Allowance for Loan Losses.

 

Managementbelieves that the ALL at December 31, 2005 is sufficient to absorb lossesinherent in the loan portfolio. This amount is based on the best availableinformation and does involve uncertainty and matters of judgment. Accordingly,the adequacy of the loan loss reserve cannot be determined with precision andcould be susceptible to significant change in future periods. In addition,however, we carry an allowance for undisbursed loan commitments which isreported as an “other liability.”  At December31, 2005 and 2004, such allowance totaled $225,000 and $161,000, respectively,and represented 0.32% and 0.31% of loan commitments outstanding, respectively,and 0.09% and 0.10% of total gross loans, respectively.

 

**Non-EarningAssets**

 

Non-earningassets are those assets that by their characteristics do not generate interestincome for the Company. Generally speaking, a financial institution wouldprefer to minimize such assets, which are primarily composed of cash and duefrom balances, premises and equipment and “other” assets. At December 31, 2005and December 31, 2004 such assets totaled about $19.0 million and $15.7 millionand represented approximately 5% and 6% of total assets, respectively.

 

AtDecember 31, 2005, the Company has $6.3 million in Bank Owned Life Insurance (“BOLI”)classified as a non-earning asset, as compared to $6.0 million for the sameperiod in 2004. The company completed all of the agreements and documentationpertaining to this plan during 2005. BOLI is an insurance policy with a singlepremium paid at policy commencement. Its initial net cash surrender value isequivalent to the premium paid, and it adds income through non-taxableincreases in its cash surrender value, net of the cost of insurance, plus anydeath benefits ultimately received by the Company. The costs of certain benefitplans added by the Company in 2005 are “funded” with BOLI income, projected tohave a tax-equivalent return of about 5%. No assurance can be given that thisreturn will be fully realized, however.

 

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**Cashand Due From Banks**

 

Cashon hand and balances due from correspondent banks represent the next majorportion of the Company’s non-earning assets. At December 31, 2005, cash and duefrom banks totaled $6.0 million and comprised about 2% of total assets andabout 31% of total non-earning assets, as compared to about 2% and 30%,respectively, of total assets and non-earning assets at December 31, 2004.

 

**Premisesand Equipment**

 

Fixedassets represent the third greatest volume of non-earning assets at December31, 2005, and totaled $2.9 million, representing about 15% of such total at December31, 2005 as compared $3.0 million or 19% at December 31, 2004.

 

Thenet book value of the Company’s premises and equipment decreased by $160,000, or5%, in 2005. The purchase of approximately $361,000 in equipment and leaseholdimprovements during the year did not offset the increased depreciation charges.The Company’s net premises and equipment were less than 1% of total assets at December31, 2005, and 1.2% of total assets at the end of 2004. At December 31, 2005there were no material commitments for capital expenditures, nor were there anyfixed or long lived assets held for sale or impaired in value.

 

Premisesand equipment are stated at cost less accumulated depreciation and amortization.Depreciation is charged to income over the estimated useful lives of the assetsand leasehold improvements are amortized over the terms of the related lease,or the estimated useful lives of the improvements, whichever is shorter. Depreciationand amortization was $521,000 for the year ended December 31, 2005 as comparedto $445,000 during 2004. Appendix 10, Premises and Equipment reflects thebalances by major category of fixed assets.

 

**OtherAssets**

 

Otherassets are primarily composed of accrued interest receivable on investments andloans, certain prepaid accounts, deferred tax assets, and items in process ofreview and determination as to their ultimate disposition. These amounts were $3.3million and $1.5 million as of December 31, 2005 and 2004, respectively. Of thetotal “other assets”, accrued interest receivable represented 51% and 70% at December31, 2005 and 2004, respectively.

 

Deferredtax assets amounted to approximately $763,000 and represent nearly 23% of the “otherassets” category, as compared to 2004, when the Company had a valuationallowance to offset the deferred tax assets. Most of the Company’s temporarydifferences between book and taxable income and expenses involve recognizingmore expenses in its financial statements that it has been allowed to deductfor taxes; therefore, the Company’s deferred tax asserts typically exceed itsdeferred tax liabilities. The net deferred tax asset is primarily due totemporary book/tax differences in the reported allowance for loan losses plusdeferred compensation and securities depreciation, net of deferred liabilitiescomprised mainly of fixed asset depreciation differences and deferred loanorigination costs. Management has evaluated all deferred tax assets, and has noreason to believe that either the quality of the tax deferred tax assets or theCompany’s future taxable income potential would preclude full realization ofall amounts in future years.

 

**Deposits**

 

Animportant balance sheet component impacting the Company’s net interest marginis the composition and cost of the Company’s deposit and other liability base. Netinterest margin is improved to the extent that growth in deposits can befocused in the less volatile and somewhat more traditional core deposits, whichare non-interest bearing demand, NOW accounts, savings accounts, money marketdeposit accounts (MMDA’s) and time deposits under $100,000.

 

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Thecompany’s growth of deposit accounts in the demand, NOW, and Certificate areashas been patterned along traditional means of acquisition:  new customers coming into a branch facility; returningcustomers well known to staff or management bringing their relationships overto the new bank, or as the result of calls made by staff, officers, ordirectors on certain prospective or potential customers. Further, it is theCompany’s goal to have established both deposit and loan relationships with allof the Company’s customers.

 

Inaddition to these sources, however, the Company has a deposit acquisitionofficer assigned to real estate related companies, who is responsible fordeveloping growth in this deposit class. As a result of such activities, theCompany has generated $96 million of MMDA deposits related to that source ofendeavor at December 31, 2005, which represented about 28% of total depositaccounts. At December 31, 2004 this type of MMDA deposit approximated $64million and represented about 34% of deposit accounts.

 

Anadditional source of deposit growth for the Company during 2005 was theacquisition of time certificates of deposits under $100,000 from deposit brokersources. These bulk deposits issued in denominations of $1,000 amounted to$42.6 million as of December 31, 2005. The average maturity of these depositsis about three years. These funds were acquired as part of the Company’s assetliability management process and are covering a portfolio of term loans thathave a next repricing date on average of approximately the same period.

 

Asillustrated in the Average Balances Sheet (see Appendix 1), the average ratepaid on interest bearing deposits increased to 3.17% during the year ended December31, 2005 from 2.05% for the year ended December 31, 2004. Average interestbearing deposit volumes increased by about $43 million, or approximately 25%for the year ended December 31, 2005 over the year ended December 31, 2004.

 

Oneof the primary differences between deposit volumes at December 31, 2005, whencompared to December 31, 2004, is the growth of $32 million in certificates ofdeposit under $100,000. The major portion of this growth was in the bulkdeposit sourcing discussed above which carried market rates of interest slightlyhigher at inception than deposit rates in the local market. As local depositrates have increased over the term, however, such rates are currently belowadvertised rates for time deposits with similar terms to maturity.

 

NOWdeposits increased approximately $1.7 million to $7.8 million or 27.9% at December31, 2005 as compared with $6.1 million outstanding as of December 31, 2004. AverageNOW accounts represented 3.2% of average interest bearing liabilities as of December31, 2005 as compared to 3.6% for the same period in 2004. Savings accounts decreased$300,000 or 11.2%, to $2.4 million for year ended December 31, 2005 versus $2.7million for the year ended 2004. Average savings accounts were 1.1% and 1.3% ofaverage interest bearing liabilities for the years ended December 31, 2005 and2004, respectively.

 

Timecertificates of deposit under $100,000 (including IRA’s), increased $47.4million to $54.9 million or 632%, at December 31, 2005 as compared to $7.5million as of December 31, 2004. Average time certificates of deposits under$100,000 (including IRA’s) amounted to 17.1% of average interest bearingliabilities as of December 31, 2005 as compared to 3.5% for the year endedDecember 31, 2004.

 

Potentially,the most volatile deposits in a financial institution are the largecertificates of deposits, those generally over $100,000. Because these deposits,when considered with other customer specific deposits, may exceed the maximumamount of FDIC insurance for an account, depositors may select shortermaturities to offset perceived risk elements associated with deposits over$100,000. The Company may find such certificates to be more volatile than thosegenerated within its branches from traditional sources; however, as branchesgenerate additional deposit growth, this effect should be somewhat mitigated. Referto Appendix 11, Maturity Schedule of Time Certificates of Deposit for moreinformation.

 

**Non –Interest Bearing Liabilities**

 

Non-interestbearing deposit liabilities are an integral part of a financial institution’sfunds portfolio. These consumer and business checking accounts provide arelatively stable source of investable funds which are considered among afinancial institution’s core deposits. Non-interest bearing demand deposits totaled$49.4

 

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and$33.4 million, respectively, and comprised about 14.6% and 17.7%, of totaldeposits at December 31, 2005 and 2004 and averaged about 14% and 16% of totalaverage deposits for each of the twelve months ended December 31, 2005 and 2004,respectively, and about 14% of average total deposits during 2003.

 

Othernon-interest bearing liabilities totaled $2.3 million and $625,000 respectivelyat December 31, 2005 and 2004, and are primarily represented by amountscalculated for interest payable and other expenses accrued but unpaid, andcertain clearing amounts. Accrued interest payable increased during the twelvemonths ended December 31, 2005 due to higher deposit volumes. Generallyspeaking, the balance of “other liabilities” represents a small percentage ofoverall liabilities and is not material to the discussion of funding sources.

 

**OtherBorrowings and Subordinated Debt**

 

Wemay occasionally use Fed funds purchased and short-term Federal Home Loan Bank(“FHLB”) borrowings to support liquidity needs created by seasonal depositflows, to temporarily satisfy funding needs from increased loan demand, and forother short-term purposes. Uncommitted lines are available from severalcorrespondent banks, however, the borrowing line at FHLB is dependent on thelevel of pledged collateral and the extent of FHLB equity held. There was atotal of $64 million available from this source at December 31, 2005 and $34million at December 31, 2005, less funds drawn, as noted below. Such funds weremade available on an overnight, index based rate at both December 31, 2005 and2004.

 

Theselines of credit available to us under various agreements with the Federal HomeLoan Bank of San Francisco, Pacific Coast Banker’s Bank, and Zions NationalBank are generally available under specified conditions. The extent of pledgedcollateral available, the amount of the line and the period over which fundscan be drawn may be subject to terms and conditions of an underlying letter ofunderstanding. At the current time, management is not aware of any knownevents, demands, trends or uncertainties that would likely result in thetermination or material reduction in availability of our off-balance sheetborrowing arrangements. Should such availabilities be substantially reduced,management would look to other internal and external sources of liquidity tosupport any reduced availability from current lines, although no absoluteassurance can be given that this, in fact, would occur. As of December 31, 2005the Company had no advances outstanding from the FHLB as compared to December31, 2004, when $30.5 million had been drawn.

 

Sincegrowth in core deposits may be at intervals different from loan demand, we mayfollow a pattern of funding irregular growth in assets with overnightborrowings, which are then replaced with core deposits. This temporary fundingis likely to be utilized for generally short–term periods, although noassurance can absolutely be given that this will, in fact, occur. Refer toAppendix 12, Other Borrowed Funds, which notes the extent of utilization of variousfunding sources over represented periods.

 

Duringthe fourth quarter of 2005 the Company and its newly formed Connecticutstatutory trust subsidiary, “The Bank Holdings Statutory Trust I”, (the “Trust”)entered into a purchase agreement pursuant to which it was agreed that thetrust would issue approximately $15.5 million of floating interest rate trustpreferred securities (the “Trust Preferred Securities”) to Merrill LynchInternational. The Trust Preferred Securities were issued and sold in a privateplacement exempt from registration under the Securities Exchange Act of 1933,as amended.

 

TheTrust Preferred Securities will be redeemable at the Company’s option on orafter December 15, 2010. In addition, the Trust Preferred Securities requirequarterly distributions of interest by the Trust to the Holders of the TrustPreferred Securities at a floating rate equal to the three month LondonInterbank Offered Rate (“LIBOR”) plus 1.42%, which rate thereafter will bereset quarterly until maturity. The Trust used the proceeds of the sale of theTrust Preferred Securities to purchase approximately $15.5 million of theCompany’s floating rate junior subordinated debentures (the “Debentures”). Likethe Trust Preferred Securities, the Debentures bear interest at a floating rateequal to the three month LIBOR plus 1.42%. The Debentures will mature on

 

45

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December15, 2035, but they may be redeemed by the Company at its option at any time onor after December 15, 2010.

 

**CapitalResources**

 

AtDecember 31, 2005, the Company had total shareholders’ equity of $28.7 million,comprised of $30 million in common stock, $1.2 million in accumulated deficit,and $554,000 in accumulated other comprehensive loss. Total shareholders’equity at the end of 2004 was $27.4 million. The Company’s wholly ownedsubsidiary, Nevada Security Bank, was required by the FDIC to maintain an 8%capital ratio during its first three years of operation. Due to the Bank’ssubstantial growth, the Company has contributed additional capital to the Bankto assure that the mandated ratio was not breached during 2005. While theCompany issued additional equity in March of 2004, in November 2005 the Companyissued $15.5 million of trust preferred securities through its unconsolidatedwholly owned subsidiary, The Bank Holdings Statutory Trust I, a Connecticutstatutory trust. Trust preferred proceeds are generally considered to be Tier 1or Tier 2 capital for regulatory purposes, but long term debt in accordancewith generally accepted accounting principles. However, no assurances can begiven that trust preferred securities will continue to be treated as Tier 1capital in the future.

 

TheCompany uses a variety of measures to evaluate its capital adequacy, withrisk-based capital ratios calculated separately for the Company and the Bank. Managementreviews these capital measurements on a quarterly basis and takes appropriateaction to ensure that they are within established internal and externalguidelines. The Company’s current capital position exceeds minimum thresholdsestablished by industry regulators. Based on current regulatory definitions,the Bank is well capitalized, which is the highest rating of the categoriesdefined under Federal Deposit Insurance Corporation Improvement Act (FDICIA) of1991.

 

TheFederal Deposit Insurance Corporation (“FDIC”) has promulgated risk-basedcapital guidelines for all state non-member banks such as Nevada Security Bank.These guidelines establish a risk-adjusted ratio relating capital to differentcategories of assets and off balance sheet exposures. There are two categoriesof capital under the guidelines, Tier 1 Capital includes common stockholders’equity and qualifying minority interests in consolidated subsidiaries, lessgoodwill and certain other deductions, notably the unrealized net gains orlosses (after tax adjustments) on available for sale investment securitiescarried at fair market value. Tier 2 Capital includes preferred stock, certaintypes of debt equity, and the allowance for loan losses, subject to certainlimitations. At December 31, 2005, 2004 and 2003, the Company’s total riskbased assets were $279.3 million, $167.0 million and $101.6 million,respectively. At December 31, 2005 Nevada Security Bank’s total risk basedassets were $262.8 million. This roughly indicates the intensity of capitalusage when compared to total reported assets as noted elsewhere in the body ofthis report.

 

Appendix 15 sets forth the Company’s and the Bank’s regulatory capitalratios as of the dates indicated.

 

**Impactof Inflation**

 

A financial institution’s asset and liability structure issubstantially different from that of an industrial firm in that primarily allassets and liabilities of a bank are monetary in nature, with relatively littleinvestment in fixed assets or inventories. Inflation can have an importantimpact on the growth of total assets and the resulting need to increase equitycapital at higher than normal rates in order to maintain an appropriate equityto asset ratio. Inflation has been minimal for the past several years and assuch has had little or no impact on the financial condition and results ofoperations of the Company during the periods discussed herein.

 

**Liquidityand Market Risk Management**

 

TheCompany must address on a daily basis the various and sundry factors whichimpact its continuing operations. Three of these factors have been previouslydiscussed:  The economic climate whichencompasses our business environment, the regulatory framework that governs ourpractices and procedures, and credit risk. This section will address liquidityrisk and market risk, two additional risks specific to the operation of afinancial institution that also require active management.

 

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**Liquidity**

 

Theliquidity of the Company is comprised of three primary classifications:  Cash flows from or used in operatingactivities, cash flows used in investing activities, and cash flows provided byfinancing activities. Net cash provided by or used in operating activitiesconsists primarily of net income or loss adjusted for certain non-cash incomeand expense items such as the loan loss provision, investment and otheramortizations and depreciation. For the twelve months ended December 31, 2005net cash provided by operating activities was about $2.8 million, compared to $1.3million for the same period of 2004. The improvement for the twelve monthsended December 31, 2005 over the same period of 2004 was primarily as a resultof the continued growth of the Bank, and the increase in net income in 2005 overthe same period in 2004.

 

Netcash used in investing activities, consisting primarily the of purchases ofsecurities, and funding of the loans, was approximately $101 million and $82million for the twelve months ended December 31, 2005 and 2004, respectively,all of which reflected the continued asset growth of the Bank.

 

Netcash provided by financing activities for all periods under reviewoverwhelmingly reflects the deposit growth of the organization. For the twelvemonths ending December 31, 2005 the net cash provided by financing activitieswas $135 million, as compared to $80 million for the same period of 2004.

 

Liquidityrefers to our ability to maintain a cash flow that is adequate to fundoperations and meet obligations and other commitments in a timely andcost-effective fashion. We require sources of funds to meet short-term cashneeds that may result from loan growth or deposit outflows, or other assetpurchases or liability repayments. These funds are traditionally made availableby drawing down from our correspondent bank deposit accounts, reducing thevolume of fed funds sold, or liquid money market funds,  selling securities, liquidating other assets,or borrowing funds from other institutions.

 

Theextent to which these funds are available to meet our cash needs determines ourliquidity. In addition, should the need arise for immediate cash, we could selleither permanently or under agreement to repurchase, those investments in ourportfolio which are not pledged as collateral to support various borrowings orthe collateralization of public deposits.

 

Asof December 31, 2005, non-pledged securities comprised about $10.6 million or 13%of our securities portfolio. Other forms of balance sheet liquidity on thatdate include vault cash and balances due from banks totaling $6.0 million. Inaddition to the liquidity inherent in its balance sheet, we haveoff-balance-sheet liquidity in the form of lines of credit from two correspondentbanks. Availability on these lines totaled approximately $5 million at December31, 2005. We manage our liquidity in such a fashion as to be able to meet anyunexpected sudden change in levels of assets or liabilities. At December 31,2005 all non-pledged investments were approximately 13% of our total investmentportfolio, and total lines of credit approximated $72 million, which wereunused as of year end.

 

Ona long term basis, the Bank’s liquidity may be met by changing the relativedistribution of its asset portfolios, i.e., reducing investment or loanvolumes, or selling or encumbering assets. Further, it may increase liquidityby soliciting higher levels of deposit accounts through promotional activities,the use of deposit brokers, or borrowing from correspondents through drawing onits lines of credit. At the current time, the long-term liquidity needs of theBank primarily relate to funds required to support loan commitments, leaseobligations, and outsourced management information systems contracts. All ofthese needs can currently be met by cash flows from investment payments andmaturities, and investment sales if needs be.

 

TheBank Holdings is a company separate and apart from Nevada Security Bank. Itmust provide for its own liquidity. The subordinated Debentures which closed November3, 2005 provided debt equity with which it may continue its current growth,support the continued growth of Nevada Security Bank, and pay for itsobligations incurred during the normal course of business.

 

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**InterestRate Risk Management**

 

Marketrisk arises from changes in interest rates, exchange rates, commodity pricesand equity prices. The Bank’s market risk exposure is primarily that ofinterest rate risk, and it has established policies and procedures to monitorand limit earnings and balance sheet exposure to changes in interest rates. TheBank does not engage in trading of financial instruments, nor does the Bankhave any exposure to exchange rates.

 

Theprincipal objective of interest rate risk management (often referred to as “asset/liabilitymanagement”) is to manage the financial components of the Company in a mannerthat will optimize the risk/reward equation for earnings and capital inrelation to changing interest rates. To identify areas of potential exposure torate changes, the Bank uses modeling software to perform an earnings simulationanalysis and a market value of portfolio equity calculation on a quarterlybasis. This identifies more dynamic interest rate risk exposures than thoseapparent in standard re-pricing gap analyses.

 

BancWaremodeling software is used for asset/liability management in order to simulatethe effects of potential interest rate changes on the Company’s primarysubsidiary, Nevada Security Bank’s net interest margin. These simulations canalso provide both static and dynamic information on the projected fair marketvalues of the Bank’s financial instruments under different interest ratescenarios. The simulation program utilize Bank specific loan, deposit andinvestment data, and incorporates assumptions on the re-pricing characteristicsof embedded options to determine the effects of a given interest rate change onthe subsidiary bank’s interest income and interest expense. Rate scenariosconsisting of key rate and yield curve projections are run against the Bank’sinvestment, loan, deposit and borrowed funds portfolios. These rate projectionscan be shocked (an immediate and sustained change in rates, up or down), ramped(an incremental increase or decrease in rates over a specified time period),economic (based on current trends and econometric models) or stable (unchangedfrom current actual levels). The Bank typically uses seven standard interestrate scenarios in conducting its simulations, four of which are provided inAppendix 13.

 

TheBank’s policy is to target the change in the Bank’s net interest income for thenext 12 months to plus or minus 7% based on a 100 basis point (b.p.) shock, plusor minus 14% based on a 200 b.p. shock, and plus or minus 21% based on a 300b.p. shock in interest rates.

 

SeeAppendix 13 for information on the Bank’s estimated net interest income profileas of December 31, 2005. The table illustrates that if there were an immediatedownward adjustment of 200 basis points in interest rates and the Bank didnothing further with regard to the active management of its assets orliabilities, net interest income would likely decrease by around $2.4 million,or approximately 18.86%, over the next twelve months. By the same token, ifthere were an immediate increase of 200 basis points in interest rates, the Bank’snet interest income would increase by $1.4 million or 10.89% over the next year.The exposure to declining rates appears disproportionate in these simulations,however, because most of the Bank’s deposit rates have escalated over the pastyear as a result of FOMC actions. In reality, management does not expectcurrent rates to fall significantly. In addition, the preceding interest ratesimulation model does not represent a financial forecast and should not berelied upon as being indicative of future results.

 

Onelesser utilized method of reviewing an institution’s likely changes in netinterest income is to analyze its “gap” position. That is, to look at thedollar volume of assets and liabilities whose interest rates earned and paid,will be repricing in various base periods. This repricing information is alsoused in the liquidity management. These repricing characteristics are the timeframes within which the interest bearing assets and liabilities are currentlysubject to change in interest rates, either at replacement, repricing ormaturity during the life of the instruments. Interest rate sensitivity managementfocuses on the repricing characteristics and the maturity structure of assetsand liabilities during periods of changes in market interest rates. Effectiveinterest rate sensitivity management seeks to examine how and when assets andliabilities respond to changes in interest rates, and quantify the impact ofinterest rate changes on net interest income. Interest rate sensitivity ismeasured as the difference between the volumes of assets and liabilities in ourcurrent portfolios that are subject to repricing at various time horizons:immediate; within three months; over three to twelve months; one to five years;over five years, and on a cumulative basis. The differences are known asinterest rate sensitivity gaps.

 

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Asshown in Appendix 14 Interest Rate Sensitivity Gap, during the first threemonths, approximately 71% of interest bearing liabilities could reprice,compared with 45% of all interest earning assets. This would be characterizedas a negative gap, that is, more liabilities reprice in this period than assets.A positive gap implies that more assets than liabilities reprice in a giventime frame, and the intuitive reaction would be that in a falling rateenvironment, it would be more beneficial to be negatively gapped; that is,interest bearing liabilities drop in price faster than interest earning assets,and in a rising interest rate environment it would be better to have interestearning assets reprice quicker than interest bearing liabilities, therebycreating additional short-term income.

 

Ashort term positive net interest income effect would occur in either instance,based on the positive gap in a falling rate environment, or a negative gap in arising interest rate environment, at least until all interest bearingliabilities or assets are repriced in respect to their maturities, and theenhanced net interest margin is reduced. However, loan and deposit portfoliorepricing periods do not bring automatic short-term increases or decreases in thenet interest margin, because rates may not be adjusted concurrently with marketcondition changes, and may be “sticky” in either direction.

 

Furtherchanges in the mix of earning assets or interest bearing liabilities can eitherincrease or decrease the net interest margin without affecting interest ratesensitivity. In addition, the interest rate spread between an asset and itssupporting liability can vary significantly while the timing of repricing forboth the asset and the liability remains the same, thereby impacting netinterest income. This characteristic is referred to as basis risk and in generalrelates to the possibility that the repricing characteristics of short-termassets tied to various indices are different from those of funding sources. Varyinginterest rate environments can create unexpected changes in prepayment volumesof assets, and pre-maturity demands for liabilities that are not reflected inthe interest rate sensitivity analysis. These customer originated prepayments orpre-maturities may have a significant impact on our net interest margin. Becauseof these factors, an interest rate sensitivity gap analysis may not provide anaccurate assessment of our exposure to changes in interest rates and we usemodeling software to more accurately reflect interest rate risk.

 

Theeconomic (or “fair”) value of financial instruments on the Company’s balancesheet will also vary under the interest rate scenarios previously discussed. Economicvalues for financial instruments are estimated by discounting projected cashflows (principal and interest) at current replacement rates for each accounttype, while the fair value of non-financial accounts is assumed to equal bookvalue and does not vary with interest rate fluctuations. An economic value simulationis a static measure for balance sheet accounts at a given point in time, butthis measurement can change substantially over time as the characteristics ofthe Company’s balance sheet evolve and as interest rate and yield curveassumptions are updated. At the current time, the Company determines theeconomic value of equity (“EVE”) on a quarterly basis, and is establishingguidelines for such variances based on historical economic and Company trends,after an evaluative period with includes the substantial increases in FOMCrates changes over the past year. Such guidelines will be formalized anddocumented during the year 2006.

 

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**ITEM 7.****                            ****CONSOLIDATED FINANCIAL STATEMENTS**

 

Thefollowing financial statements and independent auditors’ reports listed beloware included herein:

 
|   |                                                                                                        | **Page** |
|--------|-------------------------------------------------------------------------------------------------------------|----------|
| Ia.    | Report  of Independent Registered Public Accounting Firms                                                   | 51       |
|   |                                                                                                        |     |
| II.    | Consolidated  Balance Sheets – December 31, 2005, and 2004                                             | 53       |
|   |                                                                                                        |     |
| III.   | Consolidated  Statements of Operations – Years Ended December 31, 2005, 2004, and 2003                 | 54       |
|   |                                                                                                        |     |
| IV.    | Consolidated  Statements of Stockholders’ Equity – Years Ended December 31, 2005, 2004, and  2003 | 55       |
|   |                                                                                                        |     |
| V.     | Consolidated  Statements of Cash Flows – Years Ended December 31, 2005, 2004, and 2003                 | 56       |
|   |                                                                                                        |     |
| VI.    | Notes  to the Consolidated Statements                                                                       | 57       |

 

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**Report ofIndependent Registered Public Accounting Firm**

 

To the Board of Directors 

The Bank Holdings 

Las Vegas, Nevada

 

We have audited the consolidated balance sheets of TheBank Holdings and Subsidiary as of December 31, 2004 and the relatedconsolidated statements of operations, stockholders’ equity and cash flows foreach of the two years in the period ended December 31, 2004. These financialstatements are the responsibility of the Company’s management. Ourresponsibility is to express an opinion on these financial statements based onour audits.

 

We conducted our audits in accordance with thestandards of the Public Company Accounting Oversight Board (United States).Those standards require that we plan and perform the audit to obtain reasonableassurance about whether the financial statements are free of materialmisstatement. An audit includes examining, on a test basis, evidence supportingthe amounts and disclosures in the financial statements. An audit also includesassessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall financial statement presentation.We believe that our audits provided a reasonable basis for our opinion.

 

In our opinion, the consolidated financial statementsreferred to above present fairly, in all material respects, the financialposition of The Bank Holdings and Subsidiary as of December 31, 2004 andthe results of their operations and their cash flows for each of the two yearsin the period ended December 31, 2004, in conformity with U.S. generallyaccepted accounting principles.

 

 

McGLADREY &PULLEN, LLP

 

 

Las Vegas, Nevada

March 16, 2005 (and March 29, 2006 as to theeffects of the stock dividend in 2005)

 

McGladrey & Pullen, LLP is an independentmember firm of RSM International, an affiliation of independent accounting andconsulting firms.

 

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# **REPORT OF INDEPENDENT REGISTEREDPUBLIC ACCOUNTING FIRM**

#  

To the Stockholders andDirectors

The Bank Holdings

 

We have audited theaccompanying consolidated balance sheet of The Bank Holdings and subsidiary(the “Company”) as of December 31, 2005 and the related consolidatedstatements of operations, stockholders’ equity and cash flows for the year thenended. These financial statements are the responsibility of the Company’smanagement. Our responsibility is to express an opinion on these financialstatements based on our audit.

 

We conducted our audit inaccordance with the standards of the Public Company Accounting Oversight Board(United States). Those standards require that we plan and perform the audit toobtain reasonable assurance about whether the financial statements are free ofmaterial misstatement. The Company is not required to have, nor were we engagedto perform, an audit of its internal control over financial reporting. Ouraudit included consideration of internal control over financial reporting as abasis for designing audit procedures that are appropriate in the circumstances,but not for the purpose of expressing an opinion on the effectiveness of theCompany’s internal control over financial reporting. Accordingly, we express nosuch opinion. An audit includes examining, on a test basis, evidence supportingthe amounts and disclosures in the financial statements. An audit also includesassessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall financial statement presentation.We believe that our audit provides a reasonable basis for our opinion.

 

In our opinion, thefinancial statements referred to above present fairly, in all materialrespects, the financial position of The Bank Holdings and subsidiary as ofDecember 31, 2005 and the results of their operations and their cash flowsfor the year ended December 31, 2005 in conformity with accountingprinciples generally accepted in the United States of America.

 
| /s/ Moss Adams LLP   |   |
|----------------------|--------|
|                 |
| Stockton, California |
| March 30, 2006       |

 

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THE BANK HOLDINGSAND SUBSIDIARY

ConsolidatedBalance Sheets

(Dollars inthousands, except per share data)

 
| ** **                                                                                                                                        | ** ** | **December 31,** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------|------------|
| ** **                                                                                                                                        | ** ** | **2005**         | ** ** | **2004** | ** ** |
| **ASSETS**                                                                                                                                        |       |             |       |   |   |
| Cash and due from banks                                                                                                                           |       | $                | 5,980      |   | $ | 4,737 |   |
| Liquid money market funds                                                                                                                         |       | 8,500            |       | 625 |   |
| Federal funds sold                                                                                                                                |       | 27,791           |       | — |   |
| Cash and cash equivalents                                                                                                                         |       | 42,271           |       | 5,362 |   |
| Securities, available for sale                                                                                                                    |       | 19,512           |       | 15,540 |   |
| Securities, held to maturity (fair value of 2005: $63,048; 2004: $53,227)                                                                         |       | 64,309           |       | 53,588 |   |
| Securities, trading                                                                                                                               |       | 1,283            |       | 1,088 |   |
| Other equity securities, at cost                                                                                                                  |       | 2,067            |       | 1,734 |   |
|                                                                                                                                              |       |             |       |   |   |
| Loans, gross                                                                                                                                      |       | 245,185          |       | 160,708 |   |
| Allowance for loan losses                                                                                                                         |       | (2,655           | )          | (1,586 | ) |
| Deferred loan fees, net                                                                                                                           |       | (356             | )          | (597 | ) |
| Loans, net                                                                                                                                        |       | 242,174          |       | 158,525 |   |
|                                                                                                                                              |       |             |       |   |   |
| Premises and equipment, net                                                                                                                       |       | 2,863            |       | 3,023 |   |
| Bank owned life insurance                                                                                                                         |       | 6,312            |       | 6,000 |   |
| Intangible asset                                                                                                                                  |       | 500              |       | 500 |   |
| Other assets                                                                                                                                      |       | 3,341            |       | 1,482 |   |
| **TOTAL ASSETS**                                                                                                                                  |       | $                | 384,632    |   | $ | 246,842 |   |
|                                                                                                                                              |       |             |       |   |   |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                                                     |       |             |       |   |   |
| Deposits:                                                                                                                                         |       |             |       |   |   |
| Noninterest bearing demand                                                                                                                        |       | $                | 49,411     |   | $ | 33,359 |   |
| Interest bearing demand                                                                                                                           |       | 7,825            |       | 6,133 |   |
| Savings                                                                                                                                           |       | 2,382            |       | 2,682 |   |
| Money Market                                                                                                                                      |       | 183,917          |       | 113,163 |   |
| IRA’s                                                                                                                                        |       | 1,164            |       | 878 |   |
| Time deposits < $100,000                                                                                                                       |       | 53,730           |       | 6,604 |   |
| Time deposits > $100,000                                                                                                                       |       | 39,769           |       | 25,522 |   |
| Total deposits                                                                                                                                    |       | 338,198          |       | 188,341 |   |
| Short term borrowed funds                                                                                                                         |       | —           |       | 30,500 |   |
| Junior subordinated  debt                                                                                                                         |       | 15,464           |       | — |   |
| Accrued expenses and other liabilities                                                                                                            |       | 2,268            |       | 625 |   |
| Total Liabilities                                                                                                                                 |       | 355,930          |       | 219,466 |   |
|                                                                                                                                              |       |             |       |   |   |
| Commitments and contingencies (Notes 5 and 9)                                                                                                     |       |             |       |   |   |
|                                                                                                                                              |       |             |       |   |   |
| Stockholders’ equity:                                                                                                                        |       |             |       |   |   |
| Preferred stock, $.01 par value, 20,000,000 shares authorized; no  shares issued or outstanding                                                   |       | —           |       | — |   |
| Common stock, $.01 par value, 10,000,000 authorized; 3,124,266 issued  and outstanding as of December 31, 2005 and 2,972,330 at December 31, 2004 |       | 30               |       | 30 |   |
| Additional paid-in capital                                                                                                                        |       | 30,431           |       | 30,326 |   |
| Accumulated deficit                                                                                                                               |       | (1,205           | )          | (2,617 | ) |
| Accumulated other comprehensive (loss)                                                                                                            |       | (554             | )          | (363 | ) |
| Total stockholders’ equity                                                                                                                   |       | 28,702           |       | 27,376 |   |
| **TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                                               |       | $                | 384,632    |   | $ | 246,842 |   |

 

The accompanying notesare an integral part of these consolidated financial statements.

 

53

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THE BANK HOLDINGS ANDSUBSIDIARY

Consolidated Statementsof Operations and Comprehensive Income (Loss)

(Dollars in thousands,except per share data)

 
| ** **                                            | ** ** | **Years Ended December 31,** | ** ** |
|-------------------------------------------------------|------------|------------------------------|------------|
| ** **                                            | ** ** | **2005**                     | ** ** | **2004** | ** ** | **2003** | ** ** |
| **Interest  and dividend income:**                    |       |                         |       |   |   |   |   |
| Federal funds sold  and other                         |       | $                            | 248        |   | $ | 96 |   | $ | 68 |   |
| Debt securities,  taxable                             |       | 2,362                        |       | 2,885 |   | 1,944 |   |
| Dividends                                             |       | 83                           |       | 34 |   | 5 |   |
| Loans, including  fees                                |       | 14,473                       |       | 7,521 |   | 3,233 |   |
| **Total  interest and dividend income**               |       | 17,166                       |       | 10,536 |   | 5,250 |   |
|                                                  |       |                         |       |   |   |   |   |
| **Interest  expense:**                                |       |                         |       |   |   |   |   |
| Deposits                                              |       | 6,677                        |       | 3,443 |   | 1,842 |   |
| Other borrowed  funds                                 |       | 667                          |       | 226 |   | 51 |   |
| **Total  interest expense**                           |       | 7,344                        |       | 3,669 |   | 1,893 |   |
|                                                  |       |                         |       |   |   |   |   |
| **Net  interest income**                              |       | 9,822                        |       | 6,867 |   | 3,357 |   |
|                                                  |       |                         |       |   |   |   |   |
| Provision for  loan losses                            |       | 1,069                        |       | 764 |   | 602 |   |
| Net interest  income, after provision for loan losses |       | 8,753                        |       | 6,103 |   | 2,755 |   |
|                                                  |       |                         |       |   |   |   |   |
| **Noninterest  income:**                              |       |                         |       |   |   |   |   |
| Service charges  on deposit accounts                  |       | 206                          |       | 136 |   | 75 |   |
| Other service  charges, commissions and fees          |       | 165                          |       | 139 |   | 97 |   |
| Pre-underwriting  fees                                |       | 25                           |       | 154 |   | 224 |   |
| Income on bank  owned life insurance                  |       | 313                          |       | — |   | — |   |
| Unrealized  gains/(losses) on trading securities, net |       | 47                           |       | 110 |   | — |   |
| Realized  gains/(losses) on sale of fixed assets, net |       | 4                            |       | — |   | — |   |
| Realized  gains/(losses) on sale of investments, net  |       | 12                           |       | (119 | ) | 497 |   |
| **Total  noninterest income**                         |       | 772                          |       | 420 |   | 893 |   |
|                                                  |       |                         |       |   |   |   |   |
| **Noninterest  expense:**                             |       |                         |       |   |   |   |   |
| Salaries and  employee benefits                       |       | 4,222                        |       | 2,743 |   | 2,024 |   |
| Occupancy and  equipment                              |       | 1,532                        |       | 1,330 |   | 896 |   |
| Data processing                                       |       | 733                          |       | 369 |   | 200 |   |
| Deposit  servicing costs                              |       | 259                          |       | 213 |   | 152 |   |
| Accounting, and  legal                                |       | 515                          |       | 519 |   | 163 |   |
| Other  professional services                          |       | 468                          |       | 257 |   | 139 |   |
| Telephone and  data communications                    |       | 170                          |       | 138 |   | 114 |   |
| Other                                                 |       | 924                          |       | 673 |   | 525 |   |
| **Total  noninterest expense**                        |       | 8,823                        |       | 6,242 |   | 4,213 |   |
|                                                  |       |                         |       |   |   |   |   |
| **Net  income/(loss) before income tax benefit**      |       | 702                          |       | 281 |   | (565 | ) |
|                                                  |       |                         |       |   |   |   |   |
| Income tax benefit                                    |       | (710                         | )          | — |   | — |   |
|                                                  |       |                         |       |   |   |   |   |
| **NET  INCOME/(LOSS)**                                |       | $                            | 1,412      |   | $ | 281 |   | $ | (565 | ) |
|                                                  |       |                         |       |   |   |   |   |
| Net  earnings/(loss) per share:                       |       |                         |       |   |   |   |   |
| Basic                                                 |       | 0.47                         |       | 0.10 |   | (0.38 | ) |
| Diluted                                               |       | 0.43                         |       | 0.10 |   | (0.38 | ) |

 

The accompanying notesare an integral part of these consolidated financial statements.

 

54

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THE BANK HOLDINGS ANDSUBSIDIARY

Consolidated Statementsof Stockholders’ Equity

For the Years EndedDecember 31, 2004, 2003 and 2002

 
| ** **                                                                                | ** ** | ** **                                 | ** ** | ** **     | ** ** | ** ** | ** ** | ** **     | ** ** | ** **      | ** ** | **Accumulated**   | ** ** | ** ** | ** ** |
|-------------------------------------------------------------------------------------------|------------|--------------------------------------------|------------|----------------|------------|------------|------------|----------------|------------|-----------------|------------|-------------------|------------|------------|------------|
| ** **                                                                                | ** ** | ** **                                 | ** ** | **Shares  of** | ** ** | ** ** | ** ** | **Additional** | ** ** | ** **      | ** ** | **Other**         | ** ** | ** ** | ** ** |
| ** **                                                                                | ** ** | **Comprehensive**                          | ** ** | **Common**     | ** ** | **Common** | ** ** | **Paid-in**    | ** ** | **Accumulated** | ** ** | **Comprehensive** | ** ** | ** ** | ** ** |
| ** **                                                                                | ** ** | **Income/Loss**                            | ** ** | **Stock**      | ** ** | **Stock**  | ** ** | **Capital**    | ** ** | **Deficit**     | ** ** | **Income/Loss**   | ** ** | **Total**  | ** ** |
| ** **                                                                                | ** ** | **(in  thousands, except per share data)** | ** ** |
| ** **                                                                                | ** ** | ** **                                 | ** ** | ** **     | ** ** | ** ** | ** ** | ** **     | ** ** | ** **      | ** ** | ** **        | ** ** | ** ** | ** ** |
| **Balance  at December 31, 2002**                                                         |       |                                       |       | 1,405,930      |       | 14         |       | 13,998         |       | (2,333          | )          | 316               |       | 11,995     |       |
|                                                                                      |       |                                       |       |           |       |       |       |           |       |            |       |              |       |       |       |
| Net Loss                                                                                  |       | $                                          | (565       | )              | —     |       | —     |           | —     |            | (565       | )                 | —     |       | (565       | ) |
| Other  comprehensive loss:                                                                |       |                                       |       |           |       |       |       |           |       |            |       |              |       |       |       |
| Unrealized  holding loss on securities available for sale arising during the year         |       | (80                                        | )          |           |       |       |       |           |       |            |       |              |       |       |       |
| Less  reclassification adjustment for gains included in net loss                          |       | (497                                       | )          |           |       |       |       |           |       |            |       |              |       |       |       |
| Net unrealized  holding losses                                                            |       | (577                                       | )          | —         |       | —     |       | —         |       | —          |       | (577              | )          | (577       | )          |
| Comprehensive  loss                                                                       |       | $                                          | (1,142     | )              |       |       |       |           |       |            |       |              |       |       |       |   |
|                                                                                      |       |                                       |       |           |       |       |       |           |       |            |       |              |       |       |       |
| **Balance  at December 31, 2003**                                                         |       |                                       |       | 1,405,930      |       | 14         |       | 13,998         |       | (2,898          | )          | (261              | )          | 10,853     |       |
| Proceeds from  issuance of common stock, net of offering costs of approximately, $300,000 |       |                                       |       | 1,552,500      |       | 16         |       | 16,106         |       | —          |       | —            |       | 16,122     |       |
| Stock options  exercised                                                                  |       |                                       |       | 13,900         |       | —     |       | 139            |       | —          |       | —            |       | 139        |       |
|                                                                                      |       |                                       |       |           |       |       |       |           |       |            |       |              |       |       |       |
| Net income                                                                                |       | $                                          | 281        |           | —     |       | —     |           | —     |            | 281        |              | —     |       | 281        |   |
|                                                                                      |       |                                       |       |           |       |       |       |           |       |            |       |              |       |       |       |
| Compensation  expense related to stock options                                            |       |                                       |       | —         |       | —     |       | 83             |       | —          |       | —            |       | 83         |       |
|                                                                                      |       |                                       |       |           |       |       |       |           |       |            |       |              |       |       |       |
| Other  comprehensive loss:                                                                |       |                                       |       |           |       |       |       |           |       |            |       |              |       |       |       |
| Unrealized  holding loss on securities available for sale arising during the year         |       | (221                                       | )          |           |       |       |       |           |       |            |       |              |       |       |       |
| Less  reclassification adjustment for losses included in net Income                       |       | 119                                        |       |           |       |       |       |           |       |            |       |              |       |       |       |
| Net unrealized  holding losses                                                            |       | (102                                       | )          | —         |       | —     |       | —         |       | —          |       | (102              | )          | (102       | )          |
| Comprehensive  income                                                                     |       | $                                          | 179        |           |       |       |       |           |       |            |       |              |       |       |       |   |
|                                                                                      |       |                                       |       |           |       |       |       |           |       |            |       |              |       |       |       |
| **Balance  at December 31, 2004**                                                         |       |                                       |       | 2,972,330      |       | $          | 30         |           | $          | 30,326          |       | $                 | (2,617     | )          | $          | (363 | ) | $ | 27,376 |   |
|                                                                                      |       |                                       |       |           |       |       |       |           |       |            |       |              |       |       |       |
| Stock options  exercised                                                                  |       |                                       |       | 2,000          |       | —     |       | 20             |       | —          |       | —            |       | 20         |       |
| Stock dividend                                                                            |       |                                       |       | 149,936        |       |       |       |           |       |            |       |              |       |       |       |
|                                                                                      |       |                                       |       |           |       |       |       |           |       |            |       |              |       |       |       |
| Net income                                                                                |       | $                                          | 1,412      |           | —     |       | —     |           | —     |            | 1,412      |              | —     |       | 1,412      |   |
|                                                                                      |       |                                       |       |           |       |       |       |           |       |            |       |              |       |       |       |
| Compensation  expense related to stock options                                            |       |                                       |       | —         |       | —     |       | 85             |       | —          |       | —            |       | 85         |       |
|                                                                                      |       |                                       |       |           |       |       |       |           |       |            |       |              |       |       |       |
| Other  comprehensive loss:                                                                |       |                                       |       |           |       |       |       |           |       |            |       |              |       |       |       |
| Unrealized  holding loss on securities available for sale arising during the year         |       | (179                                       | )          |           |       |       |       |           |       |            |       |              |       |       |       |
| Less  reclassification adjustment for gains included in net Income                        |       | -12                                        |       |           |       |       |       |           |       |            |       |              |       |       |       |
| Net unrealized  holding losses                                                            |       | (191                                       | )          | —         |       | —     |       | —         |       | —          |       | (191              | )          | (191       | )          |
| Comprehensive  income                                                                     |       | $                                          | 1,221      |           |       |       |       |           |       |            |       |              |       |       |       |   |
|                                                                                      |       |                                       |       |           |       |       |       |           |       |            |       |              |       |       |       |
| **Balance  at December 31, 2005**                                                         |       |                                       |       | 3,124,266      |       | $          | 30         |           | $          | 30,431          |       | $                 | (1,205     | )          | $          | (554 | ) | $ | 28,702 |   |

 

The accompanying notes are an integral part of these consolidatedfinancial statements.

 

55

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THE BANK HOLDINGS ANDSUBSIDIARY

Consolidated Statementsof Cash Flows

(Dollars in thousands)

 
| ** **                                                                                       | ** ** | **Periods Ended December 31,** | ** ** |
|--------------------------------------------------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                                                                       | ** ** | **2005**                       | ** ** | **2004** | ** ** | **2003** | ** ** |
| **Cash  flows from operating activities:**                                                       |       |                           |       |   |   |   |   |
| Net  income/(loss)                                                                               |       | $                              | 1,412      |   | $ | 281 |   | $ | (565 | ) |
| Adjustments to  reconcile net income/(loss) to cash provided by (used in) operating  activities: |       |                           |       |   |   |   |   |
| Provision for  loan losses                                                                       |       | 1,069                          |       | 764 |   | 602 |   |
| Stock option  compensation expense                                                               |       | 85                             |       | 83 |   | — |   |
| Net amortization  of securities                                                                  |       | 387                            |       | 654 |   | 928 |   |
| Depreciation                                                                                     |       | 520                            |       | 445 |   | 353 |   |
| Unrealized gain  on trading securities                                                           |       | (47                            | )          | (110 | ) | — |   |
| Activity of  trading securities, net                                                             |       | (186                           | )          | (978 | ) | — |   |
| Realized  gain/loss on sales of available for sale securities, net                               |       | (12                            | )          | 119 |   | (497 | ) |
| Net change in:                                                                                   |       |                           |       |   |   |   |   |
| Other assets and  liabilities, net                                                               |       | (361                           | )          | 24 |   | (446 | ) |
| **Net  cash provided by (used in) operating activities**                                         |       | 2,867                          |       | 1,282 |   | 375 |   |
|                                                                                             |       |                           |       |   |   |   |   |
| **Cash  flows from investing activities:**                                                       |       |                           |       |   |   |   |   |
| Activity in  available for sale securities:                                                      |       |                           |       |   |   |   |   |
| Proceeds from  sales, maturities, prepayments and calls                                          |       | 394                            |       | 64,667 |   | 20,978 |   |
| Purchases                                                                                        |       | (4,377                         | )          | (43,716 | ) | (44,730 | ) |
| Activity of  securities held to maturity:                                                        |       |                           |       |   |   |   |   |
| Proceeds from  maturities, prepayments and calls                                                 |       | 12,595                         |       | 21,711 |   | 31,034 |   |
| Purchases                                                                                        |       | (23,686                        | )          | (37,902 | ) | (35,061 | ) |
| Activity in  equity securities, net                                                              |       | 130                            |       | (1,307 | ) | (376 | ) |
| Loan  originations and principal collections, net                                                |       | (84,718                        | )          | (77,664 | ) | (57,615 | ) |
| Increase in bank  owned life insurance                                                           |       | (313                           | )          | (6,000 | ) | — |   |
| Purchase of  intangible asset                                                                    |       | —                         |       | (500 | ) | — |   |
| Investment in  Trust subsidiary                                                                  |       | (464                           | )          | — |   | — |   |
| Purchases of  premises and equipment, net                                                        |       | (360                           | )          | (1,399 | ) | (248 | ) |
| **Net  cash used in investing activities**                                                       |       | (100,799                       | )          | (82,110 | ) | (86,018 | ) |
|                                                                                             |       |                           |       |   |   |   |   |
| **Cash  flows from financing activities:**                                                       |       |                           |       |   |   |   |   |
| Net increase in  deposits                                                                        |       | 149,857                        |       | 39,594 |   | 81,477 |   |
| Proceeds from  other borrowed funds, net                                                         |       | (30,500                        | )          | 24,375 |   | 6,125 |   |
| Proceeds from subordinated  debentures                                                           |       | 15,464                         |       | — |   | — |   |
| Payments on  capital lease obligation                                                            |       | —                         |       | — |   | (15 | ) |
| Stock issuance costs  capitalized pending stock issuance                                         |       |                           |       |   |   | (118 | ) |
| Proceeds from  exercise of stock options                                                         |       | 20                             |       | 139 |   | — |   |
| Net proceeds  from issuance of common stock                                                      |       | —                         |       | 16,122 |   | — |   |
| **Net  cash provided by financing activities**                                                   |       | 134,841                        |       | 80,230 |   | 87,469 |   |
|                                                                                             |       |                           |       |   |   |   |   |
| **Net  change in cash and cash equivalents**                                                     |       | 37,109                         |       | (598 | ) | 1,826 |   |
|                                                                                             |       |                           |       |   |   |   |   |
| **Cash  and cash equivalents at beginning of the period**                                        |       | 5,362                          |       | 5,960 |   | 4,134 |   |
| **Cash  and cash equivalents at end of the period**                                              |       | $                              | 42,271     |   | $ | 5,362 |   | $ | 5,960 |   |
|                                                                                             |       |                           |       |   |   |   |   |
| Supplementary  cash flow information:                                                            |       |                           |       |   |   |   |   |
| Interest paid on  deposits and borrowed funds                                                    |       | $                              | 7,344      |   | $ | 3,659 |   | $ | 1,898 |   |

 

The accompanying notes are an integral part of theseconsolidated financial statements.

 

56

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**THEBANK HOLDINGS**

**Notesto Consolidated Financial Statements**

**December31, 2005**

 

**NOTE 1 – BASIS OF PRESENTATION**

 

***Principles of Consolidation and Basis of Presentation***

On July 9, 2003, the stockholders of Nevada Security Bank approved theexchange of their common stock in Nevada Security Bank for common stock in thenewly formed holding company, The Bank Holdings. This transaction wasconsummated on August 29, 2003 and was accounted for at historical cost. Theconsolidated financial statements include the accounts of The Bank Holdings andits wholly-owned subsidiary, Nevada Security Bank. Nevada Security Bank wasorganized on February 26, 2001 and opened for business on December 27, 2001.All significant inter-company balances and transactions have been eliminated inconsolidation.

 

In accordance with provisions of Financial Accounting Statements Board(“FASB”) interpretation No. 46 *Consolidation of VariableInterest Entities,*the Company’s investment in The Bank HoldingsStatutory Trust I is not consolidated and is accounted for under the equitymethod and included in other assets on the consolidated balance sheet. Thesubordinated debentures issued and guaranteed by the Company and held by theTrust are reflected on the Company’s consolidated balance sheet.

 

***Nature of Banking Activities***

The Bank Holdings is a bank holding company, which provides a fullrange of banking services to commercial and consumer customers through its principalsubsidiary, Nevada Security Bank (the Bank). The Bank has four branches. There are two offices in Reno, the RenoMain and a branch in Reno’s growing northwest region. The Bank also has a branchlocated in Incline Village, Nevada, at Lake Tahoe. On March 18, 2005 the bank opened a branch in Roseville, California,which does business as Silverado Bank.

 

The Company’s only other direct subsidiary isThe Bank Holdings Statutory Trust I, which was formed in November 2005 tofacilitate the issuance of Capital trust pass-through securities. Pursuant toFASB Interpretation No. 46, as noted above, it is not reflected on aconsolidated basis in the financial statements of the Company.

 

These entities are collectively referred to herein as the Company. Atthe present time, the Company has no operating subsidiaries other than NevadaSecurity Bank. Segment information is not presented since principally all ofthe Company’s revenues are attributable to one reportable segment. Theaccounting and reporting policies of the Company conform to accountingprinciples generally accepted in the United States of America and generalpractices within the banking industry.

 

***Use of Estimates***

In preparing consolidated financial statements in conformity withgenerally accepted accounting principles in the United States of America andgeneral practices within the banking industry, management is required to makeestimates and assumptions that affect the reported amount of assets andliabilities as of the date of the balance sheet and reported amounts ofrevenues and expenses during the reporting period. Actual results could differfrom those estimates. Material estimates that are particularly susceptible tosignificant change in the near term relate to the determination of theallowance for loan losses, material estimates that are susceptible tosubstantial change over the longer term related to the determination of loanorigination costs, equity-based compensation, goodwill and income taxes.

 

***Cash and Cash Equivalents***

For purposes of the consolidated statements of cash flows, cash andcash equivalents include cash on hand, demand amounts due from banks (includingcash items in the process of clearing), liquid money market funds and federalfunds sold. Cash flows from loans, deposits, and proceeds from issuance ofcommon stock are reported net.

 

57

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The Company maintains amounts on account with other institutions which,at times, may exceed federally insured limits. A significant concentrationexists with relation to deposits held at Pacific Coast Bankers Bank, NSB’s primarycorrespondent bank. The Company has not experienced any losses on suchaccounts.

 

***Securities***

Debt securities that management has the positive intent and ability tohold to maturity are classified as “held to maturity” and recorded at amortizedcost. Securities not classified as held to maturity including equity securitieswith readily determinable fair values, are classified as “available for sale”and are recorded at fair value, with unrealized gains and losses excluded fromearnings and reported in other comprehensive income. Gains and losses on thesale of securities are recorded on the trade date and are determined using thespecific identification method.

 

Management determines the appropriate classification of its investmentsat the time of purchase and may only change the classification under certainlimited circumstances. Any transfers between categories would be accounted forat fair value. There were none during all periods under review.

 

Purchase premiums and discounts are recognized in interest income usingthe interest method over the estimated life of the securities. Declines in thefair value of held-to-maturity and available-for-sale securities below theircost that are deemed to be other than temporary are reflected in earnings asrealized losses. In estimating other-than-temporary impairment losses,management considers (1) the length of time and the extent to which the fairvalue has been less than cost, (2) the financial condition and near-termprospects of the issuer, and (3) the intent and ability of the Company toretain its investment in the issuer for a period of time sufficient to allowfor any anticipated recovery in fair value.

 

***Trading Account & Derivative Financial Instruments***

The Company’s “trading account” consists of specific equity investmentsthat are carried at market value and separately reported in NOTE 3, “Securities”.Unrealized gains and losses are included in earnings as non-interest income.

 

The Company has a policy that provides for the use of derivativefinancial instruments held or issued for “trading account” purposes. Theseinstruments are utilized for risk management purposes, and are measured atmarket value with gains or losses represented in earnings. Equity investmentscomprise the major portion of “trading account” assets. “Derivative financialinstruments” are exchange traded covered call options written on some, but notall, of such equity investments. These options are carried at market value andare recorded in other liabilities.

 

***Loans***

The Company grants real estate, commercial and consumer loans tocustomers. A substantial portion of the loan portfolio is represented by realestate loans throughout northern Nevada and northern California. The ability ofthe Company’s borrowers to honor their contracts is dependent upon the realestate and general economic conditions in these areas.

 

Loans are reported at their outstanding unpaid principal balancesreduced by the allowance for loan losses, and any deferred fees or costs onoriginated loans. Interest income is accrued on the unpaid principal balance.

 

Loan origination fees, net of certain deferred origination costs andpurchase premiums and discounts are recognized as an adjustment to yield of therelated loans over the contractual life of the loan using both the effectiveinterest and straight line method, based on the loan type.

 

***Allowance for Loan Losses***

The allowance for loan losses is established through a provision forloan losses charged to expense. Loan losses are charged against the allowancewhen management believes the collection of a loan balance is unlikely. Subsequentrecoveries, if any, are credited to the allowance.

 

The allowance for loan losses is evaluated on a regular basis bymanagement and is based upon management’s

 

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periodic review of the collectibility of the loans in light ofhistorical peer bank experience, the nature and volume of the loan portfolio,adverse situations that may affect the borrower’s ability to repay, estimated valueof any underlying collateral and prevailing economic conditions. Thisevaluation is inherently subjective as it requires estimates that may besusceptible to significant revision as more information becomes available.

 

The allowance consists of specific and general components. The specificcomponent relates to loans that are classified as doubtful, substandard orspecial mention. For such loans that are also classified as impaired, anallowance is established when the discounted cash flows (or collateral value orobservable market price) of the impaired loan is lower than the carrying valueof that loan. The general component covers non-classified loans and is based onhistorical peer bank loss experience adjusted for qualitative factors.

 

A loan is considered impaired when, based on current information andevents, it is probable that the Company will be unable to collect the scheduledpayments of principal or interest when due according to the contractual termsof the loan agreement. Factors considered by management in determiningimpairment include payment status, collateral value, and the probability ofcollecting scheduled principal and interest payments when due. Loans thatexperience insignificant payment delays and payment shortfalls generally are notclassified as impaired.

 

Management determines the significance of payment delays and paymentshortfalls on a case-by-case basis, taking into consideration all of thecircumstances surrounding the loan and the borrower, including the length ofthe delay, the reasons for the delay, the borrower’s prior payment record, andthe amount of the shortfall in relation to the principal and interest owed. Impairmentis measured on a loan by loan basis for commercial and construction loans byeither the present value of expected future cash flows discounted at the loan’seffective interest rate, the loan’s obtainable market price, or the fair valueof the collateral if the loan is collateral dependent.

 

Large groups of smaller balance homogeneous loans are collectivelyevaluated for impairment. Accordingly, the Company does not separately identifyindividual consumer and residential loans for impairment disclosures, unlesssuch loans are the subject of a restructuring agreement.

 

# ***Interest and fees on loans***

# Interest on loans is recognized over theterms of the loans and is calculated under the effective interest method. Theaccrual of interest on impaired loans is discontinued when, in management’sopinion, the borrower may be unable to make payments as they become due.

#  

The Company determines a loan to be delinquent when payments have notbeen made according to contractual terms, typically evidenced by nonpayment ofa monthly installment by the due date. The accrual of interest on loans isdiscontinued at the time the loan is 90 days delinquent unless the credit iswell secured and in the process of collection. Personal loans are typicallycharged off no later than 180 days delinquent.

 

All interest accrued but not collected for loans that are placed onnon-accrual is reversed against interest income. The interest on these loans isaccounted for on the cash-basis or cost-recovery method, until qualifying forreturn to accrual. Loans are returned to accrual status when all the principaland interest amounts contractually due are brought current and future paymentsare reasonably assured.

 

Loan origination and commitment fees and certain direct loanorigination costs are deferred and the net amount amortized as an adjustment tothe related loan’s yield. The Bank is generally amortizing these amounts overthe contractual life of the loan. Commitment fees, based upon a percentage of acustomer’s unused line of credit, and fees related to standby letters of creditare recognized over the commitment period.

 

# ***Transfers of Financial Assets***

Transfers of financial assets are accounted for as sales, when controlover the assets has been surrendered. Control over transferred assets is deemedto be surrendered when (1) the assets have been isolated from the Company, (2)the transferee obtains the right (free of conditions that constrain it fromtaking advantage of that

 

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right) to pledge or exchange the transferred assets, and (3) theCompany does not maintain effective control over the transferred assets throughan agreement that both entities and obligates the Company to repurchase thembefore their maturity.

 

***Premises and Equipment***

Premises and equipment are carried at cost, less accumulateddepreciation computed on the straight-line method over the following estimatedlives of the assets.

 
| Furniture and Equipment |   | 3 – 20 years |   |
|-------------------------|--------|-------------------|--------|
| Automobiles             |   | 3 years           |   |

 

Amortization of leasehold improvements is computed principally by thestraight line method over the term of the lease or the estimated useful life ofthe assets, whichever is shorter. Amortization expense on assets acquired undercapital leases, which are being amortized over the lease terms, is includedwith depreciation expense on owned assets.

 

# ***Other Equity Securities***

The Company, as a member of the Federal Home Loan Bank (FHLB) system,is required to maintain an investment in capital stock of the FHLB in an amountequal to the greater of 1% of its outstanding home loans or 5% of advances fromthe FHLB. The recorded amount of the FHLB stock equals its fair value becausethe shares can only be redeemed by the FHLB at the $100 per share par value. TheCompany also has an investment in Pacific Coast Bankers Bancorp (PCBB) itscorrespondent bank, to facilitate transactions between the two companies.

 

***Pre-underwriting fees***

The Company has agreements with third parties under which the Companyperforms certain pre-underwriting activities on SBA loans which are funded bythe third party. These activities are conducted in the Silverado Bank branch. TheCompany would be required to refund any fee paid, in the event of delinquency,default, or early payoff during the first six months of the loan term. Managementrecords a liability equal to 100% of the fee at the date the fee is received,less any commissions, fees or incentives paid to individuals involved in thetransaction. This liability is reduced ratably over the six month contingencyperiod.

 

***Income Taxes***

The Company files its income taxes on a consolidated basis with itsprimary subsidiary. The allocation of income tax expense represents each entity’sproportionate share of the consolidated provision for taxes. Deferred incometax assets and liabilities are determined using the liability (or balancesheet) method. Under this method, the net deferred tax asset or liability isdetermined based on the tax effects of the temporary differences between thebook and tax bases of the various balance sheet assets and liabilities andgives current recognition to changes in tax rates and laws. Therefore, deferredtaxes are recognized for the tax consequences of temporary differences byapplying enacted statutory tax rates applicable to future years to differencesbetween tax financial statement carrying amounts and the basis of existingassets and liabilities. The effect on deferred taxes of a change in tax rateswould be recognized in income in the period that includes the enactment date. During2004 deferred tax assets were reduced by a valuation allowance. That valuationallowance was removed for 2005.

 

***Salary Continuation Plan***

The Company has initiated action to provide certain key executives, ortheir designated beneficiaries, with annual benefits after retirement, untildeath. These benefits would be substantially equivalent to those availableunder split-dollar life insurance policies purchased by the Company on thelives of such key executives. The Company has completed the final plan andagreements, and has accrued for these future benefits from the date of the plan.At the consolidated balance sheet date, the amount of accrued benefits equalsthe then present value of the benefits expected to be provided to the keyexecutives or their beneficiaries, in exchange for the executives’ services tothat date.

 

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***Stock Compensation Plan***

At December 31, 2005, the Company had a stock-based employeecompensation plan, which is more fully described in NOTE 12. The Companyaccounts for the plan using the recognition and measurement principles of APBOpinion No. 25, *Accounting for Stock Issued to Employees*,and related interpretations. Accordingly, prior to the third quarter of 2004,no stock-based employee compensation cost had been reflected in the statementof operations, as all options granted under the plan had an exercise priceequal to the fair market value of the underlying common stock on the grant date.During 2004, the Company granted options to certain individuals under theAmended 2002 Stock Option Plan (the “Plan”) which was approved at the 2004Annual Meeting of Shareholders. Such Plan provides for stock option grants atfair market value determined by a number of methods. Due to the lack of anactive trading market in the Company’s common stock, its limited number ofshares exchanged daily, as well as substantial price volatility, it wasdetermined that using a thirty (30) day average market closing price would bethe most representative of the common stock’s fair market value. Accordingly,the Company has recognized the difference between the market price on the dayof the grant and the average lower closing market price for the thirty (30)days preceding the grant date as compensation which has been reflected in thestatement of operations. For certain of the options granted during 2004, thethirty day average closing market price was greater than the market price onthat day.

 

Pro forma adjustments to the Company’s consolidated net earnings andearnings per share are disclosed during the years in which the options becomevested. The following table illustrates the effect on net income (loss) andearnings (loss) per common share if the Company had applied the fair valuerecognition provisions of FASB Statement No. 123, *Accountingfor Stock-Based Compensation*, to such outstanding and unvestedawards granted during 2005.

 

On December 28, 2005, the Directors of The Bank Holdings approved theacceleration of non-qualified stock options granted under The Bank HoldingsStock Option Plan of 2002 as amended. Non-qualified options previously grantedunder this Plan were to be vested over a five year term, however, the recentFASB Statement 123(R) *“Share Based Payment”*would unduly penalize the reported earnings of the two year old Company, andeach relevant stock option agreement was amended.

 
| ** **                                                                                                        | ** ** | **Years Ended December 31,** | ** ** |
|-------------------------------------------------------------------------------------------------------------------|------------|------------------------------|------------|
| ** **                                                                                                        | ** ** | **2005**                     | ** ** | **2004** | ** ** | **2003** | ** ** |
| ** **                                                                                                        | ** ** | **(Dollars in thousands)**   | ** ** |
| Net  Income/(Loss):                                                                                               |       |                         |       |   |   |   |   |
| As reported                                                                                                       |       | $                            | 1,412      |   | $ | 281 |   | $ | (565 | ) |
| Add: Stock-based  employee compensation expense included in reported net income                                   |       | 85                           |       | 83 |   | — |   |
| Deduct: Total  Stock-based employee compensation expense determined under fair value based  method for all awards |       | 1,518                        |       | 723 |   | 140 |   |
|                                                                                                              |       |                         |       |   |   |   |   |
| Pro-forma net  (loss)                                                                                             |       | $                            | (21        | ) | $ | (359 | ) | $ | (705 | ) |
|                                                                                                              |       |                         |       |   |   |   |   |
| Basic and  diluted (loss) per share                                                                               |       |                         |       |   |   |   |   |
| As reported  basic                                                                                                |       | $                            | .47        |   | $ | 0.10 |   | $ | (0.38 | ) |
| As reported  diluted                                                                                              |       | $                            | .43        |   | $ | 0.10 |   | $ | (0.38 | ) |
| Pro forma basic                                                                                                   |       | $                            | (.01       | ) | $ | (0.13 | ) | $ | (0.48 | ) |
| Pro forma  diluted                                                                                                |       | $                            | (.01       | ) | $ | (0.13 | ) | $ | (0.48 | ) |

 

The fair value of each option grant for pro-forma disclosure purposesis estimated on the date of grant using the following assumptions pursuant tothe Black Scholes method in 2005 and 2004 and the minimum value approach in2002 as described in FASB statement No. 123:

 

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| ** **                                | ** ** | **2005** | ** ** | **2004** | ** ** | **2003** | ** ** |
|-------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
| Assumptions for  determining fair values: |       |     |       |     |       |     |       |
| Dividend yield                            |       | 0.0      | %          | 0.0      | %          | 0.0      | %          |
| Projected stock  price volatility         |       | 35.0     | %          | 35.0     | %          | 35.05    |       |
| Risk-free  interest rate                  |       | 4.86     | %          | 4.11     | %          | 3.65     | %          |
| Expected life of  options (in years)      |       | 7.0      |       | 7.0      |       | 7.0      |       |
| Fair value per  option                    |       | $        | 6.86       |     | $          | 7.66     |       | $ | 4.30 |   |
|                                           |            |          |            |          |            |          |            |  |  |  |

 

The Company uses the seven year zero coupon treasury rate as therisk-free interest rate.

 

# ***Income/(Losses) Per Common Share***

Income or loss per share for all periods presented in the ConsolidatedStatements of Operations and Comprehensive Loss are computed based on theweighted average number of shares outstanding during each period. The dilutiveeffect of stock options was not included in the computation for the loss percommon share as of December 31, 2003, because the inclusion would beanti-dilutive. Options outstanding as of December 31, 2005 were 488,985. Thecomputation of basic and diluted earnings per weighted average shareoutstanding is as follows:

 
| ** **                                                                                        | ** ** | **Years Ended December 31,** | ** ** |
|---------------------------------------------------------------------------------------------------|------------|------------------------------|------------|
| ** **                                                                                        | ** ** | **2005(1)**                  | ** ** | **2004** | ** ** | **2003** | ** ** |
|                                                                                              |       |                         |       |   |   |   |   |
| Average number  of common shares outstanding                                                      |       | 2,974104                     |       | 2,746,791 |   | 1,476,227 |   |
| Effect of  dilutive options                                                                       |       | 159,597                      |       | 92,197 |   | — |   |
| Effect of  dilutive warrants                                                                      |       | 146,162                      |       | — |   | — |   |
| Average number  of common shares outstanding used to calculate diluted earnings per common  share |       | 3,279,863                    |       | 2,838,988 |   | 1,476,227 |   |
|                                                                                              |       |                         |       |   |   |   |   |
| Net  income/(loss)                                                                                |       | $                            | 1,412      |   | $ | 281 |   | $ | (565 | ) |
| Basic net income  (loss) per share                                                                |       | $                            | .47        |   | $ | 0.10 |   | $ | (0.38 | ) |
| Diluted net  income (loss) per share                                                              |       | $                            | .43        |   | $ | 0.10 |   | $ | (0.38 | ) |

 

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(1)    Reflects the 5% stock dividend declared onDecember 28, 2005.  The years 2004 and2003 were not restated as the effect of the dividend paid on December 30, 2005was not material.

 

***Off-Balance Sheet Instruments***

In the ordinary course of business, the Company has entered intooff-balance sheet instruments consisting of commitments to extend credit. Suchfinancial instruments are recorded in the financial statements when they arefunded.

 

***Comprehensive Income***

Accounting principles generally require that recognized revenue,expenses, gains and losses be included in net income. Although certain changesin assets and liabilities, such as unrealized gains and losses onavailable-for-sale securities, are reported as a separate component of theequity section of the balance sheet, such items, along with net income, arecomponents of comprehensive income. Comprehensive income includes net income orloss and other comprehensive income or loss. The Company’s only source of othercomprehensive income/(loss) is derived from unrealized gains and losses oninvestment securities available for sale. Reclassification adjustments,resulting from gains or losses on investment securities that were realized andincluded in the net income of the current period that also had been included inother comprehensive income or loss as unrealized holding gains or losses in theperiod in which they arose, are excluded from comprehensive income of thecurrent period. The following table presents the reconciliation of transactionsaffecting Accumulated Other Comprehensive Income (Loss) included inshareholders’ equity for the periods indicated.

 

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The components of other comprehensive income/(loss) are as follows:

 
| ** **                                                                          | ** ** | **Years Ended December 31,**         | ** ** |
|-------------------------------------------------------------------------------------|------------|--------------------------------------|------------|
| ** **                                                                          | ** ** | **2005**                             | ** ** | **2004** | ** ** | **2003** | ** ** |
| ** **                                                                          | ** ** | **(Dollars in thousands)** | ** ** |
| Net  income/(loss)                                                                  |       | $                                    | 1,412      |   | $ | 281 |   | $ | (565 | ) |
| Unrealized  holding losses on available for sale securities arising during the year |       | (179                                 | )          | (221 | ) | (80 | ) |
| Less:  reclassification adjustment for (gains) losses included in net income/(loss) |       | (12                                  | )          | 119 |   | (497 | ) |
| Net unrealized holding  gains/(losses)                                              |       | (191                                 | )          | (102 | ) | (577 | ) |
| Comprehensive  income/(loss)                                                        |       | $                                    | 1,221      |   | $ | 179 |   | $ | (1,142 | ) |

 

***Recent Accounting Pronouncements***

 

**FASB 115**

On November 25, 2003, the Financial Accounting Standards Board (“FASB”)Emerging Issues Task Force (EITF) ratified a consensus decision on newdisclosure requirements related to unrealized losses on investment securitiesapplicable to fiscal years ending after December 15, 2003 requiringinstitutions covered by FAS 115 to include said disclosure in 2003 annualreports. Unrealized losses on investment securities must be summarized in tableformat, distinguishing between securities in a continuous unrealized lossposition for 12 months or more and securities in a continuous unrealized lossposition for 12 months or less, including aggregate unrealized losses ofsecurities whose fair values are below book values as of the reporting date andthe aggregate fair value of securities whose fair values are below book valuesas of the reporting date. Additional information recommended for inclusion innarrative form includes the nature of the investment, the cause(s) ofimpairment(s), the number of investment positions that are in an unrealizedloss position, and the severity and duration of impairment(s).

 

Subsequently, at the March 17-18, 2004 EITF meeting provided furtherguidance for evaluating whether an investment is other-than-temporarilyimpaired and was effective for other-than-temporary impairment evaluations madein reporting periods after June 15, 2004. However, the guidance contained inparagraphs 10 - 20 has been delayed by FSP EITF Issue 03-1-1, “Effective Dateof Paragraphs 10 - 20 of EITF Issue No. 03-1, The Meaning ofOther-Than-Temporary Impairment and its Application to Certain Investments,”posted September 30, 2004. The delay of the effective date for paragraphs 10 -20 superseded concurrent with the final issuance of proposed FSP EITF Issue03-1-a, “Implication Guidance for the Application of Paragraph 16 of EITF IssueNo. 03-1, The Meaning of Other-than-Temporary Impairment and its Application toCertain Investments.”  The disclosurescontinue to be effective in annual financial statements for fiscal years endingafter December 31, 2003, for investments accounted for under Statements 115 and124.

 

On November 3, 2005 FASB staff personnel issued FASB Staff Position (“FSP”)115-1 and 124-1; *TheMeaning of Other-than-Temporary Impairment and its Application to CertainInvestments*. This FASaddresses the determination as to when an investment is considered impaired,whether that impairment is other-than-temporary and the measurement of animpairment loss. This FSP also includes accounting considerations subsequent tothe recognition of an other-than-temporary impairment and requires certaindisclosure about unrealized losses than have not been recognized as other thantemporary losses. This FSP nullifies certain requirements of Issue 03-1,specifically the requirements of paragraphs 10 – 18 of Issue 03-01. The FSPcarries forward the disclosure requirements included in paragraphs 21 and 22 ofIssue 03-01 and related examples, and also references existingother-than-temporary impairment guidance. This FSP provides a 3 stepapplication guidance. Step 1. Determine whether an investment is Impaired. Impairmentshall be assessed at the individual security level and generally is consideredimpaired if the fair value of the investment is less than its cost. Step 2. Determinewhether the impairment is other-than-temporary. Apply other guidance that is

 

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pertinent to the determination of whether theimpairment is other-than-temporary, such as paragraph 16 of Statement 115,paragraph 6 of Opinion 18 and EITF issue No 99-20 “*Recognitionof Interest Income and Impairment on Purchased and Retained Beneficial Interestin Securitized Financial Assets*”. Step 3. If the impairment is otherthan temporary, recognize an impairment loss equal to the difference betweenthe investments’ cost and its fair value.

 

**FASB 123(R)**

In December 2004, FASB published FASB Statement No. 123 (Revised 2004),Share-Based Payment, FAS 123(R). FAS 123 (R) requires that the compensationcost relating to share-based payment transactions, including grants of employeestock options, be recognized in financial statements. That cost will bemeasured based on the fair value of the equity or liability instruments issued.FAS 123 (R) permits entities to use any option-pricing model that meets thefair value objective in the Statement.

 

In October, 2005 the FASB staff issued FSP123(R)-2 *Practical Accommodation to the Application of GrantDate in FASB Statement 123(R).*This FSP is in response to inquiriesfrom constituents to provide guidance on the application of grant date asdefined in FASB 123 (revised 2004), Share-Based Payment. As an accommodation,in determining the grant date of an award subject to Statement 123 (R),assuming all other criteria in the grant date definition have been met, amutual understanding of the key terms and conditions of an award to anindividual employee shall be presumed to exist at the date the award isapproved in accordance with the relevant corporate governance requirements(that is, by the Board or management with the relevant authority) if both ofthe following conditions are met: (1)  The award is a unilateralgrant and, therefore, the recipient does not have the ability to negotiate thekey terms and conditions of the award with the employer. (2) The key terms andconditions of the award are expected to be communicated to an individualrecipient within a relatively short timer period form the date of approval. Thisguidance shall be applied upon initial adoption of Statement 123(R). An entitythat adopted Statement 123(R) prior to the issuance of this FSP and did notapply the provisions of this FSP shall apply the guidance in this FSP to thefirst reporting period after the date this FSP is posted to the FASB website.

 

In November 2005 the FASB staff issued FSP123(R)-3 *Transition Election Related to Accounting for theTax Effects of Share-Based Payment Awards.*This FSP provides apractical transition election related to accounting for the tax effects ofshare based payment awards to employees. Because discussions with constituentshave revealed that some entities do not have, and may not be able to re-create,information about the net excess tax benefits that would have qualified as suchand those entities adopted Statement 123 for recognition purposes, this FSPprovides an elective alternative transition method. That method comprises (a) acomputational component that establishes a beginning balance of the APIC poolrelated to employee compensation and (b) a simplified method to determine thesubsequent impact on the APIC pool of employee awards that are fully vested andoutstanding upon the Adoption of Statement 123(R). An entity shall followeither the transition guidance for the ASPC pool in Paragraph 81 of Statement123 (R) or the alternative transition method described in this FSP.

 

In March, 2005 the Securities and ExchangeCommission (“SEC”) issued Staff Accounting Bulletin (“SAB”) No. 107. Theinterpretations in this bulletin express views of the staff regarding theinteraction between FASB 123(R) *Share-Based Payments*,and certain Securities and Exchange Commission rules and regulations andprovide the staff’s views regarding the valuation of share-based paymentarrangements for public companies. In particular, this SAB provides guidance ona number of issues related to share-based payment transactions including themodifications of employee share options prior to adoption of Statement 123R(SAB Topic 14K). The staff believes that an acceptable interpretation ofStatement 123 is that modification to accelerate the vesting of share optionswould result in the recognition of the remaining amount of compensation cost inthe period of the modification is made, so long as the acceleration of vestingpermits employees to exercise the share options in a circumstance when theywould not otherwise have been able to do so absent the modification. The staffbelieves that since the remaining unrecognized compensation cost is acceleratedand recognized at the date of modification, no compensation cost would berecognized for these modified share options in the income statement in theperiods after adoption of Statement 123(R), absent any further modifications. InDecember The Directors of The Bank Holdings approved the acceleration ofnon-qualified stock options granted under The Bank Holdings Stock Option Planof 2002 As Amended. The Company has

 

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granted “Non-Qualified” and “Incentive” stockoptions under the Plan to recognize the contributions of various members of thefounder’s group, directors, and officer staff. Such options were granted to beexercised over a five year term; however, the Board determined that the mostrecent Financial Accounting Standards Board’s Statement of Financial AccountingStandards No. 123 (revised 2004) Share Based Payment (Statement No. 123R) wouldunduly penalize the reported earnings of the four-year old Company. The cost ofimplementing FAS 123R is currently projected at $1 million over the next threeyears. In order to implement the acceleration, each relevant stock optionagreement was amended. The form of the amendment is attached as an exhibit tothis report on Form 10-KSB.

 

Statement 123(R) is effective in the beginning of thefirst quarter of 2006. As of the effective date, the Company will apply the Statementusing a modified version of prospective application. Under that transitionmethod, compensation cost is recognized for (1) all awards granted after therequired effective date and to awards modified, cancelled, or repurchased afterthat date and (2) the portion of prior awards for which the requisite servicehas not been rendered, based on the grant-date fair value of those awardscalculated for pro forma disclosures under FAS 123.

 

The impact of this Statement on the Company in 2005and beyond will depend upon various factors, among them being our futurecompensation strategy. The pro forma compensation costs presented in thisdocument and in prior filings for the Company have been calculated using aBlack-Scholes option pricing model and may not be indicative of amounts whichshould be expected in future periods.

 

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**FASB 154**

In May 2005, theFASB issued Statement of Accounting Standards No. 154 (“SFAS 154”) *Accounting Changes and Error Corrections.*This statementprovides guidelines on the accounting for and reporting of accounting changesand error corrections. It establishes, unless impracticable, retrospectiveapplication as the required method for reporting a change in accountingprinciple in the absence of explicit transition requirements specific to thenewly adopted accounting principle. SFAS 154 is effective for fiscal yearsbeginning after December 15, 2005. The adoption of this accounting standard isnot expected to have a material impact on the Company’s financial statements.

 

The list of recent accounting pronouncements notedabove, while not an exhaustive list, includes those which we believe will, ormay, have the greatest likelihood of application to the Company’s consolidatedbalance sheets and/or consolidated statements of operations. We believe thatadoption of these standards will not have a material impact on our financialcondition, results of operations, earnings per share or cash flow, however, no absoluteassurance can be given that this in fact will occur.

 

***Reclassification***

Various reclassifications may have been made to the consolidatedbalance sheet at December 31, 2004 and the consolidated statements ofoperations for the periods ended December 31, 2004 and 2003, in order to beconsistent with the presentation as of December 31, 2005. Further, certaincaptions have had minor revisions to more accurately reflect activities of theCompany. There was no change to previously reported stockholders’ equity or netincome or loss.

 

**NOTE 2 – RESTRICTIONS ON CASH AND AMOUNT DUE FROMBANKS**

 

The Company is required to maintain average balances on hand or withthe Federal Reserve Bank. At December 31, 2005 and 2004, these reserve balancesrequired amounted to approximately $1.1 million and $855,000, respectively.

 

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**NOTE 3 – SECURITIES**

 

The amortized cost and fair value of securities with gross unrealizedgains and losses are as follows:

 
| ** **                            | ** ** | **As of December 31, 2005** | ** ** |
|---------------------------------------|------------|-----------------------------|------------|
| ** **                            | ** ** | **Amortized  Cost**         | ** ** | **Gross  Unrealized  Gains** | ** ** | **Gross  Unrealized  Loss** | ** ** | **Fair  Value** | ** ** |
| ** **                            | ** ** | **(Dollars in thousand)**   | ** ** |
|                                  |       |                        |       |   |   |   |   |   |   |
| Securities  available for sale        |       |                        |       |   |   |   |   |   |   |
| U.S. Government  and federal agencies |       | $                           | 16,470     |   | $ | — |   | $ | (470 | ) | $ | 16,000 |   |
| State and  municipal                  |       | 500                         |       | — |   | (16 | ) | 484 |   |
| Corporate                             |       | 1,032                       |       | — |   | (26 | ) | 1,006 |   |
| Mortgaged-backed                      |       | 2,064                       |       | — |   | (42 | ) | 2,022 |   |
| Total securities  available for sale  |       | $                           | 20,066     |   | $ | — |   | $ | (554 | ) | $ | 19,512 |   |
|                                  |       |                        |       |   |   |   |   |   |   |
| Securities held  to maturity          |       |                        |       |   |   |   |   |   |   |
| U.S. Government  and federal agencies |       | $                           | 20,740     |   | $ | — |   | $ | (222 | ) | $ | 20,518 |   |
| State and  municipal                  |       | 1,412                       |       | 28 |   | (3 | ) | 1,437 |   |
| Corporate                             |       | 1,284                       |       | 26 |   | — |   | 1,310 |   |
| Mortgaged-backed                      |       | 40,873                      |       | 27 |   | (1,117 | ) | 39,783 |   |
| Total securities  held to maturity    |       | $                           | 64,309     |   | $ | 81 |   | $ | (1,342 | ) | $ | 63,048 |   |
|                                  |       |                        |       |   |   |   |   |   |   |
| Trading equity  securities            |       | $                           | 1,141      |   | $ | 146 |   | $ | (4 | ) | $ | 1,283 |   |

 
| ** **                            | ** ** | **As of December 31, 2004** | ** ** |
|---------------------------------------|------------|-------------------------------------------------|------------|
| ** **                            | ** ** | **Amortized  Cost**                             | ** ** | **Gross  Unrealized  Gains** | ** ** | **Gross  Unrealized  Losses** | ** ** | **Fair  Value** | ** ** |
| ** **                            | ** ** | **(Dollars in thousand)**             | ** ** |
|                                  |       |                                            |       |   |   |   |   |   |   |
| Securities  available for sale        |       |                                            |       |   |   |   |   |   |   |
| U.S. Government  and federal agencies |       | $                                               | 14,493     |   | $ | — |   | $ | (342 | ) | $ | 14,151 |   |
| State and  municipal                  |       | 500                                             |       | — |   | (13 | ) | 487 |   |
| Corporate                             |       | 910                                             |       | 1 |   | (9 | ) | 902 |   |
| Total securities  available for sale  |       | $                                               | 15,903     |   | $ | 1 |   | $ | (364 | ) | $ | 15,540 |   |
|                                  |       |                                            |       |   |   |   |   |   |   |
| Securities held  to maturity          |       |                                            |       |   |   |   |   |   |   |
| U.S. Government  and federal agencies |       | $                                               | 7,984      |   | $ | 1 |   | $ | (68 | ) | $ | 7,917 |   |
| State and  municipal                  |       | 230                                             |       | 35 |   | — |   | 265 |   |
| Corporate                             |       | 1,279                                           |       | 86 |   | — |   | 1,365 |   |
| Mortgaged-backed                      |       | 44,095                                          |       | 115 |   | (530 | ) | 43,680 |   |
| Total securities  held to maturity    |       | $                                               | 53,588     |   | $ | 237 |   | $ | (598 | ) | $ | 53,227 |   |
|                                  |       |                                            |       |   |   |   |   |   |   |
| Trading equity  securities            |       | $                                               | 970        |   | $ | 118 |   | $ | — |   | $ | 1,088 |   |

 

At December 31, 2005 and 2004, securities in the investment portfoliowith a carrying value of $73.2 million and $62.7 million, respectively, werepledged as collateral or for other purposes as required or permitted by law. Ofthe amounts pledged, $66.6 million was pledged for FHLB borrowing as of December31, 2005.

 

67

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The amortized cost and fair value of debt securities by contractualmaturity at December 31, 2005 is shown below. Over certain interest rateenvironments, some, or all of these securities may be called for redemption bytheir issuers prior to the scheduled maturities. Further, maturities within themortgage-backed securities portfolio may differ from scheduled and contractualmaturities because the mortgages underlying the securities may be called forredemption or repaid without penalties. Therefore, these securities are notincluded in the maturity categories in the following maturity summary.

 
| ** **                      | ** ** | **Available for Sale** | ** ** | **Held to Maturity** | ** ** |
|---------------------------------|------------|------------------------|------------|----------------------|------------|
| ** **                      | ** ** | **Amortized  Cost**    | ** ** | **Fair  Value**      | ** ** | **Amortized  Cost** | ** ** | **Fair  Value** | ** ** |
| Within one year                 |       | $                      | 5,994      |                 | $          | 5,918 |   | $ | 3,492 |   | $ | 3,492 |   |
| After 1 year through  5 years   |       | 6,137                  |       | 5,911                |       | 14,558 |   | 14,380 |   |
| After 5 years  through 10 years |       | 4,943                  |       | 4,746                |       | 4,412 |   | 4,422 |   |
| After 10 years                  |       | 928                    |       | 915                  |       | 974 |   | 971 |   |
| Mortgaged-backed  securities    |       | 2,064                  |       | 2,022                |       | 40,873 |   | 39,783 |   |
|                            |       | $                      | 20,066     |                 | $          | 19,512 |   | $ | 64,309 |   | $ | 63,048 |   |

 

For the year ended December 31, 2005 net realized losses from sales ofsecurities available for sale were approximately $12,000 as compared to netrealized losses of $119,000 for the same period in 2004 and gross gains of$497,000 for the same period in 2003. The trading account had net realized gains of approximately $4,000 andnet unrealized gains of approximately $47,000 as compared to no realized gainsand net unrealized gains of $110,000 for 2004.

 

Information pertaining to securities with gross unrealized losses at December31, 2005, aggregated by investment category and length of time that individualsecurities have been in a continuous loss position, is as follows:

 
| ** **                          | ** ** | **Less Than Twelve Months** | ** ** | **Over Twelve Months**        | ** ** | **Total**       | ** ** |
|-------------------------------------|------------|-----------------------------|------------|-------------------------------|------------|-----------------|------------|
| ** **                          | ** ** | **Fair  Value**             | ** ** | **Gross  Unrealized  Losses** | ** ** | **Fair  Value** | ** ** | **Gross  Unrealized  Losses** | ** ** | **Fair  Value** | ** ** | **Gross  Unrealized  Losses** | ** ** |
| ** **                          | ** ** | **(Dollars in thousands)**  | ** ** |
| Securities  available-for-sale      |       |                        |       |                          |       |            |       |   |   |   |   |   |   |
| U.S. Government  and federal agency |       | $                           | 1,983      |                          | $          | (11             | )          | $ | 14,017 |   | $ | (459 | ) | $ | 16,000 |   | $ | (470 | ) |
| State and  municipal                |       | —                      |       | —                        |       | 484             |       | (16 | ) | 484 |   | (16 | ) |
| Corporate                           |       | 525                         |       | (5                            | )          | 481             |       | (21 | ) | 1,006 |   | (26 | ) |
| Mortgaged-back  securities          |       | 1,946                       |       | (39                           | )          | 76              |       | (3 | ) | 2,022 |   | (42 | ) |
|                                |       | $                           | 4,454      |                          | $          | (55             | )          | $ | 15,058 |   | $ | (499 | ) | $ | 19,512 |   | $ | (554 | ) |
| Securities held-to-maturity         |       |                        |       |                          |       |            |       |   |   |   |   |   |   |
| U.S. Government  and federal agency |       | $                           | 10,068     |                          | $          | (52             | )          | $ | 7,223 |   | $ | (171 | ) | $ | 17,291 |   | $ | (223 | ) |
| State and  municipal                |       | 250                         |       | (2                            | )          | —          |       | — |   | 250 |   | (2 | ) |
| Mortgaged-back  securities          |       | 11,260                      |       | (188                          | )          | 25,598          |       | (929 | ) | 36,858 |   | (1,117 | ) |
|                                |       | $                           | 21,578     |                          | $          | (242            | )          | $ | 32,821 |   | $ | (1,100 | ) | $ | 54,399 |   | $ | (1,342 | ) |

 
| ** **                          | ** ** | **As of December 31, 2004** | ** ** |
|-------------------------------------|------------|-----------------------------|------------|
| ** **                          | ** ** | **Less Than Twelve Months** | ** ** | **Over Twelve Months** | ** ** | **Total** | ** ** |
| ** **                          | ** ** | **Fair  Value**             | ** ** | **Gross  Unrealized  Losses** | ** ** | **Fair  Value** | ** ** | **Gross  Unrealized  Losses** | ** ** | **Fair  Value** | ** ** | **Gross  Unrealized  Losses** | ** ** |
| ** **                          | ** ** | **(Dollars in thousands)**  | ** ** |
| Securities  available-for-sale      |       |                        |       |   |   |   |   |   |   |   |   |   |   |
| U.S. Government  and federal agency |       | $                           | 7,860      |   | $ | (135 | ) | $ | 6,291 |   | $ | (207 | ) | $ | 14,151 |   | $ | (342 | ) |
| State and  municipal                |       | 487                         |       | (13 | ) | — |   | — |   | 484 |   | (13 | ) |
| Corporate                           |       | 902                         |       | (9 | ) | — |   | — |   | 902 |   | (9 | ) |
| Mortgaged-back  securities          |       | —                      |       | — |   | — |   | — |   | — |   | — |   |
|                                |       | $                           | 9,249      |   | $ | (157 | ) | $ | 6,291 |   | $ | (207 | ) | $ | 15,540 |   | $ | (364 | ) |
| Securities  held-to-maturity        |       |                        |       |   |   |   |   |   |   |   |   |   |   |
| U.S. Government  and federal agency |       | $                           | 7,160      |   | $ | (68 | ) | $ | — |   | $ | — |   | $ | 7,160 |   | $ | (68 | ) |
| State and  municipal                |       | —                      |       | — |   | — |   | — |   | — |   | — |   |
| Mortgaged-back  securities          |       | 28,784                      |       | (342 | ) | 8,333 |   | (188 | ) | 37,117 |   | (530 | ) |
|                                |       | $                           | 35,944     |   | $ | (410 | ) | $ | 8,333 |   | $ | (188 | ) | $ | 44,277 |   | $ | (598 | ) |

 

Management evaluates securities for other-than-temporary impairment atleast on a quarterly basis, and more frequently when economic or marketconcerns warrant such evaluation. Consideration is given to (1) the length oftime and the extent to which the fair value has been less than cost, (2) thefinancial condition and near-term prospects of the issuer, and (3) the intentand ability of the Company to retain its investment in the issuer for a periodof time sufficient to allow for any anticipated recovery in fair value.

 

68

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At December 31, 2005, debt securities had an aggregate depreciation ofless than 2.2% from the Company’s amortized cost basis. In theavailable-for-sale portfolio, thirty-two securities have an unrealized loss. Intwenty-eight of those securities the unrealized loss has exceeded one year.There are eighty-two securities in the held-to-maturity portfolio that have anunrealized loss. In sixty of those securities the losses have exceeded one year.In analyzing an issuer’s financial condition, management considers whether thesecurities are issued by the federal government or its agencies, whetherdowngrades by bond rating agencies have occurred, and industry analysis’reports. As management has the ability and intent to hold debt securities untilmaturity, or for the foreseeable future if classified as available-for-sale, nodeclines are deemed to be other than temporary, and there are no declines invalue that are not related to the current interest rate environment. AtDecember 31, 2005 the Company held one investment which had been downgraded toa less than investment grade security (Ford Motor Credit). While the securityhad been in a continuous loss position for more than 12 months, the amount ofthe unrecognized loss was insignificant, and the security matured subsequent toyear end when the Company received full value.

 

At December 31, 2004, debt securities had an aggregate depreciation ofless than 1.3% from the Company’s amortized cost basis. None of theseunrealized losses was deemed to be other than temporary. These unrealizedlosses related primarily to fluctuations in the interest rate environment atthat time.

 

**NOTE 4 – LOANS**

 

A summary of the balances of loans is as follows:

 
| ** **                         | ** ** | **December 31,**           | ** ** |
|------------------------------------|------------|----------------------------|------------|
| ** **                         | ** ** | **2005**                   | ** ** | **2004** | ** ** |
| ** **                         | ** ** | **(Dollars in thousands)** | ** ** |
|                               |       |                       |       |   |   |
| Commercial and  industrial         |       | $                          | 15,901     |   | $ | 14,732 |   |
| Real Estate:                       |       |                       |       |   |   |
| Commercial                         |       | 97,458                     |       | 69,228 |   |
| Residential                        |       | 15,542                     |       | 9,877 |   |
| Construction and  land development |       | 78,417                     |       | 33,407 |   |
| SBA/USDA loans                     |       | 17,990                     |       | 21,831 |   |
| Consumer loans                     |       | 19,877                     |       | 11,633 |   |
|                               |       | 245,185                    |       | 160,708 |   |
|                               |       |                       |       |   |   |
| Less: Allowance  for loan losses   |       | 2,655                      |       | 1,586 |   |
|  Net  unearned loan fees      |       | 356                        |       | 597 |   |
| Loans, net                         |       | $                          | 242,174    |   | $ | 158,525 |   |

 

An analysis of the allowance for loan losses is as follows:

 
| ** **                                  | ** ** | **Years Ended December 31,** | ** ** |
|---------------------------------------------|------------|------------------------------|------------|
| ** **                                  | ** ** | **2005**                     | ** ** | **2004** | ** ** | **2003** | ** ** |
| ** **                                  | ** ** | **(Dollars in thousands)**   | ** ** |
|                                        |       |                         |       |   |   |   |   |
| Balance at  beginning of year               |       | $                            | 1,586      |   | $ | 822 |   | $ | 220 |   |
| Provision for  loan losses                  |       | 1,069                        |       | 764 |   | 602 |   |
| Loans  charged-off                          |       | —                       |       | — |   | — |   |
| Recoveries of  loans previously charged-off |       | —                       |       | — |   | — |   |
| Balance at end of  year                     |       | $                            | 2,655      |   | $ | 1,586 |   | $ | 822 |   |

 

The Company also carries an allowance for undisbursed loan commitmentswhich is reported as an “other liability”. At December 31, 2005 and 2004 suchallowance was $225,000, and $161,000, respectively.

 

The Company had no loans which were classified as impaired as of December31, 2005 or 2004. In addition, the Company had no non-accrual loans or loanspast due greater than 90 days and still accruing interest as of

 

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December 31, 2005 or 2004.

 

**NOTE 5 – PREMISES AND EQUIPMENT**

 

A summary of the cost and accumulated depreciation of premises andequipment is as follows:

 
| ** **                | ** ** | **December 31,** | ** ** |
|---------------------------|------------|------------------|------------|
| ** **                | ** ** | **2005**         | ** ** | **2004** | ** ** |
|                      |       |             |       |   |   |
| Premises:                 |       |             |       |   |   |
| Leasehold  Improvements   |       | $                | 1,620      |   | $ | 1,648 |   |
| Furniture and  Equipment  |       | 2,691            |       | 2,274 |   |
| Automobiles               |       | 59               |       | 87 |   |
| Construction in  Progress |       | —           |       | — |   |
|                      |       | 4,370            |       | 4,009 |   |
|                      |       |             |       |   |   |
| Accumulated  depreciation |       | (1,507           | )          | (986 | ) |
|                      |       | $                | 2,863      |   | $ | 3,023 |   |

 

Pursuant to the terms of non-cancelable lease agreements in effect at December31, 2005, pertaining to banking and holding company premises, future minimumrent commitments (in thousands) under various operating leases are as follows:

 
| **Year Ending December 31,** | ** ** | ** ** | ** ** |
|------------------------------|------------|------------|------------|
| 2006                         |       | $          | 717        |   |
| 2007                         |       | 728        |       |
| 2008                         |       | 721        |       |
| 2009                         |       | 736        |       |
| 2010                         |       | 548        |       |
| Thereafter                   |       | 3,082      |       |
| **Total**                    |       | $          | 6,532      |   |

 

The leases contain options to extend for periods of time from one toten or more years. Total rent expense for the periods ended December 2005, 2004and 2003, amounted to approximately $648,000, $324,000 and $282,000,respectively. At December 31, 2005 there were no leasing transactions withrelated parties, nor were there any capital leases.

 

**NOTE 6 – DEPOSITS**

 

At December 31, 2005, the scheduled maturities of time deposits,including IRA accounts (in thousands) are as follows:

 
| ** **                 | ** ** | **Under $100** | ** ** | **Over $100** | ** ** | **Total** | ** ** |
|----------------------------|------------|----------------|------------|---------------|------------|-----------|------------|
| Three months or  less      |       | $              | 3,260      |          | $          | 16,555    |       | $ | 19,815 |   |
| Over three to  six months  |       | 2,447          |       | 4,082         |       | 6,529     |       |
| Over six to  twelve months |       | 4,854          |       | 16,207        |       | 21,061    |       |
| Over twelve  months        |       | 44,332         |       | 2,926         |       | 47,258    |       |
| Total                      |       | $              | 54,893     |          | $          | 39,770    |       | $ | 94,663 |   |

 

At December 31, 2005 and, 2004, the Bank’s specialized program of taxfree exchange money market demand deposits aggregated $96 million and $64million, respectively.

 

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**NOTE 7 – OTHER BORROWED FUNDS**

 

The Company has entered into two agreements with correspondent banksunder which it can purchase federal funds up to $5.2 million. The interestcharged on borrowings is determined by the lending institution at the time ofthe borrowing. These lines of credit are for short-term use, are unsecured andare renewed on an annual basis. There were no balances outstanding under theseagreements at December 31, 2005, and 2004.

 

The Company also has an agreement with the Federal Home Loan Bank ofSan Francisco (FHLB) to borrow funds. Advances are collateralized by qualifyingassets pursuant to collateral agreements with FHLB. There were no overnightadvances outstanding as of December 31, 2005 and $30.5 million outstanding asof December 31, 2004.

 

Other subordinated debt as of December 31, 2005 includes $15.5 millionin subordinated debentures see Note 9. These debentures were issued by theCompany and $4.2 million of such funds were invested in the Bank to maintainadequate capital levels.

 

**NOTE 8 – INCOME TAXES**

 

The cumulative tax effects of the primary temporary differences whichcreated deferred tax assets and liabilities at December 31, 2005 and 2004 areas follows:

 

The components of income tax benefit for the years presented were asfollows:

 
| ** **           | ** ** | **December 31,**           | ** ** |
|----------------------|------------|----------------------------|------------|
| ** **           | ** ** | **2005**                   | ** ** | **2004** | ** ** |
| ** **           | ** ** | **(Dollars in thousands)** | ** ** |
| Current expense      |       |                       |       |   |   |
| Federal              |       | $                          | —     |   | $ | — |   |
| State                |       | 6                          |       | $ | — |   |
|                 |       | $                          | 6          |   | $ | — |   |
|                 |       |                       |       |   |   |
| Deferred tax benefit |       |                       |       |   |   |
| Federal              |       | $                          | (679       | ) | $ | — |   |
| State                |       | (37                        | )          | — |   |
|                 |       | $                          | (716       | ) | $ | — |   |
|                 |       |                       |       |   |   |
| Income tax benefit   |       | $                          | 710        |   | $ | — |   |
|                      |            |                            |            |  |  |  |  |  |

 

The following were the significant components of deferred tax assetsand liabilities:

 
| ** **                                          | ** ** | **December 31,** | ** ** |
|-----------------------------------------------------|------------|------------------|------------|
| ** **                                          | ** ** | **2005**         | ** ** | **2004** | ** ** |
|                                                |       |             |       |   |   |
| Deferred tax  assets:                               |       |             |       |   |   |
| Net operating  loss carryforwards                   |       | $                | 272        |   | $ | 793 |   |
| Allowance for  loan losses                          |       | 730              |       | 168 |   |
| Deferred  Compensation                              |       | 185              |       | — |   |
| Development  stage costs                            |       | 49               |       | 39 |   |
| Other                                               |       | 127              |       | 33 |   |
| Total deferred  tax assets                          |       | $                | 1,363      |   | $ | 1,033 |   |
|                                                |       |             |       |   |   |
| Deferred tax  liabilities:                          |       |             |       |   |   |
| Deferred Loan  Costs                                |       | $                | 324        |   | $ | — |   |
| Premises and  equipment resulting from depreciation |       | 248              |       | 122 |   |
| Other                                               |       | 28               |       | 59 |   |
| Total deferred  tax liabilities                     |       | $                | 600        |   | $ | 181 |   |
|                                                |       |             |       |   |   |
| Net deferred tax  asset                             |       | 763              |       | 852 |   |
| Less valuation  allowance                           |       | —           |       | 852 |   |
|                                                |       | $                | 763        |   | $ | — |   |

 

At December 31, 2005 and 2004, the Company had approximately $801thousand and $2.5 million,respectively, of operating loss carryforwards for federal income taxpurposes that expire beginning in 2021. At December 31, 2004, the net deferredtax asset available of $852,000 was offset by an equal valuation allowance.

 

The income tax provision differs from the amount of income taxdetermined by applying the US federal income tax rate to pretax income for theyears ended December 31, 2005, 2004 and 2003 due to the following:

 

71

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| ** **                                           | ** ** | **2005** | ** ** | ** ** | ** ** | **2004** | ** ** | ** ** | ** ** | **2003** | ** ** | ** ** | ** ** |
|------------------------------------------------------|------------|----------|------------|------------|------------|----------|------------|------------|------------|----------|------------|------------|------------|
| Computed “expected” tax expense            |       | $        | 267        |       | 38         | %        | $          | 100        |       | 35       | %          | $          | (198       | ) | 35 | % |
| Increase  (decrease) in income taxes resulting from: |       |     |       |       |       |     |       |       |       |     |       |       |       |
| Valuation  allowance on deferred tax asset           |       | —   |       |       |       | (91      | )          | 32         | %          | 183      |       | 34         | %          |
| Effect of bank  owned life insurance                 |       | (185     | )          | 2          | %          | —   |       |       |       | —   |       |       |       |
| Other                                                |       | (82      | )          | 1          | %          | (9       | )          | 3          | %          | 15       |       | 1          | %          |
|                                                 |       | $        | —     |       |       |     | $          | —     |       |     |       | $          | —     |   |   |   |

 

**NOTE 9 – SUBORDINATED DEBENTURES**

 

The Bank Holdings Statutory Trust I, a Connecticut statutory trust (the“trust”) was formed by the Company for the sole purpose of issuing trustpreferred securities fully and unconditionally guaranteed by the Company. Forfinancial reporting purposes, the Trust is not consolidated and the FloatingRate Subordinated Deferrable Interest Debentures (the “Subordinated Debentures”)held by the Trust, issued and guaranteed by the Company are reflected in theCompany’s consolidated balance sheet in accordance with provisions of FIN 46. Underapplicable regulatory guidance, the amount of trust preferred securitieseligible for inclusion in Tier 1 capital is limited to twenty-five percent(25%) of the Company’s Tier 1 capital on a proforma basis. At December 31,2005, $9.7 million of trust preferred securities qualified as Tier 1 capital,with another $5.8 million qualifying as Tier 2 capital.

 

During the fourth quarter of 2005, the Trust issued $15.5 millionFloating Rate Capital Trust Pass-through Securities (“TRUPS”) with aliquidation value of $1,000 per security for gross proceeds of $15.5 million. Theentire proceeds of the issuance was invested by the Trust in $15, 464,000 ofsubordinated Debentures issued by the Company, with identical maturity,repricing and payment terms as the TRUPS. These Subordinated Debentures representthe sole assets of the Trust. The Subordinated Debentures issued by the Trustmatures on December 15, 2035, bear a current interest rate of 90 day LIBOR plus1.42% with repricing and payments due quarterly. These Subordinated Debenturesare redeemable by the Company, subject to receipt by the Company of priorapproval from the Federal Reserve Bank, on any December 15 on or after December15, 2010. The redemption [price is par plus accrued and unpaid interest, exceptin the case of redemption under a special event which is defined in thedebenture. The TRUPS are subject to mandatory redemption to the extent of anyearly redemption of the related Subordinated Debentures and upon maturity ofthose Subordinated Debentures on December 15, 2035.

 

Holders of the TRUPS are entitled to a cumulative cash distribution onthe liquidation amount of $1,000 per security at an interest rate at December31, 2005 of 5.91%. For each successive three month period beginning on December15 of each year, the rate will be adjusted to equal the 3 month LIBOR plus1.42%, provided, however, that such annual rate does not exceed 11%. The Trusthas the option to defer payment of the distributions for a period of up to fiveyears, as long as the Company is not in default on the payment of interest onthe Subordinated Debentures. The TRUPS issued in the offering were sold inprivate transactions pursuant to an exemption from registration under theSecurities Act of 1933, as amended. The Company has guaranteed, on asubordinated basis, distributions and other payments due on the TRUPS.

 

**NOTE 10 – COMMITMENTS AND CONTINGENCIES**

 

***Financial Instruments with Off-balance Sheet Risk***

 

The Company is party to financial instruments with off-balance-sheetrisk in the normal course of business to meet the financing needs of itscustomers. These financial instruments may include commitments to extend creditand standby letters of credit. Such commitments may involve, to varyingdegrees, elements of credit and interest rate risk in excess of the amountrecognized in the consolidated balance sheets.

 

The Company’s exposure to credit loss, in the event of nonperformanceby the other parties to the financial instrument, is represented by thecontractual amount of these instruments. The Company follows the same

 

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credit policies in making commitments as it does for on-balance-sheetinstruments. A summary of the contract amount of the company’s exposure tooff-balance sheet risk as of December 31, is as follows:

 
| ** **                                                                                          | ** ** | **Contract Amount**        | ** ** |
|-----------------------------------------------------------------------------------------------------|------------|----------------------------|------------|
| ** **                                                                                          | ** ** | **2005**                   | ** ** | **2004** | ** ** |
| ** **                                                                                          | ** ** | **(Dollars in thousands)** | ** ** |
| Commitments to  extend credit, including unsecured commitments of $18.2 million, and $13.3  million |       | $                          | 70,313     |   | $ | 49,580 |   |
| Unsecured  consumer lines of credit                                                                 |       | 1,163                      |       | 1,632 |   |
| Standby letters  of credit (Unsecured)                                                              |       | 293                        |       | 310 |   |
|                                                                                                |       | $                          | 71,769     |   | $ | 51,522 |   |

 

Commitments to extend credit are agreements to lend to a customer aslong as there is no violation of any condition established in the contract. Commitmentsgenerally have fixed expiration dates or other termination clauses and mayrequire payment of a fee. Since many of the commitments are expected to expirewithout ever being drawn upon, the total commitment amounts do not necessarilyrepresent future cash requirements. The Company evaluates each customer’screditworthiness on a case-by-case basis. The amount of collateral obtained, ifdeemed necessary by the Company, is based on management’s credit evaluation ofthe customer. Collateral held varies, but may include accounts receivable,inventory, property and equipment, residential real estate and income producingcommercial properties.

 

Unfunded commitments under commercial lines-of-credit, revolving creditlines and overdraft protection agreements are commitments for possibleextension of credit to existing customers. These lines-of-credit may beuncollateralized, and may not contain a specified maturity date and may not bedrawn upon to the total extent to which the Company is committed.

 

Standby letters-of-credit are conditional lending commitments issued bythe Company to guarantee the performance of a customer to a third party. Thoseletters-of-credit are primarily issued to support public and private borrowingarrangements. Essentially all letters of credit have expiration dates within oneyear. The credit risk involved in issuing letters-of-credit is essentially thesame as that involved in extending loan facilities to customers.

 

In connection with standby letters of credit, the Bank recognizes therelated commitment fee received from the third party as a liability at theinception of the guarantee pursuant to FASB Interpretation 45 (FIN 45) *Initial Recognition andMeasurement of the Liability for a Guarantor’s Obligations*.Commitment fees where the likelihood of exercise of the commitment is remoteare generally recognized as service fee income over the commitment period.

 

As of December 31, 2005 there were commitment fee obligations of lessthan $1 thousand, for the $293,000 Standby Letters of Credit. The credit riskinvolved in issuing letters of credit is essentially the same as that involvedin extending facilities to customers, and management believes that no unduecredit or service fee income exposure exists as a result of such transaction.

 

***Concentrations***

The Company makes commercial, commercial real estate, and residentialreal estate loans in northern Nevada and northern California. The Company makesconsumer loans to customers primarily in northern Nevada. At December 31, 2005and 2004, real estate loans accounted for approximately 78% and 70%,respectively, of total loans. Substantially all of these loans are secured byfirst liens with an initial loan to value ratio of generally not more than 75%.The Company’s policy for requiring collateral is to obtain collateral wheneverit is available or desirable; depending upon the degree of risk the Company iswilling to take. In addition, approximately 5% of total loans are unsecured. TheCompany’s loans are expected to be repaid from cash flow or from proceeds fromthe sale of selected assets of the borrowers.

 

73

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A substantial portion of the Company’s customers’ ability to honortheir contracts is dependent on the economy in the areas the Company serves. TheCompany’s goal is to maintain a diversified loan portfolio which requires theloans to be well collateralized and supported by cash flows.

 

***Legal Contingencies***

With the exception of the matters disclosedbelow, in the normal course of business, the Company is involved in variouslegal proceedings. In the opinion of management, any liability resulting fromsuch proceedings would not have a material adverse effect on the Company’sfinancial condition or results of operation.

 

In November, 2004, Dot1Web, Inc., Thomas R.Creal, court appointed receiver for Dot1Web, Inc. and Robert DeMaio filed anaction against Nevada Security Bank, the Company’s sole subsidiary. The BankHoldings is not a party to this lawsuit. The central allegation against theBank is the alleged wrongful dishonor of certain checks drawn on the account ofPlaintiff. The Plaintiffs alleged that, as a result of the dishonor, they lostpotential investors who were planning on assisting them with $20,000,000 incapital investment and Mr. Demaio also personally lost nearly $80,000,000 inthe value of stock he held in Dot1Web, Inc.

 

On March 10, 2006, in the Second JudicialDistrict Court of the State of Nevada, in and for the County of Washoe, anorder was issued dismissing the plaintiff’s complaint with prejudice.

 

***Executive Agreements***

 

The Company has entered into agreement with six executives, which statethat in the event the Company terminates the employment of these officerswithout cause, or upon change in control of the Company, the Company may beliable for the officers’ salaries as outlined in the agreements.

 

**NOTE 11 – REGULATORY CAPITAL REQUIREMENTS**

 

The Company (on a consolidated basis) and the Bank are subject tovarious regulatory capital requirements administered by the federal bankingagencies. Failure to meet minimum capital requirements can initiate certainmandatory and possibly additional discretionary actions by regulators that, ifundertaken, could have a direct material effect on the Company’s and Bank’sfinancial statements. Under capital adequacy guidelines and the regulatoryframework for prompt corrective action, the Company and the Bank must meetcertain specific capital guidelines that involve quantitative measures of theirassets, liabilities and certain off-balance-sheet items as calculated under regulatoryaccounting practices. The capital amounts and classifications are also subjectto qualitative judgments by the regulators about components, risk weightings,and other factors. Prompt corrective action provisions are not applicable tobank holding companies.

 

Additionally, State of Nevada bank regulations restrict distribution ofthe net assets of the Bank due to the fact that such regulations require thesum of the Bank’s stockholders’ equity and allowance for loan losses to be atleast 6% of the average of the Bank’s total daily deposit liabilities for thepreceding 60 days. As a result of these regulations, approximately $18.2million and $12.5 million of the Bank’s stockholders’ equity were restricted atDecember 31, 2005 and 2004 respectively. In addition, as a result of the Bank’saccumulated deficit, the Bank is restricted from paying cash dividends.

 

Quantitative measures established by regulation to ensure capitaladequacy require the Company and the Bank to maintain minimum amounts andratios (set forth in the following table) of total and Tier 1 capital (asdefined in the regulations) to risk-weighted assets (as defined) and of Tier 1capital (as defined) to average assets (as defined). Management believes, as ofDecember 31, 2005 and 2004, that the Company and Bank met all capital adequacyrequirements to which they were subject.

 

As of December 31, 2005, the most recent notification from the FederalDeposit Insurance Company categorized the Bank as well capitalized under theregulatory framework for prompt correct action. To be categorized as wellcapitalized, an institution must maintain certain minimum total risk-based,Tier 1 risk-based and Tier 1 leverage ratios.

 

74

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The Company’s and the Bank’s capital amounts and ratios as of December31, 2005 and 2004, as well as regulatory minimums, are presented in the tablebelow:

 
| ** **                              | ** ** | **Actual** | ** ** | **Minimum Capital  Requirement** | ** ** | **Minimum to be Well  Capitalized Under  Prompt Corrective  Action Provisions** | ** ** |
|-----------------------------------------|------------|------------|------------|----------------------------------|------------|---------------------------------------------------------------------------------|------------|
| **(Dollars in thousands)**              | ** ** | **Amount** | ** ** | **Ratio**                        | ** ** | **Amount**                                                                      | ** ** | **Ratio** | ** ** | **Amount** | ** ** | **Ratio** | ** ** |
|                                    |       |       |       |                             |       |                                                                            |       |   |   |   |   |   |   |
| **December  31, 2005**                  |       |       |       |                             |       |                                                                            |       |   |   |   |   |   |   |
| Total Capital to  Risk Weighted Assets  |       |       |       |                             |       |                                                                            |       |   |   |   |   |   |   |
| The Bank  Holdings                      |       | $          | 46,183     |                             | 16.53      | %                                                                               | $          | 22,345 |   | 8.00 | % | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 32,883     |                             | 12.51      | %                                                                               | $          | 21,026 |   | 8.00 | % | $ | 26,282 |   | 10.00 | % |
|                                    |       |       |       |                             |       |                                                                            |       |   |   |   |   |   |   |
| Tier 1 Capital  to Risk Weighted Assets |       |       |       |                             |       |                                                                            |       |   |   |   |   |   |   |
| The Bank  Holdings                      |       | $          | 37,557     |                             | 13.45      | %                                                                               | $          | 11,172 |   | 4.00 | % | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 30,003     |                             | 11.42      | %                                                                               | $          | 10,513 |   | 4.00 | % | $ | 15,769 |   | 6.00 | % |
|                                    |       |       |       |                             |       |                                                                            |       |   |   |   |   |   |   |
| Tier 1 Capital  to Average Assets       |       |       |       |                             |       |                                                                            |       |   |   |   |   |   |   |
| The Bank  Holdings                      |       | $          | 37,557     |                             | 10.06      | %                                                                               | $          | 14,929 |   | 4.00 | % | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 30,003     |                             | 8.96       | %                                                                               | $          | 13,400 |   | 4.00 | % | $ | 16,750 |   | 5.00 | % |
|                                    |       |       |       |                             |       |                                                                            |       |   |   |   |   |   |   |
| **December  31, 2004**                  |       |       |       |                             |       |                                                                            |       |   |   |   |   |   |   |
| Total Capital to  Risk Weighted Assets  |       |       |       |                             |       |                                                                            |       |   |   |   |   |   |   |
| The Bank  Holdings                      |       | $          | 28,978     |                             | 17.26      | %                                                                               | $          | 13,434 |   | 8.00 | % | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 25,940     |                             | 15.60      | %                                                                               | $          | 13,303 |   | 8.00 | % | $ | 16,629 |   | 10.00 | % |
|                                    |       |       |       |                             |       |                                                                            |       |   |   |   |   |   |   |
| Tier 1 Capital  to Risk Weighted Assets |       |       |       |                             |       |                                                                            |       |   |   |   |   |   |   |
| The Bank  Holdings                      |       | $          | 27,321     |                             | 16.22      | %                                                                               | $          | 6,717 |   | 4.00 | % | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 24,193     |                             | 14.55      | %                                                                               | $          | 6,652 |   | 4.00 | % | $ | 9,978 |   | 6.00 | % |
|                                    |       |       |       |                             |       |                                                                            |       |   |   |   |   |   |   |
| Tier 1 Capital  to Average Assets       |       |       |       |                             |       |                                                                            |       |   |   |   |   |   |   |
| The Bank  Holdings                      |       | $          | 27,321     |                             | 11.01      | %                                                                               | $          | 9,893 |   | 4.00 | % | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 24,193     |                             | 9.91       | %                                                                               | $          | 9,768 |   | 4.00 | % | $ | 12,211 |   | 5.00 | % |

 

**NOTE 12 – EMPLOYEE BENEFIT PLANS**

 

The Company has a qualified 401(k) benefit plan for all eligibleemployees. Participants are able to defer up to 15% of their compensationsubject to certain limits based on federal tax laws. The plan also provides aprofit sharing component where the Company can make discretionary contributionsto the plan, which is allocated based on the compensation of eligible employees.No contributions were made during the years ended December 31, 2005, 2004, or2003.

 

**NOTE 13 – STOCK COMPENSATION PLAN**

 

***Stock Compensation Plan***

The Company has adopted the 2002 Stock Option Plan (the “Plan”) underwhich options to acquire common stock of the Company may be granted toemployees, officers, directors and others at the discretion of the Board ofDirectors. The Plan allows for the granting of incentive and non-qualifyingstock options as those terms are defined in the Internal Revenue Code. ThePlan, as amended at the shareholder’s 2004 Annual Meeting, authorizes up to 621,270shares of common stock to be provided by shares authorized but not outstanding.The Plan provides for the exercise price and term of each option to bedetermined by the Board at the date of grant, provided that no options shallhave a term greater than 10 years. All stock options granted under the planexpire ten years after the date of grant.

 

75

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A summary of stock option activity for the year ended December 31, 2005is as follows:

 
| ** **                        | ** ** | **2005  Shares** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **2004  Shares(1)** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **2003  Shares(1)** | ** ** | **Weighted  Average  Exercise  Price** | ** ** |
|-----------------------------------|------------|------------------|------------|----------------------------------------|------------|---------------------|------------|----------------------------------------|------------|---------------------|------------|----------------------------------------|------------|
|                              |       |             |       |                                   |       |                |       |                                   |       |                |       |                                   |       |
| Outstanding at  beginning of year |       | 479,640          |       | $                                      | 12.62      |                | 238,350    |                                   | $          | 9.54                |       | 218,925                                |       | $ | 9.52 |   |
| Granted                           |       | 12,495           |       | 18.67                                  |       | 289,065             |       | 15.04                                  |       | 19,425              |       | 9.78                                   |       |
| Exercised                         |       | 2,100            |       | 9.52                                   |       | 14,595              |       | 9.52                                   |       | —              |       | —                                 |       |
| Forfeited                         |       | 1,050            |       | 15.02                                  |       | 33,180              |       | 10.73                                  |       | —              |       | —                                 |       |
| Outstanding at  end of year       |       | 488,985          |       | $                                      | 12.79      |                | 479,640    |                                   | $          | 12.62               |       | 238,350                                |       | $ | 9.54 |   |
|                              |       |             |       |                                   |       |                |       |                                   |       |                |       |                                   |       |
| Options  exercisable at year-end  |       | 463,680          |       | $                                      | 12.70      |                | 180,978    |                                   | $          | 11.17               |       | 97,125                                 |       | $ | 9.53 |   |
|                              |       |             |       |                                   |       |                |       |                                   |       |                |       |                                   |       |
| Weighted average  remaining life  |       | 8 Years          |       |                                   |       | 9 Years             |       |                                   |       | 9 Years             |       |                                   |       |

 

----

(1)  Shares have been adjustedfor the 5% Stock Dividend declared on December 28, 2005, paid on December 30,2005.

 

All options granted under the plan, except for founder’s options (9,000non-qualified options) which were immediately exercisable, have been grantedwith a five year vesting period. Twenty percent of such options are immediatelyexercisable, with the remaining 80% exercisable at 20% per year, over each ofthe next four anniversary dates of the grant.

 

On December 28, 2005, the Directors of The Bank Holdings approved theacceleration of non-qualified stock options granted under The Bank HoldingsStock Option Plan of 2002 as amended. Non-qualified options previously grantedunder this Plan were to be vested over a five year term, however, the recentFASB Statement 123(R) *“Share Based Payment”*would unduly penalize the reported earnings of the two year old Company, andeach relevant stock option agreement was amended.

 

A summary of stock options outstanding at December 31, 2005 is asfollows:

 
| **Range  of Exercise  Prices** | ** ** | **Options  Outstanding** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Weighted Average  Contractual Life Remaining** | ** ** | **Number of Options  Exercisable at  December 31, 2005** | ** ** | **Weighted  Average  Exercise  Price** | ** ** |
|--------------------------------|------------|--------------------------|------------|----------------------------------------|------------|--------------------------------------------------|------------|----------------------------------------------------------|------------|----------------------------------------|------------|
| $ 9.00 – 9.99        |       | 203,700                  |       | $                                      | 9.52       |                                             | 6.62       |                                                     | 199,500    |                                   | $          | 9.52 |   |
|   10.00 –  10.99     |       | 5,250                    |       | 10.48                                  |       | 7.71                                             |       | 3,150                                                    |       | 10.48                                  |       |
|   13.00 –  13.99     |       | 5,250                    |       | 13.87                                  |       | 8.39                                             |       | 5,250                                                    |       | 13.87                                  |       |
|   15.00 –  15.99     |       | 262,290                  |       | 15.07                                  |       | 8.53                                             |       | 247,485                                                  |       | 15.07                                  |       |
|   18.00 –  19.99     |       | 12,495                   |       | 18.67                                  |       | 9.73                                             |       | 8,295                                                    |       | 18.59                                  |       |
|                           |       |                     |       |                                   |       |                                             |       |                                                     |       |                                   |       |
|                           |       | 488,985                  |       |                                   |       |                                             |       | 463,680                                                  |       |                                   |       |
|                                |            |                          |            |                                        |            |                                                  |            |                                                          |            |                                        |            |  |  |

 

**NOTE 14 – RELATED PARTY TRANSACTIONS**

 

In the ordinary course of business, the Company has had, and may beexpected to have in the future, banking transactions with directors,significant stockholders, principal officers, their immediate families andaffiliated companies in which they are principal stockholders (commonlyreferred to as related parties). In management’s opinion, these loans andtransactions were on the same terms as those for comparable loans andtransactions with non-related parties.

 

76

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***Loan Transactions***

 
| ** **                                   | ** ** | **For the Years Ended  December, 31** | ** ** |
|----------------------------------------------|------------|---------------------------------------|------------|
| ** **                                   | ** ** | **2005**                              | ** ** | **2004** | ** ** |
| ** **                                   | ** ** | **(Dollars in thousands)**            | ** ** |
| *** ***                                 |       |                                  |       |   |   |
| **Balance,  Beginning**                      |       | $                                     | 6,004      |   | $ | 4,106 |   |
| New loans                                    |       | 7,136                                 |       | 4,933 |   |
| Repayments                                   |       | (6,955                                | )          | (3,035 | ) |
| **Balance,  Ending**                         |       | $                                     | 6,185      |   | $ | 6,004 |   |
|                                         |       |                                  |       |   |   |
| Undisbursed  commitments to related parties, |       | $                                     | 5,452      |   | $ | 1,887 |   |
|                                         |       |                                  |       |   |   |
| Deposit balances  of related parties         |       | $                                     | 5,968      |   | $ | 5,794 |   |

 

**NOTE 15 – FAIR VALUE OF FINANCIAL INSTRUMENTS**

 

Financial Accounting Standards Board (FASB) Statement No. 107, *Disclosures About Fair Value of Financial Instruments,*requires disclosure of fair value information about financial instruments,whether or not recognized in the balance sheets, for which it is practicable toestimate that value.

 

Management uses its best judgment in estimating the fair value of theCompany’s financial instruments; however, there are inherent weaknesses in anyestimation technique. Therefore, for substantially all financial instruments,the fair value estimates presented herein are not necessarily indicative of theamounts the Company could have realized in a sales transaction at December 31,2005 or 2004. The estimated fair value amounts have been measured as of yearend, and have not been reevaluated or updated for purposes of these financialstatements subsequent to these dates. As such, the estimated fair values ofthese financial instruments subsequent to the reporting dates may be differentthan the amounts reported at year-end.

 

The information should not be interpreted as an estimate of the fairvalue of the entire Company since a fair value calculation is only required fora limited portion of the Company’s assets, and due to the wide range ofvaluation techniques and the degree of subjectivity used in making theestimate, comparisons between the Company’s disclosures and those of othercompanies or banks may not be meaningful. The following methods and assumptionswere used by the Company in estimating fair value disclosures for financialinstruments.

 

***Cash and cash equivalents***

The carrying amounts of cash, due from banks, liquid money marketfunds, and federal funds sold approximate fair value.

 

***Securities held to maturity and available for sale***

Fair values for securities, are based on quoted market prices, whereavailable. If quoted market prices are not available, fair values are based onquoted market prices of comparable instruments.

 

***Trading Securities***

Fair values for trading equity securities, are based on quoted marketprices.

 

***Other equity securities***

The reported amount of Federal Home Loan Bank (FHLB) stock equals itsfair value due to the fact that the shares can only be redeemed by the FHLB atthe $100 per share value. No ready market exists for the Pacific Coast Bankers’Bancshares stock and it has no quoted market value.

 

***Loans***

For variable-rate loans that reprice frequently and with no significantchange in credit risk, fair values are based on carrying values. The fairvalues for all other loans are estimated using discounted cash flow analyses,using

 

77

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interest rates currently being offered for loans with similar terms toborrowers with similar credit quality.

 

***Deposit liabilities***

The fair values disclosed for deposits with no defined maturities areequal to their carrying amounts which represent the amount payable on demand. Thecarrying amounts for variable-rate, fixed-term money market accounts andcertificates of deposit approximate their fair value at the reporting date. Fairvalues for fixed-rate certificates of deposit are estimated using a discountedcash flow calculation that applies interest rates currently being offered oncertificates to a schedule of aggregated expected monthly maturities on timedeposits.

 

***Other borrowed funds***

The carrying amount of FHLB advances approximate fair value due to thenext day maturity. The carrying value of subordinated debentures payableapproximate fair value because they reprice quarterly.

 

***Accrued interest receivable and payable***

The carrying amounts of accrued interest receivable and payableapproximate fair value.

 

***Off-balance sheet instruments***

Fair values for the Company’s off-balance sheet lending commitments(commitments to extend credit) are based on fees currently charged to enterinto similar agreements, taking into account the remaining terms of theagreements and the counterparties’ credit standing. As of December 31, 2005 and2003, loan commitments on which the committed fixed interest rate is less thanthe current market rate are insignificant.

 

The estimated fair values, and related carrying amounts, of the Company’sfinancial instruments are as follows:

 
| ** **                     | ** ** | **December 31,**     | ** ** |
|--------------------------------|------------|----------------------|------------|
| ** **                     | ** ** | **2005**             | ** ** | **2004** | ** ** |
| ** **                     | ** ** | **Carrying  Amount** | ** ** | **Fair  Value** | ** ** | **Carrying  Amount** | ** ** | **Fair  Value** | ** ** |
| ** **                     | ** ** | **(in thousands)**   | ** ** |
| Financial Assets:              |       |                 |       |   |   |   |   |   |   |
| Cash and due  from banks       |       | $                    | 5,980      |   | $ | 5,980 |   | $ | 4,737 |   | $ | 4,737 |   |
| Federal funds  sold            |       | 27,791               |       | 27,791 |   | — |   | — |   |
| Liquid money  market funds     |       | 8,500                |       | 8,500 |   | 625 |   | 625 |   |
| Securities  available-for-sale |       | 19,512               |       | 19,512 |   | 15,540 |   | 15,540 |   |
| Securities  held-to-maturity   |       | 64,309               |       | 63,048 |   | 53,588 |   | 53,227 |   |
| Trading  Securities            |       | 1,283                |       | 1,283 |   | 1,088 |   | 1,088 |   |
| Other equity  securities       |       | 2,067                |       | 2,067 |   | 1,734 |   | 1,734 |   |
| Loans, gross                   |       | 245,185              |       | 239,406 |   | 160,708 |   | 158,218 |   |
| Accrued interest  receivable   |       | 1,696                |       | 1,696 |   | 1,040 |   | 1,040 |   |
|                           |       |                 |       |   |   |   |   |   |   |
| Financial  Liabilities:        |       |                 |       |   |   |   |   |   |   |
| Deposits                       |       | 338,198              |       | 338,924 |   | 188,341 |   | 188,414 |   |
| Other borrowed  funds          |       | 15,464               |       | 15,464 |   | 30,500 |   | 30,500 |   |
| Accrued interest  payable      |       | 710                  |       | 710 |   | 34 |   | 34 |   |
|                                |            |                      |            |  |  |  |  |  |  |  |  |  |  |

 

78

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**NOTE 16 - CONDENSED FINANCIAL STATEMENTS OF PARENTCOMPANY**

 

**Financial Information Pertaining only to The Bank Holdingsare as follows:**

 

**Balancesheets**

 
| ** **                                           | ** ** | **December 31,**   | ** ** |
|------------------------------------------------------|------------|--------------------|------------|
| ** **                                           | ** ** | **2005**           | ** ** | **2004** | ** ** |
| ** **                                           | ** ** | **(in thousands)** | ** ** |
| **ASSETS**                                           |       |               |       |   |   |
| Cash and due  from banks                             |       | $                  | 309        |   | $ | 225 |   |
| Liquid Money  Market Funds                           |       | 9,251              |       | 625 |   |
| Cash and Cash  Equivalents                           |       | 9,560              |       | 850 |   |
| Securities  available for sale                       |       | 2,075              |       | 902 |   |
| Securities  trading                                  |       | 1,283              |       | 1,088 |   |
| Investment in  Nevada Security Bank                  |       | 30,662             |       | 24,337 |   |
| Investment in  non-bank subsidiaries                 |       | 464                |       |   |   |
| Premises and  equipment, net                         |       | 179                |       | 185 |   |
| Other assets                                         |       | 343                |       | 22 |   |
| **TOTAL ASSETS**                                     |       | $                  | 44,566     |   | $ | 27,384 |   |
|                                                 |       |               |       |   |   |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**       |       |               |       |   |   |
|                                                 |       |               |       |   |   |
| Subordinated debentures                              |       | 15,464             |       | — |   |
| Accrued expenses  and other liabilities              |       | 400                |       | 8 |   |
| Total  Liabilities                                   |       | 15,864             |       | 8 |   |
|                                                 |       |               |       |   |   |
| Stockholders’  equity:                          |       |               |       |   |   |
| Total  stockholders’ equity                     |       | 28,702             |       | 27,376 |   |
| **TOTAL  LIABILITIES AND STOCKHOLDERS’ EQUITY** |       | $                  | 44,566     |   | $ | 27,384 |   |

 

79

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**Statementof income**

 
| ** **                                                    | ** ** | **Years Ended December 31,** | ** ** |
|---------------------------------------------------------------|------------|------------------------------|------------|
| ** **                                                    | ** ** | **2005**                     | ** ** | **2004** | ** ** |
| ** **                                                    | ** ** | **(in thousands)**           | ** ** |
| **Interest income:**                                          | ** ** | ** **                   | ** ** | ** ** | ** ** |
| Liquid  Investments                                           |       | $                            | 88         |   | $ | 4 |   |
| Securities,  taxable                                          |       | 59                           |       | 30 |   |
| Dividends                                                     |       | 17                           |       | 6 |   |
| **Total interest and dividend income**                        |       | 164                          |       | 40 |   |
|                                                          |       |                         |       |   |   |
| **Interest expense:**                                         |       |                         |       |   |   |
| Subordinated  debentures                                      |       | 142                          |       | 58 |   |
| **Total interest expense**                                    |       | 142                          |       | 58 |   |
|                                                          |       |                         |       |   |   |
| **Net interest income**                                       |       | 22                           |       | (18 | ) |
|                                                          |       |                         |       |   |   |
| **Non-interest income:**                                      |       |                         |       |   |   |
| Unrealized gain  on trading securities                        |       | 47                           |       | 110 |   |
| Net gain on sale  of investment securities                    |       | 12                           |       | (12 | ) |
| **Total non-interest income**                                 |       | 59                           |       | 98 |   |
|                                                          |       |                         |       |   |   |
| **Non-interest expense:**                                     |       |                         |       |   |   |
| Salaries and  employee benefits                               |       | 321                          |       | 239 |   |
| Occupancy and  equipment                                      |       | 180                          |       | 86 |   |
| Data processing                                               |       | 27                           |       | 27 |   |
| Accounting and  legal                                         |       | 235                          |       | 141 |   |
| Other                                                         |       | 233                          |       | 142 |   |
| **Total non-interest expense**                                |       | 996                          |       | 635 |   |
|                                                          |       |                         |       |   |   |
| **Net Loss before benefit for income taxes**                  |       | (915                         | )          | (555 | ) |
|                                                          |       |                         |       |   |   |
| **Benefit for income taxes**                                  |       | (79                          | )          | — |   |
|                                                          |       |                         |       |   |   |
| Net Loss before equity in net income of Nevada  Security Bank |       | (836                         | )          | (555 | ) |
|                                                          |       |                         |       |   |   |
| Equity in net income of Nevada Security Bank                  |       | 2,248                        |       | 836 |   |
| **Net Income**                                                |       | $                            | 1,412      |   | $ | 281 |   |

 

80

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**Statement ofCash Flows**

 
| ** **                                                                                      | ** ** | **Years Ended December 31,** | ** ** |
|-------------------------------------------------------------------------------------------------|------------|------------------------------|------------|
| ** **                                                                                      | ** ** | **2005**                     | ** ** | **2004** | ** ** |
| ** **                                                                                      | ** ** | **(in thousands)**           | ** ** |
| **Cash  flows from operating activities:**                                                      | ** ** | ** **                   | ** ** | ** ** | ** ** |
| Net income                                                                                      |       | $                            | 1,412      |   | $ | 281 |   |
| Adjustments to  reconcile net income/(loss) to cash provided by (used in) operating activities: |       |                         |       |   |   |
| Equity in net  (income)/loss Nevada Security Bank                                               |       | (2,248                       | )          | (836 | ) |
| Realized stock  option compensation expense                                                     |       | 85                           |       | 83 |   |
| Net amortization  of securities                                                                 |       | 2                            |       | 7 |   |
| Depreciation                                                                                    |       | 23                           |       | 13 |   |
| Unrealized gain  on trading securities                                                          |       | (47                          | )          | (110 | ) |
| Purchase of  trading securities, net                                                            |       | (186                         | )          | (978 | ) |
| Realized  (gain)/loss on sales of available                                                     |       |                         |       |   |   |
| for sale  securities, net                                                                       |       | (12                          | )          | 12 |   |
| Net change in:                                                                                  |       |                         |       |   |   |
| Other assets and  liabilities, net                                                              |       | 125                          |       | 104 |   |
| **Net  cash used in operating activities**                                                      |       | (846                         | )          | (1,424 | ) |
|                                                                                            |       |                         |       |   |   |
| **Cash  flows from investing activities:**                                                      |       |                         |       |   |   |
| Activity in  available for sale securities:                                                     |       |                         |       |   |   |
| Proceeds from  sales and prepayments                                                            |       | 542                          |       | 2,423 |   |
| Purchases                                                                                       |       | (1,749                       | )          | (3,352 | ) |
| Investment in  Bank                                                                             |       | (4,240                       | )          | (9,900 | ) |
| Investment in  Trust subsidiary                                                                 |       | (464                         | )          | — |   |
| Purchases of  premises and equipment                                                            |       | (17                          | )          | (198 | ) |
| **Net  cash used in investing activities**                                                      |       | (5,928                       | )          | (11,027 | ) |
|                                                                                            |       |                         |       |   |   |
| **Cash  flows from financing activities:**                                                      |       |                         |       |   |   |
| Proceeds from  issuance of short term debt, net                                                 |       | —                       |       | (3,125 | ) |
| Proceeds from  issuance of subordinated debt                                                    |       | 15,464                       |       | — |   |
| Proceeds from  exercise of stock options                                                        |       | 20                           |       | 139 |   |
| Net proceeds  from issuance of common stock                                                     |       | —                       |       | 16,122 |   |
| **Net  cash provided by financing activities**                                                  |       | 15,484                       |       | 13,136 |   |
|                                                                                            |       |                         |       |   |   |
| **Net  change in cash and cash equivalents**                                                    |       | 8,710                        |       | 685 |   |
|                                                                                            |       |                         |       |   |   |
| **Cash  and cash equivalents at beginning of the period**                                       |       | 850                          |       | 165 |   |
| **Cash  and cash equivalents at end of the period**                                             |       | $                            | 9,560      |   | $ | 850 |   |

 

81

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**NOTE 17-QUARTERLY DATA (UNAUDITED)**

 
| ** **                                                        | ** ** | **Periods Ended**                                 | ** ** |
|-------------------------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                                        | ** ** | **2005**                                          | ** ** | **2004** | ** ** |
| ** **                                                        | ** ** | **Fourth**                                        | ** ** | **Third** | ** ** | **Second** | ** ** | **First** | ** ** | **Fourth** | ** ** | **Third** | ** ** | **Second** | ** ** | **First** | ** ** |
| ** **                                                        | ** ** | **Quarter**                                       | ** ** | **Quarter** | ** ** | **Quarter** | ** ** | **Quarter** | ** ** | **Quarter** | ** ** | **Quarter** | ** ** | **Quarter** | ** ** | **Quarter** | ** ** |
| ** **                                                        | ** ** | **(Dollars in thousands, except per share data)** | ** ** |
|                                                              |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest and  Dividend Income                                     |       | $                                                 | 5,293      |   | $ | 4,643 |   | $ | 3,864 |   | $ | 3,366 |   | $ | 3,256 |   | $ | 2,683 |   | $ | 2,458 |   | $ | 2,139 |   |
| Interest  Expense                                                 |       | 2,631                                             |       | 1,964 |   | 1,533 |   | 1,216 |   | 1,080 |   | 947 |   | 825 |   | 817 |   |
| Net  interest income                                              |       | 2,662                                             |       | 2,679 |   | 2,331 |   | 2,150 |   | 2,176 |   | 1,736 |   | 1,633 |   | 1,322 |   |
|                                                              |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Provision for  Loan Losses                                        |       | 377                                               |       | 292 |   | 186 |   | 214 |   | 167 |   | 207 |   | 170 |   | 220 |   |
| Net interest  income after Provision for Loan Losses              |       | 2,285                                             |       | 2,387 |   | 2,145 |   | 1,936 |   | 2,009 |   | 1,529 |   | 1,463 |   | 1,102 |   |
|                                                              |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Non interest  income                                              |       | 153                                               |       | 376 |   | 97 |   | 146 |   | 98 |   | 45 |   | 122 |   | 155 |   |
| Non interest  expenses                                            |       | 2,569                                             |       | 2,382 |   | 1,967 |   | 1,905 |   | 1,775 |   | 1,716 |   | 1,499 |   | 1,252 |   |
|                                                              |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net Income  (Loss) before taxes                                   |       | $                                                 | (131       | ) | $ | 381 |   | $ | 275 |   | $ | 177 |   | $ | 332 |   | $ | (142 | ) | $ | 86 |   | $ | 5 |   |
|                                                              |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Provision for  income taxes                                       |       | (710                                              | )     | 0 |   | 0 |   | 0 |   | 0 |   | 0 |   | 0 |   | 0 |   |
|                                                              |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net Income  (Loss)                                                |       | 579                                               |       | 381 |   | 275 |   | 177 |   | 332 |   | (142 | ) | 86 |   | 5 |   |
|                                                              |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Other  Comprehensive income                                       |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| (loss), unrealized  gains/losses on securities available-for-sale |       | (144                                              | )          | (88 | ) | 266 |   | (225 | ) | (117 | ) | 1,005 |   | (1,409 | ) | 419 |   |
|                                                              |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Comprehensive  Income (Loss)                                      |       | $                                                 | 435        |   | $ | 293 |   | $ | 541 |   | $ | (48 | ) | $ | 215 |   | $ | 863 |   | $ | (1,323 | ) | $ | 424 |   |
|                                                              |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Earnings (loss)  per common share:                                |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Basic                                                             |       | $                                                 | 0.19       |   | $ | 0.13 |   | $ | 0.09 |   | $ | 0.06 |   | $ | 0.11 |   | $ | (0.05 | ) | $ | 0.03 |   | $ | 0.00 |   |
| Diluted                                                           |       | $                                                 | 0.18       |   | $ | 0.12 |   | $ | 0.09 |   | $ | 0.06 |   | $ | 0.11 |   | $ | (0.05 | ) | $ | 0.03 |   | $ | 0.00 |   |

 

82

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**NOTE 18– SUBSEQUENT EVENT**

 

During February, 2006, the Company announcedthe execution of definitive agreements in which the Company would: 1) purchaseall of the outstanding stock of Big Sky Property Exchange of Bozeman, Montana,for a purchase price of $120,000 and 2) merge Granite Exchange, LLC ofRoseville, California into Granite Exchange Inc., a subsidiary of The BankHoldings for a purchase price of $5.2 million.

 

Both Big Sky Property Exchange and GraniteExchange Inc. are “qualified intermediaries” facilitating tax-deferred realestate transactions under Section 1031 of the Internal Revenue Code. Bothtransactions have since been approved by the Federal Reserve Bank and areexpected to close during the second quarter of 2006. Qualified intermediariesselect the financial institution to hold the depository accounts created aspart of the exchange transactions. The exchange balances deposited into theBank will increase the Bank’s core deposits, decrease the Bank’s loan todeposit ratio, decrease the Bank’s cost of funds, and support future loangrowth. In addition, fee income from exchange activities will increase totalfee income thereby enhancing the Company’s returns.

 

83

----

** **

**ITEM 8.****                            CHANGESIN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL   DISCLOSURE**

 

None

 

**ITEM 8A.****                  ****CONTROLS AND PROCEDURES**

 

Evaluation of Disclosure Controls andProcedures

 

The Company’s Chief Executive Officer and itsChief Financial Officer, after evaluating the effectiveness of the Company’sdisclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e)and 15d-15(e) as of the end of the period covered by this report have concludedthat, the Company’s disclosure controls and procedures were adequate andeffective to ensure that material information relating to the Company and itsconsolidated subsidiary would be made known to them by others within thoseentities, particularly during the period in which this annual report was beingprepared.

 

To assure that financial information isreliable and assets are safeguarded, management maintains an effective systemof internal controls and procedures, important elements of which include:  careful selection, training and developmentof operating and financial managers; an organization that provides appropriatedivision of responsibility; and communications aimed at ensuring that Companypolicies and procedures are understood throughout the organization. Inestablishing internal controls, management weighs the costs of such systemsagainst the benefits it believes such systems will provide.

 

It should be noted that in designing andevaluating the disclosure controls and procedures, management recognized thatany controls and procedures, no matter how well designed and operated, canprovide only reasonable assurance of achieving the desired control objectives,and management necessarily was required to apply its judgment in evaluating thecost-benefit relationship of possible controls and procedures. The Company hasdesigned its disclosure controls and procedures to reach a level of reasonableassurance of achieving desired control objectives and, based on the evaluationdescribed above, the Company’s Chief Executive Officer and Chief FinancialOfficer (Principal Accounting Officer) concluded that the Company’s disclosurecontrols and procedures were effective at reaching that level of reasonableassurance.

 

Disclosure controls and procedures aredesigned to ensure that information required to be disclosed by us in thereports that we file or submit under the Exchange Act is recorded, processed,summarized and reported, within the time periods specified in the Securitiesand Exchange Commission’s rules and forms. Disclosure controls and proceduresinclude, without limitation, controls and procedures designed to ensure thatinformation required to be disclosed by us in the reports that we file underthe Exchange Act is accumulated and communicated to our management, includingour Chief Executive Officer and Chief Financial Officer, as appropriate toallow timely decisions regarding required disclosure.

 

The Company’s assessment of the effectivenessof its internal control over financial reporting is not complete.

 

Changes in Internal Controls

 

There were no substantive changes in theCompany’s internal controls or in other factors that could significantly affectthe Company’s internal controls subsequent to the end of the period covered bythis report.

 

**ITEM8B.****                   ****OTHER INFORMATION**

 

None.

 

84

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**PART III**

 

**ITEM 9****                               ****DIRECTORS AND EXECUTIVE OFFICERSOF THE REGISTRANT**

 

The information required by this item can befound in the Company’s Definitive Proxy Statement pursuant to Regulation 14Aunder the Securities Exchange Act of 1934 and by this reference areincorporated herein.

 

**ITEM 10.****                     ****EXECUTIVE COMPENSATION**

 

The information required by this item can befound in the Company’s Definitive Proxy Statement pursuant to Regulation 14Aunder the Securities Exchange Act of 1934 and by this reference areincorporated herein.

 

**ITEM 11.****                       SECURITYOWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED   STOCKHOLDERMATTERS**

 

The information in response to Item 201(d) ofRegulation S-B can be found in Item 5 hereof and is incorporated herein by thisreference. The remaining information required by this item can be found in theCompany’s Definitive Proxy Statement pursuant to Regulation 14A under theSecurities Exchange Act of 1934 and by this reference are incorporated herein.

 

**ITEM 12.****                     ****CERTAIN RELATIONSHIPS AND RELATEDTRANSACTIONS**

 

The information required by this item can befound in the Company’s Definitive Proxy Statement pursuant to Regulation 14Aunder the Securities Exchange Act of 1934 and by this reference areincorporated herein.

 

85

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** **

**ITEM 13.****                     ****EXHIBITS**

 

(a) Exhibits

The following documents areincluded or incorporated by reference in this Annual Report on Form 10-KSB:

 
| **Exhibit No.** | ** ** | **Description**                                                        |
|----------------------|------------|------------------------------------------------------------------------|
|                 |       |                                                                   |
| 3.1                  |       | Articles of Incorporation  of The Bank Holdings (1)                    |
|                 |       |                                                                   |
| 3.2                  |       | Amendment to Articles of  Incorporation of The Bank Holdings (1)       |
|                 |       |                                                                   |
| 3.3                  |       | By-laws of The Bank  Holdings (1)                                      |
|                 |       |                                                                   |
| 4.1                  |       | Share Certificate (3)                                                  |
|                 |       |                                                                   |
| 4.2                  |       | Warrant Certificate (3)                                                |
|                 |       |                                                                   |
| 10.1                 |       | 2002 Stock Option Plan (2)                                             |
|                 |       |                                                                   |
| 10.2                 |       | Amendment to the 2002  Stock Option Plan (7)                           |
|                 |       |                                                                   |
| 10.3                 |       | Form of Incentive Stock  Option Agreement (2)                          |
|                 |       |                                                                   |
| 10.4                 |       | Form of Non-qualified  Stock Option Agreement (2)                      |
|                 |       |                                                                   |
| 10.5                 |       | Form of Amendment to  Non-qualified Stock Option Agreement (10)        |
|                 |       |                                                                   |
| 10.6                 |       | Employment Agreement of  Harold G. Giomi (8)                           |
|                 |       |                                                                   |
| 10.7                 |       | Split Dollar Agreement for  Hal Giomi (8)                              |
|                 |       |                                                                   |
| 10.8                 |       | Executive Supplemental  Compensation Agreement for Hal Giomi (8)       |
|                 |       |                                                                   |
| 10.9                 |       | Employment Agreement of  David A. Funk (2)                             |
|                 |       |                                                                   |
| 10.10                |       | Split Dollar Agreement for  David A. Funk (8)                          |
|                 |       |                                                                   |
| 10.11                |       | Executive Supplemental  Compensation Agreement for David A. Funk (8)   |
|                 |       |                                                                   |
| 10.12                |       | Employment Agreement of  Joe P. Bourdeau (9)                           |
|                 |       |                                                                   |
| 10.13                |       | Split Dollar Agreement for  Joe P. Bourdeau (8)                        |
|                 |       |                                                                   |
| 10.14                |       | Executive Supplemental  Compensation Agreement for Joe P. Bourdeau (8) |
|                 |       |                                                                   |
| 10.15                |       | Employment Agreement of  Jack B. Buchold (8)                           |
|                 |       |                                                                   |
| 10.16                |       | Split Dollar Agreement for  Jack B. Buchold (8)                        |
|                 |       |                                                                   |
| 10.17                |       | Executive Supplemental Compensation  Agreement for Jack B. Buchold (8) |
|                 |       |                                                                   |
| 10.18                |       | Employment Agreement  Addendum for Jack B. Buchold (9)                 |
|                 |       |                                                                   |
| 10.19                |       | Employment Agreement of  John N. Donovan (2)                           |

 

86

----

 
| 10.20  |   | Split Dollar Agreement for  John N. Donovan (8)                                                                                                                      |
|--------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                 |
| 10.21  |   | Executive Supplemental  Compensation Agreement for John N. Donovan (8)                                                                                               |
|   |   |                                                                                                                                                                 |
| 10.22  |   | Employment Agreement  Addendum for John N. Donovan (9)                                                                                                               |
|   |   |                                                                                                                                                                 |
| 10.23  |   | Lease Agreement for  Incline Village Office (2)                                                                                                                      |
|   |   |                                                                                                                                                                 |
| 10.24  |   | Lease Agreement for Reno  Office (2)                                                                                                                                 |
|   |   |                                                                                                                                                                 |
| 10.25  |   | Lease Agreement for  Roseville Office (4)                                                                                                                            |
|   |   |                                                                                                                                                                 |
| 10.26  |   | Lease Agreement for Robb  and Mae Ann Office (2)                                                                                                                     |
|   |   |                                                                                                                                                                 |
| 10.27  |   | Deferred Compensation Plan  (2)                                                                                                                                      |
|   |   |                                                                                                                                                                 |
| 10.28  |   | Directors Supplemental  Insurance Plan Agreement (8)                                                                                                                 |
|   |   |                                                                                                                                                                 |
| 10.29  |   | Granite Exchange, Inc.  Merger Agreement (6)                                                                                                                         |
|   |   |                                                                                                                                                                 |
| 10.30  |   | Granite Exchange Services,  LLC Purchase Agreement (6)                                                                                                               |
|   |   |                                                                                                                                                                 |
| 10.31  |   | First Amended and Restated  Nevada Security Bank Split Dollar Agreement (11)                                                                                         |
|   |   |                                                                                                                                                                 |
| 11     |   | Statement re: Computation  of Per Share Earnings (5)                                                                                                                 |
|   |   |                                                                                                                                                                 |
| 14     |   | Code of Ethics (4)                                                                                                                                                   |
|   |   |                                                                                                                                                                 |
| 21     |   | Registrant’s principal  subsidiary is Nevada Security Bank, a Nevada corporation, which also does  business under the name Silverado Funding and Silverado Bank |
|   |   |                                                                                                                                                                 |
| 23.1   |   | Consent of McGladrey &  Pullen LLP (6)                                                                                                                           |
|   |   |                                                                                                                                                                 |
| 23.2   |   | Consent of MossAdams LLP  Independent Registered Public Accounting Firm (6)                                                                                          |
|   |   |                                                                                                                                                                 |
| 31.1   |   | Section 302 Certification  by Hal Giomi (6)                                                                                                                          |
|   |   |                                                                                                                                                                 |
| 31.2   |   | Section 302 Certification  by Jack Buchold (6)                                                                                                                       |
|   |   |                                                                                                                                                                 |
| 32.1   |   | Section 706 Certification  by Hal Giomi (6)                                                                                                                          |
|   |   |                                                                                                                                                                 |
| 32.2   |   | Section 706 Certification  by Jack Buchold (6)                                                                                                                       |

 

----

(1)                                  This exhibit was previously filed as part of,and is hereby incorporated by reference to, our registration Statement on FormS-4 filed with the Commission on May 21, 2003.

 

(2)                                  This exhibit was previously filed as part of,and is herby incorporated by reference to, our Form 10Q-SB, filed with theCommission on November 14, 2003

 

(3)                                  This exhibit was previously filed as part of,and is hereby incorporated by reference to our Form SB-2 filed with theCommission on December 17, 2003.

 

(4)                                  This exhibit was previously filed as part of,and is hereby incorporated by reference to our Form 10-K filed with theCommission on March 30, 2004.

 

87

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(5)                                  Computation of earnings per share isincorporated herein by reference to Note 1 of the Financial Statements.

 

(6)                                  Filed herewith.

 

(7)                                  This exhibit was previously filed as part of,and is hereby incorporated by reference to, our registration Statement on Form8-K filed with the Commission on June 14, 2005.

 

(8)                                  This exhibit was previously filed as part of,and is hereby incorporated by reference to, our registration Statement on Form8-K filed with the Commission on September 21, 2005.

 

(9)                                  This exhibit was previously filed as part of,and is hereby incorporated by reference to, our registration Statement on Form8-K filed with the Commission on November 15, 2005.

 

(10)                            This exhibit was previously filed as part of,and is hereby incorporated by reference to, our registration Statement on Form8-K filed with the Commission on January 4, 2006.

 

(11)                            This exhibit was previously filed as part of,and is hereby incorporated by reference to, our registration Statement on Form8-K filed with the Commission on January 27, 2006.

 

**ITEM14.****                     ****PRINCIPAL ACCOUNTANT FEES ANDSERVICES**

 

**Pre-Approval Policy for Servicesof Independent Auditors**

 

As part of its duties, the Audit Committee isrequired to pre-approve audit and non-audit services performed by theindependent auditors in order to assure that the provision of such servicesdoes not impair the auditors’ independence. On an annual basis, the AuditCommittee will review and provide pre-approval for certain types of servicesthat may be provided by the independent auditors without obtaining specificpre-approval from the Audit Committee. If a type of service to be provided bythe independent auditors has not received pre-approval during this annualprocess, it will require specific pre-approval by the Audit Committee. TheAudit Committee does not delegate to management its responsibilities topre-approve services performed by the independent auditors.

 

**Fees for Services Provided byIndependent Auditors**

 

Fees for all services provided by Moss Adams,LLP and McGladrey & Pullen LLP, and RSM McGladrey, Inc. (an affiliate ofMcGladrey & Pullen LLP) the Company’s independent auditors for fiscal years2005 and 2004, are as follows:

 

**Audit Fees**

 

**PrincipalAccountant Fees and Services**

 
| ** **          | ** ** | **For the Years Ended December 31,** | ** ** |
|---------------------|------------|--------------------------------------|------------|
| ** **          | ** ** | **2005**                             | ** ** | **2004** | ** ** |
| ** **          | ** ** | **Moss Adams**                       | ** ** | **McGladrey** | ** ** |
| ** **          | ** ** | **(in thousands)**                   | ** ** |
| Audit Fees (1)      |       | $                                    | 97         |   | $ | 240 |   |
| Tax Services (2)    |       | 8                                    |       | 15 |   |
| Audit Related  Fees |       | 15                                   |       | -0 | - |
| All Other Fees  (3) |       | 6                                    |       | -0 | - |
|                     |            |                                      |            |  |  |  |  |

 

----

(1)                                  Audit fees consist of fees for professionalservices rendered for the audit of The Bank Holdings consolidated financialstatements for 2005 and 2004. Audit fees for 2005 and 2004 also include fees

 

88

----

 

and costs associated withSAS 100 reviews associated with Form 10-QSB filings. For 2004, audit fees alsoincludes the fees and costs associated with the stock offering on Form SB-2including issuing related consents issuing comfort letter to the Underwriter. The2004 audit fees also include the review of Form S-4 Registration Statement andreview of related documents associated with formation of the holding companyand related reorganization.

 

(2)                                  Tax services consist of compliance fees inpreparation of income tax returns. Tax fees also include various tax planningmatters.

 

(3)                                  Audit related fees consist of due diligencereview work for the Company’s 1031 exchange acquisition.

 

89

----

 

**SIGNATURES**

 

Pursuant to the requirementsof Section 13 or 15 (d) of the Securities and Exchange Act of 1934, theRegistrant has duly caused this report to be signed on its behalf by theundersigned thereunto duly authorized.

 
| Dated: March 31, 2006 | **The Bank Holdings**,                        |
|-----------------------|-----------------------------------------------|
|                  | a Nevada Corporation                          |
|                  |                                          |
| * *              | By:                                           | /s/  *Harold G. Giomi* | * * |
|                  | Harold  G. Giomi                              |
|                  | Chief  Executive Officer                      |
|                  |                                          |
|                  |                                          |
| * *              | By:                                           | /s/  *Jack B. Buchold* | * * |
|                  | Jack  B. Buchold                              |
|                  | Chief  Financial Officer                      |
|                  | (principal  financial and accounting officer) |

 

Pursuantto the requirements of the Securities and Exchange Act of 1934, this report hasbeen signed below by the following persons on behalf of the Registrant and inthe capacities and on the dates indicated.

 
| **Signature**          | ** ** | **Title**                             | ** ** | **Date**       |
|------------------------|------------|---------------------------------------|------------|----------------|
|                   |       |                                  |       |           |
| /s/  *Edward Allison*  | * *   | Director                              |       | March 31, 2006 |
| Edward  Allison        |       |                                  |       |           |
|                   |       |                                  |       |           |
| /s/  *Marybel Batjer*  | * *   | Director                              |       | March 31, 2006 |
| Marybel  Batjer        |       |                                  |       |           |
|                   |       |                                  |       |           |
| /s/  *Joseph Bourdeau* | * *   | President  and Director               |       | March 31, 2006 |
| Joseph  Bourdeau       |       |                                  |       |           |
|                   |       |                                  |       |           |
| /s/  *Edward Coppin*   | * *   | Director                              |       | March 31, 2006 |
| Edward  Coppin         |       |                                  |       |           |
|                   |       |                                  |       |           |
| */s/  David A. Funk*   | * *   | Director                              |       | March 31, 2006 |
| David  A. Funk         |       |                                  |       |           |
|                   |       |                                  |       |           |
| */s/  Jesse Haw*       | * *   | Director                              |       | March 31, 2006 |
| Jesse  Haw             |       |                                  |       |           |
|                   |       |                                  |       |           |
| /s/  *Kelvin Moss*     | * *   | Director                              |       | March 31, 2006 |
| Kelvin  Moss           |       |                                  |       |           |
|                   |       |                                  |       |           |
| /s/  *James Pfrommer*  | * *   | Director                              |       | March 31, 2006 |
| James  Pfrommer        |       |                                  |       |           |
|                   |       |                                  |       |           |
| /s/  *Hal Giomi*       | * *   | Chairman  and Chief Executive Officer |       | March 31, 2006 |
| Hal  Giomi             |       |                                  |       |           |
|                   |       |                                  |       |           |
| /s/  *Jack B. Buchold* | * *   | Chief  Financial Officer              |       | March 31, 2006 |
| Jack  B. Buchold       |       |                                  |       |           |

 

90

----

 

**FINANCIAL TABLES**

 

**Appendix 1 - Average Balances and Rates**

The following table sets forth, for theperiods indicated, information regarding (i) the total dollar amount ofinterest income on interest-earning assets and the resultant average yields;(ii) the total dollar amount of interest expense on interest-bearingliabilities and the resultant average cost; (iii) net interest income; (iv)interest rate spread; and (v) net interest margin.

 
| ** **                                           | ** ** | **For the  Year Ended December 31,** | ** ** | **For the  Year Ended December 31,** | ** ** | **For the  Year Ended December 31,** | ** ** |
|------------------------------------------------------|------------|--------------------------------------|------------|--------------------------------------|------------|--------------------------------------|------------|
| ** **                                           | ** ** | **2005(a),(b),(f)**                  | ** ** | **2004(a),(b),(f)**                  | ** ** | **2003(a),(b),(f)**                  | ** ** |
| ** **                                           | ** ** | **Average**                          | ** ** | ** **                           | ** ** | **Yield/**                           | ** ** | **Average** | ** ** | ** ** | ** ** | **Yield/** | ** ** | **Average** | ** ** | ** ** | ** ** | **Yield/** | ** ** |
| ** **                                           | ** ** | **Balance**                          | ** ** | **Interest**                         | ** ** | **Rate**                             | ** ** | **Balance** | ** ** | **Interest** | ** ** | **Rate** | ** ** | **Balance** | ** ** | **Interest** | ** ** | **Rate** | ** ** |
| ** **                                           | ** ** | **(Dollars  in thousands)**          | ** ** |
| **Assets**                                           |       |                                 |       |                                 |       |                                 |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Investments:                                         |       |                                 |       |                                 |       |                                 |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Federal Funds  Sold and Interest Bearing Deposits    |       | $                                    | 7,470      |                                 | $          | 248                                  |       | 3.32 | % | $ | 6,080 |   | $ | 96 |   | 1.58 | % | $ | 4,969 |   | $ | 68 |   | 1.37 | % |
| Securities                                           |       | 69,668                               |       | 2,362                                |       | 3.39                                 | %          | 90,242 |   | 2,885 |   | 3.20 | % | 59,998 |   | 1,944 |   | 3.24 | % |
| Equity                                               |       | 2,861                                |       | 83                                   |       | 2.90                                 | %          | 1,351 |   | 34 |   | 2.52 | % | 243 |   | 5 |   | 2.06 | % |
| Total Investments                                    |       | 79,999                               |       | 2,693                                |       | 3.37                                 | %          | 97,673 |   | 3,015 |   | 3.09 | % | 65,210 |   | 2,017 |   | 3.09 | % |
|                                                 |       |                                 |       |                                 |       |                                 |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Loans: (c)                                           |       |                                 |       |                                 |       |                                 |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Commercial                                           |       | 36,212                               |       | 2,034                                |       | 5.62                                 | %          | 35,548 |   | 1,734 |   | 4.88 | % | 8,280 |   | 376 |   | 4.54 | % |
| Real Estate                                          |       | 151,927                              |       | 11,339                               |       | 7.46                                 | %          | 77,646 |   | 5,273 |   | 6.79 | % | 38,174 |   | 2,541 |   | 6.66 | % |
| Consumer                                             |       | 1,540                                |       | 90                                   |       | 5.84                                 | %          | 1,902 |   | 113 |   | 5.94 | % | 1,157 |   | 75 |   | 6.48 | % |
| Security Lines                                       |       | 11,555                               |       | 1,010                                |       | 8.74                                 | %          | 7,321 |   | 401 |   | 5.48 | % | 2,575 |   | 241 |   | 9.36 | % |
| Other                                                |       | 33                                   |       | —                               |       | 0.00                                 | %          | 37 |   | — |   | 0.00 | % | 28 |   | — |   | 0.00 | % |
| Total Loans                                          |       | 201,267                              |       | 14,473                               |       | 7.19                                 | %          | 122,454 |   | 7,521 |   | 6.14 | % | 50,214 |   | 3,233 |   | 6.44 | % |
| Total Earning  Assets(e)                             |       | 281,266                              |       | 17,166                               |       | 6.10                                 | %          | 220,127 |   | 10,536 |   | 4.79 | % | 115,424 |   | 5,250 |   | 4.55 | % |
| Non-Earning  Assets                                  |       | 12,314                               |       |                                 |       |                                 |       | 13,312 |   |   |   |   |   | 5,593 |   |   |   |   |   |
| **Total  Assets**                                    |       | $                                    | 293,580    |                                 |       |                                 |       |   | $ | 233,439 |   |   |   |   |   | $ | 121,017 |   |   |   |   |   |
| **Liabilities and Shareholders’ Equity**        |       |                                 |       |                                 |       |                                 |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest Bearing  Deposits:                          |       |                                 |       |                                 |       |                                 |       |   |   |   |   |   |   |   |   |   |   |   |   |
| NOW                                                  |       | $                                    | 7,200      |                                 | $          | 19                                   |       | 0.26 | % | $ | 6,441 |   | $ | 12 |   | 0.19 | % | $ | 5,844 |   | $ | 15 |   | 0.26 | % |
| Savings Accounts                                     |       | 2,533                                |       | 13                                   |       | 0.51                                 | %          | 2,331 |   | 12 |   | 0.51 | % | 1,230 |   | 8 |   | 0.65 | % |
| Money Market                                         |       | 128,195                              |       | 4,049                                |       | 3.16                                 | %          | 126,261 |   | 2,739 |   | 2.17 | % | 61,629 |   | 1,248 |   | 2.03 | % |
| IRA’s                                           |       | 1,069                                |       | 28                                   |       | 2.62                                 | %          | 840 |   | 14 |   | 1.67 | % | 564 |   | 12 |   | 2.13 | % |
| Certificates of  Deposit<$100,000                 |       | 37,861                               |       | 1,425                                |       | 3.76                                 | %          | 5,396 |   | 98 |   | 1.82 | % | 5,407 |   | 128 |   | 2.37 | % |
| Certificates of  Deposit>$100,000                 |       | 33,457                               |       | 1,143                                |       | 3.42                                 | %          | 26,361 |   | 568 |   | 2.15 | % | 18,182 |   | 431 |   | 2.37 | % |
| Total Interest  Bearing Deposits                     |       | 210,315                              |       | 6,677                                |       | 3.17                                 | %          | 167,630 |   | 3,443 |   | 2.05 | % | 92,856 |   | 1,842 |   | 1.98 | % |
| Borrowed Funds:                                      |       |                                 |       |                                 |       |                                 |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Total Borrowed  Funds                                |       | 17,243                               |       | 667                                  |       | 3.87                                 | %          | 10,334 |   | 226 |   | 2.19 | % | 1,198 |   | 51 |   | 4.26 | % |
| Total Interest  Bearing Liabilities                  |       | 227,558                              |       | 7,344                                |       | 3.23                                 | %          | 177,964 |   | 3,669 |   | 2.06 | % | 94,054 |   | 1,893 |   | 2.01 | % |
| Demand Deposits                                      |       | 35,007                               |       |                                 |       |                                 |       | 31,675 |   |   |   |   |   | 15,307 |   |   |   |   |   |
| Other Liabilities                                    |       | 2,954                                |       |                                 |       |                                 |       | 710 |   |   |   |   |   | 468 |   |   |   |   |   |
| Shareholders’  Equity                           |       | 28,061                               |       |                                 |       |                                 |       | 23,090 |   |   |   |   |   | 11,188 |   |   |   |   |   |
| **Total  Liabilities and Shareholders’ Equity** |       | $                                    | 293,580    |                                 |       |                                 |       |   | $ | 233,439 |   |   |   |   |   | $ | 121,017 |   |   |   |   |   |
| ** **                                           |       |                                 |       |                                 |       |                                 |       |   |   |   |   |   |   |   |   |   |   |   |   |
| **Interest  Rate Spread(d)**                         |       |                                 |       |                                 |       | 2.87                                 | %          |   |   |   |   | 2.73 | % |   |   |   |   | 2.54 | % |
|                                                 |       |                                 |       |                                 |       |                                 |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest  Income/Earning Assets                      |       |                                 |       |                                 |       | 6.10                                 | %          |   |   |   |   | 4.79 | % |   |   |   |   | 4.55 | % |
| Interest Expense/Earning  Assets                     |       |                                 |       |                                 |       | 2.61                                 | %          |   |   |   |   | 1.67 | % |   |   |   |   | 1.64 | % |
| **Net  Interest Income and Margin (g)**              |       |                                 |       | $                                    | 9,822      |                                 | 3.49       | % |   |   | $ | 6,867 |   | 3.12 | % |   |   | $ | 3,357 |   | 2.91 | % |

 

----

(a)  Average balances are obtained from the bestavailable daily or monthly data.

(b)  Yields are reflected on atax equivalent basis.

(c) Loans are gross of the allowance for possible loan losses, deferred feesand related direct costs.

(d) Represents the difference between the yield on interest-earning assetsand the cost of interest-bearing liabilities.

(e)  There were no non-accrual loans during theperiods contained in this report.

(f)  Annualized.

(g) Net interest margin represents net interest income as a percentage ofaverage interest-earning assets.

 

Appendix 1

----

 

**Appendix 2 - Changes in Net Interest Income**

Thefollowing table presents certain information regarding changes in our interestincome and interest expense for the periods indicated.

Foreach category of interest-earning assets and interest-bearing liabilities,information is provided with respect to changes attributable to (i) changes involume (change in volume multiplied by prior year rate), (ii) changes in rate(change in rate multiplied by prior year volume) and (iii) changes in rate/volume(Change in rate multiplied by change in volume).

 
| ** **                                           | ** ** | **For the Year Ended December, 31** | ** ** | **For the Year Ended December, 31** | ** ** |
|------------------------------------------------------|------------|-------------------------------------|------------|-------------------------------------|------------|
| ** **                                           | ** ** | **2005 vs. 2004**                   | ** ** | **2004 vs. 2003**                   | ** ** |
| ** **                                           | ** ** | **Increase (Decrease) Due to**      | ** ** | **Increase (Decrease) Due to**      | ** ** |
| ** **                                           | ** ** | ** **                          | ** ** | ** **                          | ** ** | **Rate and** | ** ** | **Total** | ** ** | ** ** | ** ** | ** ** | ** ** | **Rate and** | ** ** | **Total** | ** ** |
| ** **                                           | ** ** | **Volume**                          | ** ** | **Rate**                            | ** ** | **Volume (1)** | ** ** | **Change** | ** ** | **Volume** | ** ** | **Rate** | ** ** | **Volume (1)** | ** ** | **Change** | ** ** |
| ** **                                           | ** ** | **(Dollars in thousands)**          | ** ** | **(Dollars in thousands)**          | ** ** |
| **Interest  Income**                                 |       |                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Investments:                                         |       |                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Federal funds  sold and other short term investments |       | $                                   | 22         |                                | $          | 106 |   | $ | 24 |   | $ | 152 |   | $ | 15 |   | $ | 10 |   | $ | 3 |   | $ | 28 |   |
| Securities                                           |       | (658                                | )          | 171                                 |       | (36 | ) | (523 | ) | 979 |   | (24 | ) | (14 | ) | 941 |   |
| Equity                                               |       | 38                                  |       | 5                                   |       | 6 |   | 49 |   | 23 |   | 1 |   | 5 |   | 29 |   |
| Total Investment  Income                             |       | (598                                | )          | 282                                 |       | (6 | ) | (322 | ) | 1,017 |   | (13 | ) | (6 | ) | 998 |   |
|                                                 |       |                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Loans:                                               |       |                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Commerical                                           |       | 32                                  |       | 263                                 |       | 5 |   | 300 |   | 1,238 |   | 28 |   | 92 |   | 1,358 |   |
| Real Estate                                          |       | 5,044                               |       | 520                                 |       | 502 |   | 6,066 |   | 2,629 |   | 50 |   | 53 |   | 2,732 |   |
| Consumer                                             |       | (22                                 | )          | (2                                  | )          | 1 |   | (23 | ) | 48 |   | (6 | ) | (4 | ) | 38 |   |
| Security Lines                                       |       | 232                                 |       | 239                                 |       | 138 |   | 609 |   | 444 |   | (100 | ) | (184 | ) | 160 |   |
| Total Loan  Income                                   |       | 5,286                               |       | 1,020                               |       | 646 |   | 6,952 |   | 4,359 |   | (28 | ) | (43 | ) | 4,288 |   |
|                                                 |       |                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| **Total  Interest Income**                           |       | 4,688                               |       | 1,302                               |       | 640 |   | 6,630 |   | 5,376 |   | (41 | ) | (49 | ) | 5,286 |   |
|                                                 |       |                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| **Interest Expense**                                 |       |                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest Bearing  Deposits:                          |       |                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Now Accounts                                         |       | 1                                   |       | 5                                   |       | 1 |   | 7 |   | 2 |   | (4 | ) | (1 | ) | (3 | ) |
| Savings                                              |       | 1                                   |       | —                              |       | — |   | 1 |   | 7 |   | (2 | ) | (1 | ) | 4 |   |
| Money market                                         |       | 42                                  |       | 1,250                               |       | 18 |   | 1,310 |   | 1,312 |   | 86 |   | 93 |   | 1,491 |   |
| IRA’s                                           |       | 4                                   |       | 8                                   |       | 2 |   | 14 |   | 6 |   | (3 | ) | (1 | ) | 2 |   |
| Certificates of  deposit<$100,000                 |       | 591                                 |       | 105                                 |       | 631 |   | 1,327 |   | — |   | (30 | ) | — |   | (30 | ) |
| Certificates of  deposit>$100,000                 |       | 153                                 |       | 335                                 |       | 87 |   | 575 |   | 194 |   | (40 | ) | (17 | ) | 137 |   |
| Total  interest-bearing deposits                     |       | 792                                 |       | 1,703                               |       | 739 |   | 3,234 |   | 1,521 |   | 7 |   | 73 |   | 1,601 |   |
|                                                 |       |                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Borrowed Funds                                       |       | 151                                 |       | 174                                 |       | 116 |   | 441 |   | 389 |   | (25 | ) | (189 | ) | 175 |   |
|                                                 |       |                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| **Total  interest expense**                          |       | 943                                 |       | 1,877                               |       | 855 |   | 3,675 |   | 1,910 |   | (18 | ) | (116 | ) | 1,776 |   |
|                                                 |       |                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| **Net Interest Income**                              |       | $                                   | 3,745      |                                | $          | (575 | ) | $ | (215 | ) | $ | 2,955 |   | $ | 3,466 |   | $ | (23 | ) | $ | 67 |   | $ | 3,510 |   |

 

----

(1)Includes changes in interest income and expense not due solely to volume orrate changes.

 

Appendix 2

----

 

**Appendix 3- Non-Interest Income and Non-Interest Expense**

The following table sets forth the variouscomponents of the Company’s non-interest income and expense for the periodsindicated.

 
| ** **                                                          | ** ** | **For the Year Ended December 31,** | ** ** |
|---------------------------------------------------------------------|------------|-------------------------------------|------------|
| ** **                                                          | ** ** | **2005**                            | ** ** | **% of Total** | ** ** | **2004** | ** ** | **% of Total** | ** ** | **2003** | ** ** | **% of Total** | ** ** |
| ** **                                                          | ** ** | **(Dollars in thousands)**          | ** ** |
| **Other  Operating Income**                                         |       |                                |       |   |   |   |   |   |   |   |   |   |   |
|                                                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |
| Service charges  on deposit accounts                                |       | $                                   | 206        |   | 26.68 | % | $ | 136 |   | 32.38 | % | $ | 75 |   | 8.40 | % |
| Other service  charges, commissions and fees                        |       | 165                                 |       | 21.37 | % | 139 |   | 33.10 | % | 97 |   | 10.86 | % |
| Pre-underwriting  fees                                              |       | 25                                  |       | 3.24 | % | 154 |   | 36.67 | % | 224 |   | 25.08 | % |
| Income on bank  owned life insurance                                |       | 313                                 |       | 40.54 | % | — |   | 0.00 | % | — |   | 0.00 | % |
| Unrealized gains  on trading securities                             |       | 47                                  |       | 6.09 | % | 110 |   | 26.19 | % | — |   | 0.00 | % |
| Gain on the sale  of fixed assets                                   |       | 4                                   |       | 0.52 | % | 9 |   | 2.14 | % | — |   | 0.00 | % |
| Gain/(loss) on  the sale of investments                             |       | 12                                  |       | 1.55 | % | (128 | ) | (30.48 | )% | 497 |   | 55.66 | % |
| Total  non-interest income                                          |       | 772                                 |       | 100.00 | % | 420 |   | 100.00 | % | 893 |   | 100.00 | % |
|                                                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |
| As a percent of  average earning assets                             |       |                                |       | 0.27 | % |   |   | 0.19 | % |   |   | 0.77 | % |
|                                                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |
| **Other  Operating Expense:**                                       |       |                                |       |   |   |   |   |   |   |   |   |   |   |
|                                                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |
| Salaries and  employee benefits                                     |       | 4,222                               |       | 47.85 | % | 2,743 |   | 43.95 | % | 2,024 |   | 48.04 | % |
| Occupancy costs                                                     |       | 1,532                               |       | 17.36 | % | 1,330 |   | 21.31 | % | 896 |   | 21.27 | % |
| Advertising and  marketing costs                                    |       | 335                                 |       | 3.80 | % | 237 |   | 3.80 | % | 131 |   | 3.11 | % |
| Data processing  costs                                              |       | 733                                 |       | 8.31 | % | 369 |   | 5.91 | % | 200 |   | 4.75 | % |
| Deposit services  costs                                             |       | 259                                 |       | 2.94 | % | 213 |   | 3.41 | % | 152 |   | 3.61 | % |
| Loan servicing  costs                                               |       | 2                                   |       | 0.02 | % | 7 |   | 0.11 | % | 48 |   | 1.14 | % |
| Provision for  undisbursed loan commitments                         |       | 64                                  |       | 0.73 | % | 86 |   | 1.38 | % | 13 |   | 0.31 | % |
| Telephone and  data communications                                  |       | 170                                 |       | 1.93 | % | 138 |   | 2.21 | % | 114 |   | 2.71 | % |
| Postage                                                             |       | 44                                  |       | 0.50 | % | 45 |   | 0.72 | % | 30 |   | 0.71 | % |
| Legal and accounting                                                |       | 515                                 |       | 5.84 | % | 519 |   | 8.31 | % | 163 |   | 3.87 | % |
| Other  professional services                                        |       | 468                                 |       | 5.30 | % | 257 |   | 4.12 | % | 139 |   | 3.30 | % |
| Stationery and  supplies                                            |       | 109                                 |       | 1.24 | % | 120 |   | 1.92 | % | 93 |   | 2.21 | % |
| Other                                                               |       | 370                                 |       | 4.19 | % | 178 |   | 2.85 | % | 210 |   | 4.98 | % |
| Total  non-interest expense                                         |       | $                                   | 8,823      |   | 100.00 | % | $ | 6,242 |   | 100.00 | % | $ | 4,213 |   | 100.00 | % |
|                                                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |
| As a percentage  of average earning assets                          |       |                                |       | 3.14 | % |   |   | 2.84 | % |   |   | 3.65 | % |
|                                                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |
| Net non-interest  expense as a percentage of average earning assets |       |                                |       | 2.86 | % |   |   | 2.64 | % |   |   | 2.88 | % |
|                                                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |
| Efficiency ratio  (a)                                               |       |                                |       | 83.41 | % |   |   | 84.28 | % |   |   | 112.26 | % |
|                                                                     |            |                                     |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

----

(a)  Represents non-interestexpenses as a percentage of net interest income and non-interest incomeexcluding securities gains and losses.

 

Appendix 3

----

 

**Appendix 4 - Securities Available forSale,  Held to Maturity and Trading**

The following table sets forth our investment securities as of thedates indicated.

 
| ** **                                                          | ** ** | **December 31,**                     | ** ** | **December 31,** | ** ** | **December 31,** | ** ** |
|---------------------------------------------------------------------|------------|--------------------------------------|------------|------------------|------------|------------------|------------|
| ** **                                                          | ** ** | **2005**                             | ** ** | **2004**         | ** ** | **2003**         | ** ** |
| ** **                                                          | ** ** | **Amortized**                        | ** ** | **Fair Market**  | ** ** | **Amortized**    | ** ** | **Fair Market** | ** ** | **Amortized** | ** ** | **Fair Market** | ** ** |
| ** **                                                          | ** ** | **Cost**                             | ** ** | **Value**        | ** ** | **Cost**         | ** ** | **Value** | ** ** | **Cost** | ** ** | **Value** | ** ** |
| ** **                                                          | ** ** | **(Dollars in thousands)** | ** ** |
| Available for  Sale                                                 |       |                                 |       |             |       |             |       |   |   |   |   |   |   |
|                                                                |       |                                 |       |             |       |             |       |   |   |   |   |   |   |
| US Treasury and  Government Agency Securities                       |       | $                                    | 16,470     |             | $          | 16,000           |       | $ | 14,493 |   | $ | 14,151 |   | $ | 24,515 |   | $ | 24,215 |   |
| Corporate bonds                                                     |       | 1,032                                |       | 1,006            |       | 909              |       | 902 |   | 12,032 |   | 12,079 |   |
| State &  political subdivisions                                 |       | 500                                  |       | 484              |       | 500              |       | 487 |   | 627 |   | 619 |   |
| Mortgage-backed  securities                                         |       | 2,064                                |       | 2,022            |       | —           |       | — |   | — |   | — |   |
| Subtotal,  Available for Sale                                       |       | $                                    | 20,066     |             | $          | 19,512           |       | $ | 15,902 |   | $ | 15,540 |   | $ | 37,174 |   | $ | 36,913 |   |
|                                                                |       |                                 |       |             |       |             |       |   |   |   |   |   |   |
| Held to Maturity                                                    |       |                                 |       |             |       |             |       |   |   |   |   |   |   |
|                                                                |       |                                 |       |             |       |             |       |   |   |   |   |   |   |
| US Treasury and  Government Agency Securities                       |       | $                                    | 20,740     |             | $          | 20,518           |       | $ | 7,984 |   | $ | 7,917 |   | $ | 6,153 |   | $ | 6,203 |   |
| Mortgage-backed  securities                                         |       | 40,873                               |       | 39,783           |       | 44,095           |       | 43,680 |   | 29,674 |   | 29,538 |   |
| Corporate bonds                                                     |       | 1,284                                |       | 1,310            |       | 1,279            |       | 1,365 |   | 1,775 |   | 1,910 |   |
| State &  political subdivisions                                 |       | 1,412                                |       | 1,437            |       | 230              |       | 265 |   | 248 |   | 287 |   |
| Subtotal, Held  to Maturity                                         |       | $                                    | 64,309     |             | $          | 63,048           |       | $ | 53,588 |   | $ | 53,227 |   | $ | 37,850 |   | $ | 37,938 |   |
|                                                                |       |                                 |       |             |       |             |       |   |   |   |   |   |   |
| Fair value as a %  of amortized cost of Held to Maturity Securities |       |                                 |       | 98.0             | %          |             |       | 99.3 | % |   |   | 100.2 | % |
|                                                                |       |                                 |       |             |       |             |       |   |   |   |   |   |   |
| Trading  Securities Equity Investments                              |       | 1,141                                |       | 1,283            |       | 970              |       | 1,088 |   | — |   | — |   |
|                                                                |       |                                 |       |             |       |             |       |   |   |   |   |   |   |
| Total Securities                                                    |       | $                                    | 85,516     |             | $          | 83,843           |       | $ | 70,460 |   | $ | 69,855 |   | $ | 75,024 |   | $ | 74,851 |   |

 

Appendix 4

----

 

**Appendix 5 - Maturities of Securities**

 

The following table sets forth thecontractual maturities and tax equivalent weighted average yields of our debtsecurities as of December 31, 2005. Actual maturities will differ fromcontractual maturities because borrowers may have the right to call or prepay obligationswith or without call or prepayment penalties.

 
| ** **                           | ** ** | **Carrying  Value Maturing in** | ** ** |
|--------------------------------------|------------|---------------------------------|------------|
| ** **                           | ** ** | ** **                      | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | **More  Than 5** | ** ** | **More  Than** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                           | ** ** | **Less  than 1 Year**           | ** ** | **1 to 5  Years** | ** ** | **to 10  Years** | ** ** | **10 years** | ** ** | **Total** | ** ** |
| ** **                           | ** ** | **Amount**                      | ** ** | **Yield** | ** ** | **Amount** | ** ** | **Yield** | ** ** | **Amount** | ** ** | **Yield** | ** ** | **Amount** | ** ** | **Yield** | ** ** | **Amount** | ** ** | **Yield** | ** ** |
| ** **                           | ** ** | **(Dollars  in thousands)**     | ** ** |
| Available for  Sale Securities       |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
|                                 |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| US Government  Agencies              |       | $                               | 5,918      |   | 2.64 | % | $ | 5,359 |   | 2.59 | % | $ | 4,723 |   | 4.83 | % | $ | — |   |   |   | $ | 16,000 |   | 3.40 | % |
| Mortgage-backed Securities           |       | 42                              |       | 5.46 | % | 30 |   | 6.38 | % | $ | 4 |   | 5.34 | % | $ | 1,946 |   | 5.27 | % | 2,022 |   | 5.29 | % |
| State &  Political subdivisions  |       | —                          |       |   |   | 484 |   | 2.57 | % | — |   | — |   | — |   | — |   | 484 |   | 2.57 | % |
| Corporate Bonds                      |       | —                          |       | — |   | 68 |   | 6.78 | % | 23 |   | 7.67 | % | 915 |   | 5.50 | % | 1,006 |   | 5.64 | % |
| Total Available  for Sale Securities |       | $                               | 5,960      |   |   |   | $ | 5,941 |   |   |   | $ | 4,750 |   |   |   | $ | 2,861 |   |   |   | $ | 19,512 |   | 3.69 | % |
|                                 |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Held to Maturity  Securities         |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
|                                 |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| US Government  Agencies              |       | $                               | 2,993      |   | 4.08 | % | $ | 13,773 |   | 3.76 | % | $ | 3,000 |   | 5.94 | % | $ | 974 |   | 5.73 | % | $ | 20,740 |   | 4.22 | % |
| Mortgage-backed  Securities          |       | —                          |       | — |   | 3,205 |   | 3.38 | % | 14,870 |   | 3.68 | % | 22,798 |   | 4.19 | % | 40,873 |   | 3.94 | % |
| State &  Political subdivisions  |       | —                          |       | — |   | — |   | — |   | 1,412 |   | 4.21 | % | — |   | — |   | 1,412 |   | 4.21 | % |
| Corporate Bonds                      |       | 499                             |       | 6.34 | % | 785 |   | 6.51 | % | — |   | — |   | — |   | — |   | 1,284 |   | 6.44 | % |
| Total Held to  Maturity Securities   |       | $                               | 3,492      |   |   |   | $ | 17,763 |   |   |   | $ | 19,282 |   |   |   | $ | 23,772 |   |   |   | $ | 64,309 |   | 4.08 | % |
|                                 |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Total Investment  Securities         |       | $                               | 9,452      |   |   |   | $ | 23,704 |   |   |   | $ | 24,032 |   |   |   | $ | 26,633 |   |   |   | $ | 83,821 |   | 3.99 | % |

 

Appendix 5

----

 

**Appendix 6- Composition of Loan Portfolio**

The following table sets forth thecomposition of our loan portfolio at the dates indicated.

 
| ** **                         | ** ** | **As of**                  | ** ** | **As of**        | ** ** | **As of**        | ** ** |
|------------------------------------|------------|----------------------------|------------|------------------|------------|------------------|------------|
| ** **                         | ** ** | **December 31,**           | ** ** | **December 31,** | ** ** | **December 31,** | ** ** |
| ** **                         | ** ** | **2005**                   | ** ** | **2004**         | ** ** | **2003**         | ** ** |
| ** **                         | ** ** | ** **                 | ** ** | **% of**         | ** ** | ** **       | ** ** | **% of** | ** ** | ** ** | ** ** | **% of** | ** ** |
| ** **                         | ** ** | **Amount**                 | ** ** | **Loans**        | ** ** | **Amount**       | ** ** | **Loans** | ** ** | **Amount** | ** ** | **Loans** | ** ** |
| ** **                         | ** ** | **(Dollars in thousands)** | ** ** |
|                               |       |                       |       |             |       |             |       |   |   |   |   |   |   |
| Commercial and  Industrial         |       | $                          | 15,901     |             | 6.49       | %                | $          | 14,732 |   | 9.17 | % | $ | 12,517 |   | 15.14 | % |
| Real Estate:                       |       |                       |       |             |       |             |       |   |   |   |   |   |   |
| Commercial                         |       | 97,458                     |       | 39.75            | %          | 69,228           |       | 43.08 | % | 26,531 |   | 32.09 | % |
| Residential                        |       | 15,542                     |       | 6.34             | %          | 9,877            |       | 6.15 | % | 6,659 |   | 8.05 | % |
| Construction and  Land Development |       | 78,417                     |       | 31.98            | %          | 33,407           |       | 20.79 | % | 19,241 |   | 23.27 | % |
| Total Real  Estate                 |       | 191,417                    |       | 78.07            | %          | 112,512          |       | 70.01 | % | 52,431 |   | 63.42 | % |
|                               |       |                       |       |             |       |             |       |   |   |   |   |   |   |
| SBA / USDA Loans                   |       | 17,990                     |       | 7.34             | %          | 21,831           |       | 13.58 | % | 11,578 |   | 14.00 | % |
| Consumer loans                     |       | 19,877                     |       | 8.11             | %          | 11,633           |       | 7.24 | % | 6,145 |   | 7.43 | % |
| Gross Loans                        |       | 245,185                    |       | 100.00           | %          | 160,708          |       | 100.00 | % | 82,671 |   | 100.00 | % |
|                               |       |                       |       |             |       |             |       |   |   |   |   |   |   |
| Less:                              |       |                       |       |             |       |             |       |   |   |   |   |   |   |
| Allowance for  Loan Losses         |       | 2,655                      |       |             |       | 1,586            |       |   |   | 822 |   |   |   |
| Net Unearned  Loan Fees/Costs      |       | 356                        |       |             |       | 597              |       |   |   | 224 |   |   |   |
| Net Loans                          |       | $                          | 242,174    |             |       |             | $          | 158,525 |   |   |   | $ | 81,625 |   |   |   |

 

Appendix 6

----

 

**Appendix 7- Scheduled Contractual Maturities of theLoan Portfolio**

The following table sets forth the scheduledcontractual amortization of our loan portfolio at December 31, 2005

as well as the amount of loans which are scheduled tomature after one year which have fixed or adjustable interest rates.

 
| ** **                                          | ** ** | **Commercial(1)** | ** ** | **Real Estate** | ** ** | **Consumer** | ** ** | **Total** | ** ** |
|-----------------------------------------------------|------------|-------------------|------------|-----------------|------------|--------------|------------|-----------|------------|
|                                                |       |              |       |            |       |         |       |      |       |
| Amounts due:                                        |       |              |       |            |       |         |       |      |       |
| Within one year                                     |       | $                 | 5,709      |            | $          | 68,128       |       | $         | 16,970     |   | $ | 90,807 |   |
| After one year  through five years                  |       | 7,275             |       | 26,406          |       | 2,907        |       | 36,588    |       |
| Beyond five  years                                  |       | 20,907            |       | 96,883          |       | —       |       | 117,790   |       |
|                                                |       |              |       |            |       |         |       |      |       |
| Total                                               |       | $                 | 33,891     |            | $          | 191,417      |       | $         | 19,877     |   | $ | 245,185 |   |
|                                                |       |              |       |            |       |         |       |      |       |
| Interest Rate  Terms on amounts due after one year: |       |              |       |            |       |         |       |      |       |
|                                                |       |              |       |            |       |         |       |      |       |
| Fixed                                               |       | $                 | 14,994     |            | $          | 9,542        |       | $         | 227        |   | $ | 24,763 |   |
| Adjustable                                          |       | $                 | 13,188     |            | $          | 113,747      |       | $         | 2,680      |   | $ | 129,615 |   |

 

----

(1) Commercial includes SBA/USDA purchased loans.

 

Appendix 7

----

 

**Appendix 8 - Table of Activity in theAllowance for Loan Losses**

The following table sets forth information concerning the activity inour allowance for loan losses during the periods indicated.

 
| ** **                                                          | ** ** | **Year Ended December 31,** | ** ** |
|---------------------------------------------------------------------|------------|-----------------------------|------------|
| ** **                                                          | ** ** | **2005**                    | ** ** | **2004** | ** ** | **2003** | ** ** |
| ** **                                                          | ** ** | **(Dollars in thousands)**  | ** ** |
|                                                                |       |                        |       |   |   |   |   |
| **Allowance  at the beginning of the period**                       |       | $                           | 1,586      |   | $ | 822 |   | $ | 220 |   |
|                                                                |       |                        |       |   |   |   |   |
| **Charge-offs:**                                                    |       |                        |       |   |   |   |   |
| Agricultural                                                        |       | —                      |       | — |   | — |   |
| Commercial &  industrial loans                                  |       | —                      |       | — |   | — |   |
| USDA/SBA                                                            |       | —                      |       | — |   | — |   |
| Real estate  loans                                                  |       | —                      |       | — |   | — |   |
| Consumer loans                                                      |       | —                      |       | — |   | — |   |
| Total Loans  Charged-Off                                            |       | —                      |       | — |   | — |   |
|                                                                |       |                        |       |   |   |   |   |
| **Recoveries:**                                                     |       |                        |       |   |   |   |   |
| Agricultural                                                        |       | —                      |       | — |   | — |   |
| Commercial &  industrial loans                                  |       | —                      |       | — |   | — |   |
| USDA/SBA                                                            |       | —                      |       | — |   | — |   |
| Real estate  loans                                                  |       | —                      |       | — |   | — |   |
| Consumer loans                                                      |       | —                      |       | — |   | — |   |
| Total Loans  Recovered                                              |       | —                      |       | — |   | — |   |
|                                                                |       |                        |       |   |   |   |   |
| Net loan charge  offs                                               |       | —                      |       | — |   | — |   |
|                                                                |       |                        |       |   |   |   |   |
| Provision  charged to expense                                       |       | 1,069                       |       | 764 |   | 602 |   |
|                                                                |       |                        |       |   |   |   |   |
| Balance                                                             |       | $                           | 2,655      |   | $ | 1,586 |   | $ | 822 |   |
|                                                                |       |                        |       |   |   |   |   |
| Average gross  loans outstanding during period                      |       | $                           | 201,267    |   | $ | 122,454 |   | $ | 50,214 |   |
| Gross loans  outstanding at end of period                           |       | $                           | 245,185    |   | $ | 160,708 |   | 82,671 |   |
|                                                                |       |                        |       |   |   |   |   |
| **RATIOS**                                                          |       |                        |       |   |   |   |   |
| Net Charge-offs  to Average Loans (annualized)                      |       | n/a                         |       | n/a |   | n/a |   |
| Allowance for  Loan Losses to Gross Loans at End of Period          |       | 1.08                        | %          | 0.99 | % | 0.99 | % |
| Net Loan  Charge-offs to Allowance for Loan Losses at End of Period |       | n/a                         |       | n/a |   | n/a |   |
| Net Loan  Charge-offs to Provision for Loan Losses                  |       | n/a                         |       | n/a |   | n/a |   |

 

Appendix 8

----

 

**Appendix 9 - Allocation of the Allowance for LoanLosses**

Thefollowing table sets forth information concerning the allocation of ourallowance for loan losses by loan categories at the dates indicated. Theallowance for loan losses is available for offsetting credit losses in connectionwith any loan, but is internally allocated to various loan categories as partof our process for evaluating the adequacy of the allowance for loan losses.

 
| ** **                         | ** ** | **As of December 31,**     | ** ** | **As of December 31,** | ** ** | **As of December 31,** | ** ** |
|------------------------------------|------------|----------------------------|------------|------------------------|------------|------------------------|------------|
| ** **                         | ** ** | **2005**                   | ** ** | **2004**               | ** ** | **2003**               | ** ** |
| ** **                         | ** ** | ** **                 | ** ** | **% Total**            | ** ** | ** **             | ** ** | **% Total** | ** ** | ** ** | ** ** | **% Total** | ** ** |
| ** **                         | ** ** | **Amount**                 | ** ** | **Loans(1)**           | ** ** | **Amount**             | ** ** | **Loans(1)** | ** ** | **Amount** | ** ** | **Loans(1)** | ** ** |
| ** **                         | ** ** | **(Dollars in thousands)** | ** ** |
|                               |       |                       |       |                   |       |                   |       |   |   |   |   |   |   |
| Commercial and  Industrial         |       | $                          | 510        |                   | 6.49       | %                      | $          | 266 |   | 9.17 | % | $ | 146 |   | 15.14 | % |
| Real Estate:                       |       |                       |       |                   |       |                   |       |   |   |   |   |   |   |
|  Commercial                   |       | 955                        |       | 39.75                  | %          | 654                    |       | 43.08 | % | 301 |   | 32.09 | % |
|  Residential                  |       | 115                        |       | 6.34                   | %          | 74                     |       | 6.15 | % | 42 |   | 8.05 | % |
| Construction and  Land Development |       | 1,024                      |       | 31.98                  | %          | 391                    |       | 20.79 | % | 222 |   | 23.27 | % |
| Total Real  Estate                 |       | 2,094                      |       | 78.07                  | %          | 1,119                  |       | 70.01 | % | 565 |   | 63.42 | % |
|                               |       |                       |       |                   |       |                   |       |   |   |   |   |   |   |
| SBA / USDA/ Govt  Gtd Loans        |       | 17                         |       | 7.34                   | %          | 6                      |       | 13.58 | % | 8 |   | 14.00 | % |
| Consumer loans                     |       | 28                         |       | 8.11                   | %          | 191                    |       | 7.24 | % | 103 |   | 7.43 | % |
| Unallocated                        |       | 6                          |       | 0.00                   | %          | 4                      |       | 0.00 | % | — |   | 0.00 | % |
|                               |       | $                          | 2,655      |                   | 100.00     | %                      | $          | 1,586 |   | 100.00 | % | $ | 822 |   | 100.00 | % |

 

----

(1) Represents percentage of loans incategory to total loans.

 

Appendix 9

----

 

**Appendix 10- Premises and Equipment**

The followoing table sets forth the cost and net book value of ourfixed assets as of the dates indicated.

 
| ** **                         | ** ** | **As of December 31,** | ** ** |
|------------------------------------|------------|------------------------|------------|
| ** **                         | ** ** | **2005**               | ** ** | **2004** | ** ** |
| ** **                         | ** ** | ** **             | ** ** | **Accumulated** | ** ** | **Net Book** | ** ** | ** ** | ** ** | **Accumulated** | ** ** | **Net Book** | ** ** |
| ** **                         | ** ** | **Cost**               | ** ** | **Depreciation** | ** ** | **Value** | ** ** | **Cost** | ** ** | **Depreciation** | ** ** | **Value** | ** ** |
|                               |       |                   |       |   |   |   |   |   |   |   |   |   |   |
| Leasehold  Improvements            |       | $                      | 1,620      |   | $ | 344 |   | $ | 1,276 |   | $ | 1,648 |   | $ | 196 |   | $ | 1,452 |   |
| Furniture,  Fixtures and Equipment |       | 2,750                  |       | 1,163 |   | 1,587 |   | 2,361 |   | 790 |   | 1,571 |   |
| Construction in  Progress          |       | 0                      |       | 0 |   | 0 |   | 0 |   | 0 |   | 0 |   |
|                               |       |                   |       |   |   |   |   |   |   |   |   |   |   |
| **Total**                          |       | $                      | 4,370      |   | $ | 1,507 |   | $ | 2,863 |   | $ | 4,009 |   | $ | 986 |   | $ | 3,023 |   |

 

Appendix 10

----

 

**Appendix 11- Maturity Schedule of Time Certificates of Deposit**

At December 31, 2005, the scheduled maturities of time depositsincluding IRA’s (in thousands) are as follows:

 
| ** **           | ** ** | **Under** | ** ** | **Over** | ** ** | ** ** | ** ** |
|----------------------|------------|-----------|------------|----------|------------|------------|------------|
| ** **           | ** ** | **100K**  | ** ** | **100K** | ** ** | **Total**  | ** ** |
| During the Year  of: |       |      |       |     |       |       |       |
| 2006                 |       | $         | 10,562     |     | $          | 36,844     |       | $ | 47,406 |   |
| 2007                 |       | 1,473     |       | 1,953    |       | 3,426      |       |
| 2008                 |       | 33,231    |       | 873      |       | 34,104     |       |
| 2009                 |       | 9,593     |       | 100      |       | 9,693      |       |
| 2010                 |       | 35        |       | —   |       | 35         |       |
| **Total**            |       | $         | 54,894     |     | $          | 39,770     |       | $ | 94,664 |   |

 

Appendix 11

----

 

**Appendix 12 - Other Borrowed Funds**

The following table sets forth the FHLB advances and other borrowing

 
| ** **                                   | ** ** | **As of December 31,**     | ** ** |
|----------------------------------------------|------------|----------------------------|------------|
| ** **                                   | ** ** | **2005**                   | ** ** | **2004** | ** ** | **2003** | ** ** |
| ** **                                   | ** ** | **(dollars in thousands)** | ** ** |
|                                         |       |                       |       |   |   |   |   |
| **Overnight  FHLB Advances**                 |       |                       |       |   |   |   |   |
|                                         |       |                       |       |   |   |   |   |
| Balance at  December 31,                     |       | $                          | 0          |   | $ | 30,500 |   | $ | 3,000 |   |
| Average amount  outstanding                  |       | 15,747                     |       | 9,403 |   | 581 |   |
| Maximum amount  outstanding at any month end |       | 35,000                     |       | 30,500 |   | 4,000 |   |
| Average interest  rate for the year          |       | 3.11                       | %          | 2.19 | % | 1.09 | % |
|                                         |       |                       |       |   |   |   |   |
| **Other  Borrowing**                         |       |                       |       |   |   |   |   |
|                                         |       |                       |       |   |   |   |   |
| Balance at  December 31,                     |       | $                          | 15,464     |   | $ | 0 |   | $ | 3,125 |   |
| Average amount  outstanding                  |       | 2,457                      |       | 0 |   | 617 |   |
| Maximum amount  outstanding at any month end |       | 15,464                     |       | 0 |   | 3,125 |   |
| Average interest  rate for the year          |       | 5.79                       | %          | 0 |   | 6.25 | % |

 

Appendix 12

----

 

**Appendix 13 - Estimated Net Interest Income SensitivityProfile**

Thefollowing table sets forth the estimated effects on the Bank’s net interestincome over a 12 month period following December 31, 2005 in the event of animmediate change up or down in the indicated market interest rates.

 
| ** **                 | ** ** | **Change in**    | ** ** | ** **     | ** ** |
|----------------------------|------------|------------------|------------|----------------|------------|
| ** **                 | ** ** | **Net Interest** | ** ** | **Percentage** | ** ** |
| **(Dollars in thousands)** | ** ** | **Income**       | ** ** | **Change**     | ** ** |
| Scenario                   |       |             |       |           |       |
|                       |       |             |       |           |       |
| Up 200 basis  points       |       | $                | 1,402      |           | 10.89      | % |
| Up 100 basis  points       |       | $                | 728        |           | 5.65       | % |
| Down 100 basis  points     |       | $                | (955       | )              | (7.42      | )% |
| Down 200 basis  points     |       | $                | (2,428     | )              | (18.86     | )% |

 

Appendix 13

----

 

**Appendix 14- Interest Rate Sensitivity Gap**

The following table sets forth the Company’s interest rate sensitivity.Interest rate sensitivity is measured as the difference between the volumes ofassets and liabilities subject to repricing at various time periods.

 
| ** **                                                               | ** ** | **Within** | ** ** | **Three**     | ** ** | **One Year**   | ** ** | ** **     | ** ** | ** ** | ** ** |
|--------------------------------------------------------------------------|------------|------------|------------|---------------|------------|----------------|------------|----------------|------------|------------|------------|
| ** **                                                               | ** ** | **Three**  | ** ** | **Months to** | ** ** | **to**         | ** ** | **After**      | ** ** | ** ** | ** ** |
| ** **                                                               | ** ** | **Months** | ** ** | **One Year**  | ** ** | **Five Years** | ** ** | **Five Years** | ** ** | **Total**  | ** ** |
|                                                                     |       |       |       |          |       |           |       |           |       |       |       |
| **Interest  Earning Assets:**                                            |       |       |       |          |       |           |       |           |       |       |       |
| Federal funds  sold                                                      |       | $          | 27,791     |          | $          | —         |       | $              | —     |       | $          | — |   | $ | 27,791 |   |
| Investment  securities                                                   |       | 2,250      |       | 7,202         |       | 23,704         |       | 50,665         |       | 83,821     |       |
| Loans                                                                    |       | 128,919    |       | 2,548         |       | 16,516         |       | 97,202         |       | 245,185    |       |
|                                                                     |       |       |       |          |       |           |       |           |       |       |       |
| **Total**                                                                |       | $          | 158,960    |          | $          | 9,750          |       | $              | 40,220     |       | $          | 147,867 |   | $ | 356,797 |   |
|                                                                     |       |       |       |          |       |           |       |           |       |       |       |
| **Interest  Bearing Liabilities:**                                       |       |       |       |          |       |           |       |           |       |       |       |
| Interest bearing  demand deposits                                        |       | $          | 7,825      |          | $          | —         |       | $              | —     |       | $          | — |   | $ | 7,825 |   |
| Savings deposits                                                         |       | 2,382      |       | 0             |       | 0              |       | 0              |       | 2,382      |       |
| MMDA’s                                                              |       | 183,917    |       | 0             |       | 0              |       | 0              |       | 183,917    |       |
| Time deposits  less than $100,000                                        |       | 3,535      |       | 7,026         |       | 44,333         |       | 0              |       | 54,894     |       |
| Time deposits of  $100,000 or more                                       |       | 18,679     |       | 18,164        |       | 2,926          |       | 0              |       | 39,769     |       |
| Borrowed funds                                                           |       | 0          |       | 0             |       | 0              |       | 15,464         |       | 15,464     |       |
|                                                                     |       |       |       |          |       |           |       |           |       |       |       |
| **Total**                                                                |       | $          | 216,338    |          | $          | 25,190         |       | $              | 47,259     |       | $          | 15,464 |   | $ | 304,251 |   |
|                                                                     |       |       |       |          |       |           |       |           |       |       |       |
| Interest Rate  Sensitivity Gap                                           |       | $          | (57,378    | )             | $          | (15,440        | )          | $              | (7,039     | )          | $          | 132,403 |   | $ | 52,546 |   |
|                                                                     |       |       |       |          |       |           |       |           |       |       |       |
| Cumulative  Interest Rate Sensitivity Gap                                |       | $          | (57,378    | )             | $          | (72,818        | )          | $              | (79,857    | )          | $          | 52,546 |   |   |   |
|                                                                     |       |       |       |          |       |           |       |           |       |       |       |
| Cumulative  Interest Rate Sensitivity  Gap/Total Interest Earning Assets |       | (15.56     | )%         | (19.75        | )%         | (21.66         | )%         | 14.25          | %          |       |       |
|                                                                     |       |       |       |          |       |           |       |           |       |       |       |
| Cumulative Gap as  a % of Total Assets                                   |       | (14.92     | )%         | (18.93        | )%         | (20.76         | )%         | 13.66          | %          |       |       |

 

Appendix 14

----

 

**Appendix 15- Capital Adequacy - Risk-based Ratios**

 
| ** **                              | ** ** | ** ** | ** ** | ** **      | ** ** | ** **            | ** ** | ** **                  | ** ** | **Minimum to** | ** ** |
|-----------------------------------------|------------|------------|------------|-----------------|------------|-----------------------|------------|-----------------------------|------------|----------------|------------|
| ** **                              | ** ** | ** ** | ** ** | ** **      | ** ** | **Minimum**           | ** ** | **be Well Capitalized**     | ** ** |
| ** **                              | ** ** | ** ** | ** ** | ** **      | ** ** | **Capital**           | ** ** | **Under Prompt Corrective** | ** ** |
| ** **                              | ** ** | **Actual** | ** ** | **Requirement** | ** ** | **Action Provisions** | ** ** |
| **(Dollars in thousands)**              | ** ** | **Amount** | ** ** | **Ratio**       | ** ** | **Amount**            | ** ** | **Ratio**                   | ** ** | **Amount**     | ** ** | **Ratio** | ** ** |
|                                    |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| **December  31, 2005**                  |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| Total Capital to  Risk Weighted Assets  |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| The Bank  Holdings                      |       | $          | 46,183     |            | 16.53      | %                     | $          | 22,345                      |       | 8.00           | %          | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 32,883     |            | 12.51      | %                     | $          | 21,026                      |       | 8.00           | %          | $ | 26,282 |   | 10.00 | % |
|                                    |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| Tier 1 Capital  to Risk Weighted Assets |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| The Bank  Holdings                      |       | $          | 37,557     |            | 13.45      | %                     | $          | 11,172                      |       | 4.00           | %          | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 30,003     |            | 11.42      | %                     | $          | 10,513                      |       | 4.00           | %          | 15,769 |   | 6.00 | % |
|                                    |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| Tier 1 Capital  to Average Assets       |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| The Bank  Holdings                      |       | $          | 37,557     |            | 10.06      | %                     | $          | 14,929                      |       | 4.00           | %          | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 30,003     |            | 8.96       | %                     | $          | 13,400                      |       | 4.00           | %          | $ | 16,750 |   | 5.00 | % |
|                                    |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| **December  31, 2004**                  |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| Total Capital to  Risk Weighted Assets  |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| The Bank  Holdings                      |       | $          | 28,978     |            | 17.26      | %                     | $          | 13,434                      |       | 8.00           | %          | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 25,940     |            | 15.60      | %                     | $          | 13,303                      |       | 8.00           | %          | $ | 16,629 |   | 10.00 | % |
|                                    |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| Tier 1 Capital  to Risk Weighted Assets |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| The Bank  Holdings                      |       | $          | 27,321     |            | 16.22      | %                     | $          | 6,717                       |       | 4.00           | %          | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 24,193     |            | 14.55      | %                     | $          | 6,652                       |       | 4.00           | %          | 9,978 |   | 6.00 | % |
|                                    |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| Tier 1 Capital  to Average Assets       |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| The Bank  Holdings                      |       | $          | 27,321     |            | 11.01      | %                     | $          | 9,893                       |       | 4.00           | %          | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 24,193     |            | 9.91       | %                     | $          | 9,768                       |       | 4.00           | %          | $ | 12,211 |   | 5.00 | % |
|                                    |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| **December  31, 2003**                  |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| Total Capital to  Risk Weighted Assets  |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| The Bank  Holdings                      |       | $          | 12,011     |            | 11.84      | %                     | $          | 8,118                       |       | 8.00           | %          | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 14,853     |            | 14.64      | %                     | $          | 8,118                       |       | 8.00           | %          | $ | 10,148 |   | 10.00 | % |
|                                    |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| Tier 1 Capital  to Risk Weighted Assets |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| The Bank  Holdings                      |       | $          | 11,114     |            | 10.94      | %                     | $          | 4,059                       |       | 4.00           | %          | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 13,956     |            | 13.75      | %                     | $          | 4,059                       |       | 4.00           | %          | 6,089 |   | 6.00 | % |
|                                    |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| Tier 1 Capital  to Average Assets       |       |       |       |            |       |                  |       |                        |       |           |       |   |   |
| The Bank  Holdings                      |       | $          | 11,114     |            | 7.06       | %                     | $          | 6,297                       |       | 4.00           | %          | NA |   | NA |   |
| Nevada Security  Bank                   |       | $          | 13,956     |            | 8.87       | %                     | $          | 6,297                       |       | 4.00           | %          | $ | 7,871 |   | 5.00 | % |

 

Appendix 15

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